In response to Financial Wonderland: Reader Questions on Negative Rates and Money Heaven, several readers asked “Why do banks park funds at the ECB for negative returns instead if simply keeping cash?”
That’s a question I meant to answer in the above Financial Wonderland link, but let’s answer it now.
The two applicable answers are insurance, and space. It would cost more money for insuring bank vault cash that it costs in negative interest.
The insurance reason presumes banks have vaults big enough to store all that cash in the first place.
Here’s a way to visualize amounts of $100 million, $1 billion, and a $trillion.
Images from Visualizations of the US Debt Ceiling.
One Hundred Million Dollars Visualized
$1 Billion Visualized
$1 Trillion Visualized
Given that the ECB still has €500 notes, a stack of euros would only take 20% of the space of a stack of the same number of dollars.
Still, it’s safe to assume that the pile of cash on deposit with the ECB would not fit in bank vaults.
If you want a bonus reason, should a bank demand delivery of cash, some auditor would demand a count of every bill.
Mike “Mish” Shedlock
But surely it is not physical paper notes? Bank money is just bits in a computer.
There aren’t lines of trucks delivering paper notes to the ECB.
But surely the banks don’t park physical notes at the ECB? Banks are just transferring bits in computers to the ECB computers. There aren’t lines of trucks queuing outside the ECB.
I Agree with you on the non feasibility of banks holding cash but wouldn’t all these “excess funds” be in the digital form and not in physical cash?
Central banks take wire transfers of reserve currencies. A net reduction in the supply of Euros in Europe would increase the value of the Euro. The Euro value increased 2% fifteen minutes after Draghi spoke.
Is, in this case, trucking all that money back and forth twice a day and without any objection from insurance better?
The best “stable” currency / bill denomination to reduce storage space would likely be the Singaporean Dollar as it comes in $10,000 SGD notes. At the current rate it would cut storage space by a factor greater than 72 versus the USD. That is better than the Swiss Franc which trades at parity with the USD but only comes in 1000 CHF bills.
This being said any US based bank storing a consequent amount of money in a currency other than the USD would need to hedge their FX bet and also consider the fact that unlike the Fed most central banks around the world retire their notes on a regular basis by changing their design. Once retired you generally have 10 years to turn your old bills and exchange them or you are left with a worthless stack of paper (I know both Singapore and Europe do this, I am not sure about the Swiss policy on that matter). While swapping millions of bills would not be a problem for the banks (versus showing up with a $100K Euros in cash an getting arrested on the spot in Europe), it would still be a major inconvenience and an added cost.
Assuming negative interest rates were to go low enough to offset all the associated currency storage costs (in USD or otherwise) one has to wonder if there is enough paper money in circulation to allow most banks to convert their electronic deposits to cash or if the central banks have the physical capability to print such amounts in a reasonable amount of time. I suspect the likely answer to both questions is “no”.
PS: I have researched that “wealth” storage issue quite a bit (from an individual standpoint) and the best I could come up is $100 USD bills and physical 1oz gold coins. Anybody who has better ideas is welcome to let me know what they think.
There are already German banks putting cash into vaults instead of parking it at the ECB.
That’s why the discussion about banning cash is gaining momentum. If deposits can’t flee into cash the central banks can implements massively negative rates, like -5% or -10%.
Uhhh? I thought most of the funds on the banks’ balance sheets is virtual money! In which case isn’t it simply a transfer onto the ECB’s balance sheet.
They cant go too negative without paying adjustable rate mortgagees interest on their loans.
chris m said:
good idea, Phil.
but why doesnt every country print its own super-denomination banknotes,
to save on storage space, like a one million dollar note.
Though a logical person would always rather keep large(r) sums
in the form of either gold coins, or, if they were a bank or other mega-player,
in the form of gold bars.
at least gold would always have the extra advantage of being non-perishable
(and that alone would merit serious consideration)
Some favor tangibles like land or precious metals or diamonds.
I tried to calculate this as below:
The size of $100 is 6.14 inches(L) x 2.61 inches(W) x 0.0043 inches (Th).
If you take volume as the measure than you can store $2.5billion in a 10ft(L) x 10ft(W) x 10ft(H) vault.
Here is how this is arrived at:
Vault volume (in inches): 120 x 120 x 120 = 1728000 cubic inches
Volume of a $100 bill: 6.14 x 2.61 x 0.0043 = 0.068909 cubic inches
Therefore number of $100 bills that can be fitted in the vault=25076470
Which means $2.5billion. So the space you need to store $2.5 billion is probably the size of a master bedroom or living room. Not much of a space for $2.5billion is it? Reduce it by 20%, it could still be $2billion.
As Mish says, if it is 500 Euro bills (and the dimensions are same), you can store 12.5 billion Euros.
Insurance is another matter but then if the premiums are enticing, Insurance companies may well follow. Also, banks might be doing some insurance anyway even now. This would be larger in scale.
Please correct me if I am wrong.
There are other reasons, like
1. liquidity (money flows more easily through computers than dispatching couriers with cash).
2. collateral (other parties would think it odd if you posted funds by visiting by wheel barrow)
3. rules (a lot of rules come into play when you try to deposit or withdraw large amounts of cash, fingering you as a money launderer or drug dealer)
4. regulations (regulators probably have a whole bunch of audit and control rules that you have to keep)
5. being a good citizen (there isn’t that much physical cash around: a shortage would soon appear if parties with large amounts of cash were to insist on physical currency)
Just install a chip into everybody’s wrist.
My calculations show only about 666 kb is all you need for storage on that chip to identify the consumer and enable buying and selling.
With Wifi the consumer can buy or sell anywhere in the world, automatically taxed, traced and identified. If the consumer has anti-social purchases, this can be noted immediately.
This would create a safe, peaceful, prosperous World.
Techie Guy said:
That’s a masterful troll, Centurion. Please end such comments with /sarcasm for heightened clarity.
Resistance is futile! You will be assimilated.
Hey, Centurion, what a great idea. Why hasn’t somebody thought of that before? Upon reflection, however, I realized that some people might not have a wrist or hand. Upon further reflection, what part of the body must everyone have and remain alive. The HEAD! Yes!!! How about putting the chip in their forehead, perhaps?
Gee, this solving the world’s problems is easy.
Umm just had to chime in, but Physical cash in Vaults? Like in the wild west days? Is not the vast majority of all currency digital? Does a 1 stored on a data base in Brussel’s really cost anything more than a 1 stored on a server in Frankfurt?
Other than a fraction of demand deposits what physical cash does any bank hold these days?
Simon Osborne said:
It is a shame that the central banks dont create proper electronic money. Having negative interest rates is a deterrent to holding money electronically. We dont need to have all the money in cash any more.
What CASH? Most money exists as digital credits and asset valuation, which is why CBs must reflate assets – to assist the rich stay rich and leverage their assets.
If a bank demanded the cash, it would take weeks for the CB to print the stuff. The central banks can’t even back the money with currency anymore!
Of course, as chrism said, they could print larger denominations. But that would put a lie to the reason for not printing large denominations in the first place – the idiotic war on drugs. The war on drugs was always the euphemistic name given to the war on property rights.
The funds parked at the ECB are digital. Why wouldn’t the banks store the funds not as cash, but also as digital credits?
Good question. Equally a drawing right of whatever denomination. I think you will find the answer is finely suspended over the recognition of cash by society as a means of trade and the fact that it is fungible to a large extent. That means if an issuing authority wishes to access cash held privately or on behalf of private in a bank, it will effectively cross the rubicon of confiscation of what the public (maybe erroneously) considers ‘theirs’. If an issuing authority were to wipe out a drawing right, or erase a digital guarantee held by a bank, somehow that would be more/less understood by the public. It bears some reflection that is based not just on facility to authority but also on where the position of the balance of authority is accepted to be by the public. There is a lot of psychology involved I think.
Yes, likely getting into the nitty gritty. So if HSBC has 10 trillion euros in reserves at the ECB, is it HSBC’s to use as it wish? And I guess the ECB wished it does use it, hence the negative rates. And by “use it”, I assume the ECB means “lend it out.” But if this money loses value by sitting at the ECB, could HSBC merely transfer the credits out of the ECB account, to their own, i.e., held at HSBC? Presumably HSBC could merely buy UST’s with the $10 trillion. Is the money held on the institution’s account at the ECB perfectly accessible by the institution? Are there allowed and not permitted uses of these digital credits?
Cocoa Blini (@cocoablini) said:
This account is partially redeemable in Linen Paper and fully backed by the United States Banking Consortium
One reason for leaving excess funds in the bank is that it is near impossible to re-enter the banking system once you have left it with a large amount of cash, and the cost of not being able to participate in the system (wire funds, make payments, buy and sell, invest as opportunities become available) is very high. What exactly are you going to do with your stacks of paper? Makes you realize how worthless they really are when they are no longer a medium of exchange.
I wouldn’t overly fixate on the ‘cash’ storage problem. On a hypothetical “trillion dollars”, 25bp in avoided negative rates buys a heck of a lot of physical storage (2.5B/year worth).
The bigger elephant in the room is with all that cash out there, what happens to it eventually? One spark, and there’s likely to be quite violent oscillation in the other direction, as is the case for an unstable system. You can go from deflation, to what essentially amounts to Weimar Germany very quickly.
1B USD in gold is jut a bit over a one meter cube. Insuring cash seems a lot riskier than insuring gold. A fire would destroy all cash but no gold.
This will create a scarcity of cash; therefore, a liquidity crisis should be right around the corner.