Work in Progress

It is an established assessment that since the Eurocrisis, the Euro area banking system has been fragmented. Representing the Eurozone’s monetary architecture as a web of interlocking balance sheets, we carve out four different types of fragmentation that pertain to different parts of banks’ balance sheets and a different set of counterparties. The first type affects the size, scope, and business model of EA banks; the second the cross-border interbank lending among EA banks; the third the monetary policy transmission via EA banks; and the fourth the harmonization of public backstops for EA banks. We argue that the first two types of fragmentation can in principle be mitigated by using ‘offshore channels’ for cross-border banking activities. Euro area banks are not restricted to using EUR-denominated instruments inside the Eurozone monetary jurisdiction but may carry out cross-border activities in other units of account than the EUR (notably the USD) and in other booking locations (notably via their branches in the United Kingdom and the United States). Using data derived from the BIS’s international debt securities and locational banking statistics, we analyse whether the use of these offshore channels warrants a re-assessment of established findings on the fragmentation of the Euro area banking system.

Co-authors:
Iñaki Aldasoro, Bank for International Settlements
Torsten Ehlers, Bank for International Settlements and International Monetary Fund

How to finance the Green Transition towards net-zero carbon emissions remains an open question. The literature either operates within a market-failure paradigm that calls for a Pigou tax to help markets correct themselves, or via war finance analogies that offer a ‘triad’ of state intervention possibilities: taxation, treasury borrowing, and central bank money creation. These frameworks often lack a thorough conceptualisation of endogenous credit money creation, for instance when resorting to loanable funds theory, and disregard the systemic and procedural dimensions of financing the Green Transition. We propose that ‘monetary architecture’, which perceives the monetary and financial system as a constantly evolving and historically specific hierarchical web of interlocking balance sheets, offers a more comprehensive framework to conceptualize the systemic and procedural financing challenges. Using the US as an example, we draw implications of a systemic financing view while considering a division of labor between ‘firefighting’ institutions such as the Federal Reserve and the Treasury, and ‘workhorse’ institutions such as off-balance-sheet fiscal agencies, commercial banks, and shadow banks. We argue further that financing the Green Transition must undergo three ideal-typical phases—initial balance sheet expansion, long-term funding, and possibly final contraction—that require diligent macro-financial management to avoid financial instability.

Presentations at the EAEPE online conference (09/2021) and the research seminar of the Department of International Politics at City, University of London (12/2021)

Co-authors:
Andrei Guter-Sandu, London School of Economics and Political Science
Armin Haas, Global Climate Forum, Berlin

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SocArXiv

This study analyzes the Primary Dealer model for the issuance and distribution of sovereign debt as a distinctive feature of today’s international monetary system, the Offshore US-Dollar System. Primary dealers are a group of private banks who have an oligopoly for purchasing sovereign debt on the primary market. Hence, not only do they form a transmission belt between central banks and treasuries, but they also control the distribution of sovereign debt within and across monetary jurisdictions, which is particularly relevant for sovereign debt with safe asset status that is in high demand, such as US and German bills and bonds. We argue that the Primary Dealer model is a historically specific and idiosyncratic institutional solution that originated in the US and by now has been adopted with only limited variation by most monetary jurisdictions around the globe. Combining institutionalist, legal and quantitative analysis of sovereign bond issuance, this study presents an in-depth analysis of the triangular structure between primary dealers, treasuries and central banks that exists in four quintessential cases: the United States, the United Kingdom, Japan, as well as Germany and the Eurozone.

Co-author:
Will Bateman, Australian National University

When Economic and Monetary Union became effective in January 1999, it remained unclear what accounting treatment to choose for claims and obligations that the Eurosystem’s National Central Banks (NCBs) incur against each other in the ‘Trans-European Automated Real-Time Gross Express Transfer’ (TARGET) system. The Governing Council of the European Central Bank (ECB) decided only later in 1999 that they should be shifted to the ECB as an intermediating balance sheet—a process called ‘novation’. This decision has decisively shaped the countenance of the monetary union and its fate throughout the subsequent two decades but so far escaped the scrutiny of scholarship in International Political Economy (IPE). This paper adopts the perspective of critical macro-finance, which approaches the monetary system as a hierarchical web of interlocking balance sheets, to study the political-economic role of the TARGET system and its successor, the TARGET2 system. We theorize on monetary unification and show that novation of claims and obligations to a third-party balance sheet is not the only possible solution to ‘stitch together’ separate monetary systems at their apex, but likely was the only one politically feasible. Drawing on historical TARGET and TARGET2 data, we explain how the novation method at the top of the hierarchy has repeatedly served to defend the integrity of the monetary union, both monetarily and politically. It has also enabled the evolution of the ECB balance sheet as an idiosyncratic tool that the Eurosystem could use to tackle multiple problems, in particular setting up swap lines and introducing unconventional monetary policy.

Presentations at the workshop “Beyond Normal Central Banking? The Political Economy of Contemporary Monetary Policymaking” at Ghent University (05/2022), the economics research colloquium at Latin America Institute of Free University Berlin (06/2022), and at the conference “Central Banks and its Discontents: The Role of Monetary Policy in Contemporary Capitalism” (07/2022).

Co-author:
Matteo Giordano, School of Oriental and African Studies (SOAS)

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SocArXiv

Despite the paramount centrality of repurchase agreements (repos) in today’s market-based finance regime, both conceptual and empirical questions about European repo markets are insufficiently explored as contradictory legal and accounting treatments make their on-balance-sheet representation intricate. Drawing on the literature on monetary hierarchy, we make three connected conceptual arguments: First, we argue that the balance sheet mechanics of repos vary if the counterparties involved are on hierarchically different levels (“vertical repos”) or on the same hierarchical level (“horizontal repos”). While the vertical repo mechanism implies money creation, the horizontal repo mechanism only lends on pre-existing money. Second, we provide a coherent representation of the security posted as repo collateral, which—as to contemporary regulations—does not leave the balance sheet of the repo borrower but changes its status from being held outright to being “encumbered”. Third, we introduce an on-balance-sheet notation of the collateral framework as a means of the repo lender to alter the elasticity of the funding provided. Applying our methodology on two cases—vertical repos created by the Eurosystem for monetary policy implementation and horizontal repos used in the European interbank market—offers an innovative and consistent way to represent changes in the collateral frameworks that affect the elasticity space in the Euro area’s monetary architecture. Our analysis yields two main contributions: We offer an innovative understanding of different mechanisms for repo creation based on monetary hierarchy, and we put forth a data-driven empirical analysis of repos in Europe aimed at supporting our conceptual elaborations.

Co-authors:
Alexandru-Stefan Goghie, Universitatea Babeș-Bolyai
Matteo Giordano, School of Oriental and African Studies (SOAS)

This study adopts a dynamic perspective on the transformation of the Eurozone architecture, using the macro-financial model developed in Murau (2020) as conceptual framework. It analyzes changes in the web of hierarchical interlocking balance sheets via case studies in three transition phases: the 2007-9 Global Financial Crisis, the 2009-12 Eurocrisis, and the COVID-19 crisis that started in March 2020.

Within the logic of the macro-financial model, the study describes the changes that have taken place in the Eurozone during each of the transition periods. This refers to institutions, instruments, and elasticity space in all four segments of the monetary architecture—central banking, commercial banking, non-bank financial institutions, as well as the fiscal ecosystem, which is made up of treasuries and off-balance-sheet fiscal agencies. This descriptive aspect of the transformation is expressed via changes in the structure of interlocking balance sheets. On that basis, the study will ask what the causal forces were that induced those changes. For each of the transition phases, the study depicts four possible agents of change: (a) policymakers as agents of the state with a clearly delineable democratic legitimation; (b) technocratic actors; (c) representative of corporate interest; or (d) endogenous dynamics within the credit money system.

The key intellectual interest of this study lies in the question to which extent the modern credit money system on its own is causing the transformation of itself. Is a state-vs-markets framework—the baseline assumption of scholarship in International Political Economy (IPE)—sufficient to explain institutional change? What role do technocrats play? Or is there an endogenous tendency of credit money systems to transform due to the possibility of creating money out of nothing? The framework of hierarchical interlocking balance sheets, which this macro-financial model provides, allows to further investigate this question.

Co-authors:
Alexandru-Stefan Goghie, Universitatea Babeș-Bolyai
Matteo Giordano, School of Oriental and African Studies (SOAS)
Ludwig Schulze, European University Institute

Following the Global Financial Crisis, some scholars have conceptualized the credit instruments that lay at its center as “shadow money”. As this perspective seems to contradict most established monetary theories, we situate the “shadow money” concept in the history of monetary thought and clarify the underlying assumptions which make it meaningful. First, the shadow money concept stems from a market-based credit theory of money which rejects the notions that money is primarily chosen by the state and that credit is logically subordinate to money. Second, it assumes an inherent hierarchy of monetary systems which gives rise to a spectrum of monetary forms at the edge of which definitions of moneyness get blurry; hence, conceptually ambiguous shadow money forms have existed across multiple historical eras. Third, the shadow money concept transcends the orthodox three-functions-theory of money because it prioritizes the unit of account function over others as the basis to operate payment systems. Finally, we emphasize that a useful empirical benchmark for whether an instrument can be classified as “shadow money” is if it is created via a swap of IOUs, trades at par to hierarchically higher money forms, and is treated as a substitute for hierarchically higher forms of money.

Co-author:
Tobias Pforr, European University Institute