In dealing with a worsening economy, central banks usually lower interest rates as a means to stimulate spending. The problem with this method is that rates can eventually be driven to below zero, meaning that customers will be charged for keeping their money in a bank account.
So, what’s the solution?
According to Citi’s Willem Buiter, it’s abolishing cash. While it may seem like a radical proposal, Buiter’s seems to be based on a pretty straightforward rationale. Namely, and as he writes in his new piece, the problem with negative interest simply comes down to the existence of cash. In other words, no cash means no problem.
Cash, as hard currency, has a zero interest rate. Having cash in hand is more valuable than depositing it in a bank account with a negative interest rate and being charged for it. Since cash allows people to avoid banks, eliminating it would clear the way for negative rates.
As such, Buiter makes three recommendations:
"1. Abolish currency
2. Tax currency
3. Remove the fixed exchange rate between currency and central bank reserves/deposits."
Buiter isn’t the first to propose the elimination of hard currency. Last year, Harvard Economics professor Ken Rogoff wrote an article in which he argued that the time had come for phasing out paper currency. In a similar vein, Rogoff notes that abolishing cash will solve the interest rate issue for banks.
"It is precisely the existence of paper currency that makes it difficult for central banks to take policy interest rates much below a zero," he wrote, "A limitation that seems to have become increasingly relevant during this century."
Another key problem with paper currency, according to him, is the anonymity it allows, and the potential illegal activity it may lead to.
"Paper currency facilitates making transactions anonymous, helping conceal activities from the government in a way that might help agents avoid laws, regulations and taxes," he noted, "This is a big difference from most forms of electronic money that, in principle, can be traced by the government."
In his piece, Buiter also addresses anonymity, conceding that the elimination of cash may be problematic as it would be associated with "a loss of privacy." He lists a number of other arguments against his proposal, including the challenges it will present to people with lower income, and security and operational risks.
Buiter, however, simply addresses these problems by making the following statement. "In summary, we therefore conclude that the arguments against abolishing currency seem rather weak."