Legal Issues Relevant for the Transition to Electronic Money

Yesterday, I gave a presentation on eliminating the zero lower bound to in the seminar series of the University of Michigan’s new Center for Finance Law and Policy. Here is a 23-slide Powerpoint file reflecting what we talked about. I volunteered for this talk especially because I wanted to get the help of lawyers in the group in understanding legal issues that matter for making the transition to electronic money. (You can see a full-length Powerpoint file that is less focused on the legal issues here.)

This bit from the introduction to the still very rough-draft of the paper “Breaking Through the Zero Lower Bound” served as the abstract for the talk: 

Under current monetary systems, paper currency (and coins) guarantee a zero nominal rate of return, apart from storage costs, which are relatively small. It is then difficult for central banks to reduce their target interest rates below the rate of return on paper currency storage, which is not far below zero.  This limitation on central bank target interest rates is called the “zero lower bound.” Because the zero lower bound is a consequence of how monetary systems handle paper currency, it is possible to eliminate the zero lower bound by alternative paper currency policies. Though there are costs as well as benefits to any policy, there is nothing intrinsically difficult about paper currency policies that eliminate the zero lower bound. Eliminating the zero lower bound would give central banks a wider range of options for their target interest rates. 

I started by pointing the participants to my recent post “How and Why to Eliminate the Zero Lower Bound: A Reader’s Guide,” and gave a quick rundown of the how and why in the Powerpoint file for the talk. But for me, the heart of the discussion was a series of legal questions I posed. I list them below, together with the answers I got from the audience, when I put them on the spot in bold, according to my understanding of their answers. I would be glad for corrections and other views from any reader. I would also love to hear about other legal issues you think are important for the transition to electronic money.

  1. Does the central bank (the Federal Reserve, in the US case) have the authority to levy a proportional fee when banks deposit paper currency in their account with the central bank? Probably yes.
  2. Does the central bank have the authority to have vault cash held banks count less toward reserve requirements than reserves in the account the bank has with the central bank? Yes.
  3. Is it legal for retailers to charge more when a customer pays in paper currency than when a customer pays by credit card, debit card or check? Yes.
  4. Is a loan contract provision enforceable that stipulates that a borrower must pay a surcharge if the borrower makes interest or principal payments in paper currency? Yes.
  5. In typical existing loan contracts, could lender refuse to accept repayment made with large amounts of paper currency? No. Note that, according to the argument in “The Path to Electronic Money as a Monetary System,” this “no” answer still leaves it possible to eliminate the zero lower bound, but without legislation to change this, the transition unfortunately would be a “soft-money transition." 
  6. If, in principal, typical existing loan contracts allow a borrower to repay with large amounts of paper currency, how difficult would it be to get a judgment to that effect? It is the lender who has to take the borrower to court to enforce payment. So the lender bears most of the transactions costs. That means that many borrowers might insist on paying in paper currency might become an issue even when paper currency is only modestly below par (i.e., even when deposit fee the central bank levies on deposits of paper currency is still relatively small).
  7. Does Congress or Parliament have the authority to stipulate that “dollar” or other currency in existing loan contracts means the amount that a dollar in a bank account would be worth, if the value of a dollar worth of paper currency diverged from the value of a dollar in a bank account. This question was about constitutional issues. In the US, the "takings clause” of the 5th Amendment might get in the way of a withdrawal fee–which is not part of my proposal. A suit against the paper currency deposit fee that is a mainstay of my proposal could be brought based on this sentence: “The validity of the public debt of the United States, authorized by law, including debts incurred for payment of pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.” The argument would be that paper currency was a form of debt of the Federal Government and so should be honored at par. If this argument succeeded, then eliminating the zero lower bound in a constitutional way might require ending the issuance of traditional currency and replacing traditional currency with small denomination bearer bonds with a variable interest rate that would function as currency as I discussed in “A Minimalist Implementation of Electronic Money."
  8. Under current law, can the IRS disallow payment in paper currency? Up until the point things wind up in court, the IRS can certainly insist on payment by check, credit card, or electronic transfer, but if things wound up in court the taxpayer might be able to claim the right to pay the debt to the government in paper currency because it is legal tender. But it seems that the taxpayer would pay many of the costs of taking things to court, even if this maneuver would work. 
  9. In the Eurozone, does the European Central Bank have the authority to require national central banks to impose a proportional fee on the deposit by banks of paper currency with the national central bank? Not clear. 
  10. Alternatively, does the European Central Bank have the authority to centralize all reserve accounts of banks in Frankfurt so that any bank depositing paper currency would face an ECB paper currency deposit fee directly? Not clear.