Thanks this website
Thanks this website

Last night, I went grocery shopping – which is one of my favourite things about living in a modern city. Having grown up in a temporal backwater, it still gives me a thrill to be able to go in search of raspberries and low fat yogurt long after the traditional closing time of 4:30pm. As an aside, it gives me even greater pleasure to trip down to the 24 hour Woolworths after midnight on a Saturday in search of a Coke Zero – but I’m edging on distraction.

Immediately after the shopping, I encountered one of my least favourite things about living in a modern city – the scramble for loose change because of no free parking. And I had none. So I went to an ATM – which charged me R16.50 for the privilege of withdrawing a R50 note from a Not-My-Bank machine in order to pay my R2 parking fee.

And as it turns out, the parking meter doesn’t take payment in fifties.

So I had to beg and plead with a parking attendant to let me out without paying anyway.

That situation made me think that it was time to finish a post that has been sitting as an idea for some time.

Kenneth Rogoff (of much Excel-spreadsheet-awkwardness fame) has recently released a new paper (without any spreadsheets) about the costs and benefits of phasing out paper currency. And it’s entirely readable.

Here’s the basic summary:

  1. We should phase out paper currency.
  2. Because this will allow Central Banks to break through the Zero Interest Bound.
  3. But also because this would stop all the illicit activities that take place in cash (tsk tsk).
  4. On the other hand, seigniorage.
  5. And infringement on civil liberties.
  6. And also, people are irrational – who knows what could happen if you take away physical notes?

Some Background

There are two main types of macroeconomic policy:

  1. Fiscal Policy; and
  2. Monetary Policy

Each of those is basically a grouped description of the activities of one of two major economic agents:

  1. The Government (fiscal policy); and
  2. The Central Bank (monetary policy).

Fiscal policy is all about government spending and government financing (tax collection and government borrowing).

Monetary policy is all about credit and money creation, through the tools of interest rates, printing presses and foreign currency reserves.

Since 2008, we’ve had a lot of hamstrung governments – making fiscal policy redundant at best. So Central Banks have been left to fill in the role of economic stabiliser and stimulator (thank God for independent central banks that don’t need too much congressional/parliamentary permission?). And they’ve performed that role through:

  1. Firstly, lowering interest rates as much as possible; and
  2. Where they’ve encountered the Zero Interest Bound, they’ve engaged in unusual activities like Quantitative Easing.

And here’s a picture of the Zero Interest Bound:

Thanks the Economist
Thanks the Economist

What is the Zero Interest Bound?

Well – on the face of it, it’s obviously the fact that no Central Bank wants to make interest rates negative (except for the ECB – which seems to have dared in that direction).


Because Central Banks stand willing to allow you to hold your wealth in physical cash. To quote Mr Rogoff:

As long as Central Banks stand ready to convert electronic deposits to zero-interest paper currency in unlimited amounts, it suddenly becomes very hard to push interest rates below levels of, say, -0.25 to -0.50 percent, certainly not on a sustained basis. Hoarding cash may be inconvenient and risky, but if rates become too negative, it becomes worth it.

So the argument is: if you take away that zero-interest paper money convertibility, then that zero-interest bound falls away (because there is no longer a feasible zero-interest alternative, as it were). Or:

If all Central Bank liabilities were electronic, paying negative interest on reserves (basically charging a fee) would be trivial.

You see, because this zero interest convertibility option exists, Central Banks have to work around it. And here is their work-around:

  1. Hmmmm.
  2. We want to discourage people from saving, because we need them to spend in order to get ourselves out of this doldrum.
  3. Ideally, we’d like to charge them a penalty for not spending money.
  4. But if we do that, we’ll have bank runs on our hands as they convert their money to cash, which we can’t tax directly.
  5. So what we need to do is debase the money in their hands.
  6. We’ll charge them an effective fee (let’s call it “inflation”) by pumping more money into the economy, which will drive up the price of goods, which will cause people to spend their savings in order to avoid it being eroded by this inflationary force that we’ve created.
  7. But we have to be careful that we don’t overdo it.
  8. Because then: Venezuela. And Zimbabwe. Etc.

Unfortunately, we’re looking at two alternatives here:

  1. A direct tax on holding bank balances (the negative interest rate on electronic deposits); or
  2. An indirect tax on holding bank balances (inflation driven by money creation).

At least direct taxes have the advantage of being a little more controllable?


Consider the outcome of a world where your bank account is directly taxed.

What would you do with it?

You would probably seek to avoid that tax by locking your wealth up in investments as soon as possible. And/or buying up consumables as soon as possible.

And for liquidity, you’d borrow money.

In fact: I reckon that you’d pretty much see many of the things that happen in hyperinflationary economies, where economic activity gets driven underground. Alternative currencies (foreign currency, petrol coupons, possibly gold) would spring up. And the whole thing could irrationally devolve.

Perhaps this is biased: as the only cash-less scenarios that the world has really witnessed have taken place within the context of hyperinflation, where printing presses have been unable to keep pace, thereby driving the denominations of the physical notes into redundancy.

And as for the illicit activities story, I doubt that’s something you can reduce by taking away the paper money… There’s lots of anonymous value out there: gold, diamonds, mineral rights, drug stockpiles, alternative foreign currencies, art, vintage wine, bitcoin at a push.

To me, it seems that doing away with cash will be a lot of admin (and risk) for not very much benefit.

But perhaps that’s just me.

Rolling Alpha posts opinions on finance, economics, and the corporate life in general. Follow me on Twitter @RollingAlpha, and on Facebook at