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Payment and financial innovation, reserve demand and implementation of monetary policy

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  • Lahdenperä, Harri

    ()
    (Bank of Finland)

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    Abstract

    The consequences of electronic trading, payment and settlement have recently become one of the main topics in monetary economics. New innovations in payment and settlement technology are challenging the central bank’s monopoly over the supply of base money, which is generally considered the cornerstone of the central bank’s power to set the short-term interest rate for the economy. This paper demonstrates that the development of the economy’s transaction technology over time has indeed had a significant quantitative impact on the demand for currency and bank reserves, and indirectly on the modalities of the supply of reserves by the central bank. In contrast to past trends, the latest innovations in payment and settlement technology imply not only a quantitative change but also a qualitative one, as they enable private institutions to issue settlement money that competes with the liabilities of the central bank. The paper presents a model on the implementation of monetary policy in an economy where such private substitutes for central bank money are available for the settlement of transactions, showing that effective monetary control by the central bank might indeed be compromised in those circumstances. However, the study also highlights several attributes that may distinguish central bank liabilities from any private alternatives, some of which are based on the central bank’s traditional role as the banker for the Government.

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    File URL: http://www.suomenpankki.fi/en/julkaisut/tutkimukset/keskustelualoitteet/Documents/0126.pdf
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    Bibliographic Info

    Paper provided by Bank of Finland in its series Research Discussion Papers with number 26/2001.

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    Length: 61 pages
    Date of creation: 12 Dec 2001
    Date of revision:
    Handle: RePEc:hhs:bofrdp:2001_026

    Contact details of provider:
    Postal: Bank of Finland, P.O. Box 160, FI-00101 Helsinki, Finland
    Web page: http://www.suomenpankki.fi/en/
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    Related research

    Keywords: monetary policy; reserve demand; payment systems; financial innovation;

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    Cited by:
    1. C. Sardoni, 2006. "Why Central Banks (and Money) Rule the Roost," Economics Working Paper Archive wp_457, Levy Economics Institute.
    2. Jan Marc Berk, 2002. "New Economy, Old Central Banks?," Tinbergen Institute Discussion Papers 02-087/2, Tinbergen Institute, revised 01 Aug 2002.

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