The war on cash is just getting started

You ain't seen nothing yet.

That's the real significance of the Bank of Japan's decision to take interest rates negative on Friday.

And if you don't believe me, you need only look at how rapidly the propaganda war on cash is picking up

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You don't know what you got till it's gone

this week's MoneyWeek podcast

But the key thing to take away is this: central banks aren't close to being out of ammo. They haven't even begun.

The "zero lower bound" is the idea that once interest rates hit 0%, there's basically nothing that central banks can do to "stimulate" the economy. If they move interest rates to below 0%, and the banks pass this on in the form of negative rates, then people will just start taking money out of banks and stashing it under the mattress.

But as reality has already demonstrated, talk of a "zero lower bound" is like many things in academic economic models a comforting fiction.

For a start, "free" banking is by no means universal. We're used to getting paid interest on current accounts in credit in this country, but there are plenty of countries where you'll be charged for holding money in the bank (I remember being quite shocked by this when I lived in Australia for a short time many years ago). People still use the service rather than the mattress.

So interest rates can probably go quite a bit more negative than we might assume before the mattress salesmen are having to barricade themselves in their shops.

But what about when they do go negative enough to get us all racing to the bank, and demanding our money in cash (something that'd make Mary Poppins look like a docudrama)? Well, central banks are already laying the ground for that.

A piece on the Bloomberg website yesterday makes the point nicely. It's a very positive piece on digital currencies, called Bring on the cashless future.

Cash is "dirty, dangerous, unwieldy and expensive", apparently, hence the rise of cryptocurrencies such as bitcoin. And now governments from China to the UK are getting interested.

"Digital legal tender could combine the inventiveness of private virtual currencies with the stability of a government mint." Let's leave aside the arguments about the stability or otherwise of a government mint. Digital cash could also help to stop money laundering, tax evasion, terrorist financing, and corruption in general. What's not to like?

But and here's where we get to the meat of the argument "the most far-reaching effect might be on monetary policy".

Spend it or lose it

If you stick your money under a mattress, it can't be reached by a negative interest rate. (Although it wouldn't surprise me to see a tax on safe and mattress ownership). But if all cash is digital, you can't avoid it.

So how do you make the transfer? Well, suggests Bloomberg, helpfully, a central bank would charge a fee for accepting paper currency. This would create "an exchange rate between electronic and paper money and by raising the fee, it would cause paper money to depreciate against the electronic standard.

"This would eliminate the incentive to hold cash rather than digital money, allowing the central bank to push the interest rate below zero and thereby boost consumption and investment."

Ta-dah! Problem solved.

Obviously there are some minor issues. "Security will be an abiding concern and you don't have to be paranoid to worry about Big Brother tracking your financial life."

That's putting it lightly. The reality is that a government-controlled digital currency is extremely problematic for all sorts of reasons.

Let's take tax a topical issue for a moment. I think it's unfair that Google and its fellow multinationals can gain a competitive advantage over local, smaller businesses because of their ability to game the global tax system.

Everyone should have to play by the same rules, and if that means Google "should" be paying more, then the system needs to change somehow to reflect that.

But I'm uncomfortable with the idea of a tax system being run like an "honour" system, where there's a morally right and a morally wrong amount to pay, regardless of what the underlying legalities proscribe. That opens the door to arbitrary confiscatory decisions being made by governments who feel they have virtue on their side.

The idea of forcing people to pay what they "should" rather than constructing a tax system that actually works might appeal to certain types of government. And it becomes a lot easier to enforce when you have wealth largely stored in an entirely digital, traceable currency that can be stopped or confiscated at source by the government.

In short, if the prospect of ID cards under Gordon Brown's government concerned you a few years ago, then this should worry you at least as much.

The war on cash is just getting started

As long as we had almost friction-free digital currency exchange mechanisms on our phones, then we could use different currencies to fulfill different roles. One "hard" digital currency for our savings. One government-mandated one for paying your taxes. Loyalty currencies (voucher schemes basically) for certain shops.

It raises interesting questions about the nature of sovereignty and borders if your citizens stop using the government-backed currency for the majority of their transactions.

For example, how would the euro cope in a world with convenient competing digital currencies? The drachma could exist again without Greece ever leaving the eurozone.

I don't think that governments want to open that particular Pandora's box. So it'd be interesting but most likely also rather disturbing to see what sorts of rules they'd create to tackle the issue of currency competition.

All of this potential upheaval turning the way we think the system works on its head just to allow central bankers to "do more stimulus". Are we really that desperate?

If this bothers you as much as it bothers me, then this'll interest you my colleague Tim Price has written an entire book on this subject, entitled The War on Cash, and it's only becoming ever more relevant by the day. If you haven't read it yet, you should pick it up here.