Three Longs & Three Shorts

FinTech, BigTech and Cryptos – will new technology render banks obsolete?

Two weeks ago, we featured a piece on crypto by Ben Hunt somewhat misleadingly titled “In Praise of Bitcoin”where he actually raises significant regulatory risks for Bitcoin and the likes. Whilst the piece pointed to specific recent changes in regulation, it did carry a lot of rhetoric. This time we feature a perspective from a regulator, Ida Wolden Bache, the Deputy Governor of Norges Bank, Norway’s central bank. In this speech, translated from Norwegian and transcripted for the benefit of all of us, Bache stays clear of rhetoric and indeed presents a balanced view recognising the technological changes in financial services and yet argues why cryptos or DeFi (Decentralised Finance) are unlikely to make the existing banking system obsolete. For some of us who don’t quite understand what these changes are and how exactly do they affect the status quo, Bache provides a primer of sorts of the role of banks in the financial system and why encouraging competition and technology adoption is part of the regulator’s mandate in the first place. Whilst the whole speech is worth a read, here are some excerpts from the section on “Will cryptocurrencies give rise to a new financial system?”
“…a complete eradication of the Norwegian krone requires that the government also uses a different currency for paying salaries and benefits and accepts it as payment for taxes. In the long term, one should be careful to rule out anything completely, but as it stands today, this does not appear very likely.   
Yet we can imagine an intermediate solution where the government continues to use the krone, while the private sector prefers one or more cryptocurrencies. For this to take place on a large scale, an infrastructure is needed so that the money can be used at more locations than today.
With many competing currencies in circulation, we will lose the Norwegian krone as a common measurement unit for what goods and services cost. A simple question about how much a cup of coffee costs may have a complicated answer. Prices must be stated in several currencies, and customers and merchants must agree on which currency should be used in the transaction. Wide exchange rate fluctuations can make this particularly demanding.
Even with one cryptocurrency in the private sector, those with income in cryptocurrency who pay taxes in Norwegian kroner will incur an exchange rate risk. But if the new currency offers superior user-friendliness without excessive exchange rate fluctuations, such disadvantages may not carry sufficient weight.
In the near term, it is perhaps easier to envisage that new currencies may be attractive for certain types of transactions, for instance, cross-border payments. They could of course take market shares from existing payment solutions, but would not entail a fundamental transformation of the financial system.
What about credit and saving in a world where the private sector has abandoned the Norwegian krone? If bank money is replaced by a cryptocurrency whose quantity increases through “mining” and remains constant in the long run, no credit institution will be able create money by extending loans. Some consider this a guarantee against instability and crises. Yet, without banks to assume liquidity risk, credit may become more expensive. In order to raise a long-term loan, someone will have to be found who is willing to tie up their savings for just as long. A possible solution is the emergence of new institutions that take on the risk by making long-term loans and raising short-term funding in cryptocurrency. But they will be left standing without the backing of a central bank that can relieve some of the risk and intervene in a crisis.
Perhaps the attributes of today’s credit market can be imitated if a cryptocurrency functions as a means of settlement between credit institutions, as central bank reserves do today. In that case, the cryptocurrency will replace the central bank’s settlement system. On top of this system, banks or similar credit institutions can create money by lending, more or less as they do today. But it is uncertain how credit institutions will behave in a more decentralised system such as this one. It also raises new questions about where the responsibility for licensing and regulation should lie, especially if the system operates independently of national borders. This poses a risk of increased instability and more frequent crisis.”