This is a very strong encroachment on the principles prevailing in a free market  7  The argument outlined here is particularly relevant for holders of senior bonds. 8  See Pigou, A. (1920), The Economics of Welfare, London: MacMillan. 9  10  There are a variety of advocates of this view. Cf., for instance, King, M. (2009), speech at the Lord Mayor’s Banquet for Bankers and Merchants of the City of London at the Mansion House, June 2009. It is fair to acknowledge at this point that there is a lot of controversy and only weak evidence on the existence and size of returns to scale and scope in banking. BIS central bankers’ speeches  5  economy, which is – among other things – based on the principle that firms are best positioned to select their business plan and should do so freely within the appropriate incentive structure. Increasing capital requirements and imposing a capital surcharge The “Pigovian” approach is often more suitably and closely aligned to the principles of a dynamic market economy. In the problem at hand, the Pigovian approach may take the form of the imposition of higher capital requirements together with a capital surcharge, modulated to take account of the systemic risk of a financial institution. The benefits of increasing capital requirements are manifold. First, imposing more equity capital naturally makes an institution more robust and able to withstand adverse scenarios. This reduces the probability of bankruptcy, thus the severity of the externality.
Reports of the demise of cash are vastly exaggerated. Notes and coins have been with us a long time, and have served a crucial role in the growth of the modern economy. I suspect they will be with us for quite some time more. BIS central bankers’ speeches  1  Three “C”s of a good payment instrument But be it physical cash or electronic payment, the medium of exchange for transactions must satisfy three requirements. I will refer to these as the three “C”s of a preferred payment system – confidence, convenience, and cost-effectiveness. First, confidence. Businesses and consumers must be assured of the security of payment instruments. The widespread circulation of counterfeit notes and coins can impair confidence in a country’s currency. As John Maynard Keynes put it nearly a century ago, quoting Lenin, “There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency.” Keynes was, of course, talking about the deleterious effects of inflation. But it applies just as well to debasing the currency through counterfeiting. Ensuring the fidelity of notes and coins and the soundness of electronic payments is therefore a critical function. Central banks and currency issuing authorities must continually innovate and stay ahead of fraudsters. In electronic fund transfers, we have instituted more end-to-end security measures like two-factor authentication. Modern currency notes come with very advanced security features. I wanted to give some examples, but have been advised that it would be tantamount to giving away our secrets!