Polemics Interview with Martin Feldkircher
How is the digital revolution reshaping the economic landscape, and what are the key opportunities and challenges that you see?
The digital revolution manifests itself in various ways, spanning multiple sectors. For instance, robots have the potential to replace mundane tasks like food delivery and certain service roles. However, in sectors like healthcare that require non-repetitive work, such labour substitution, it is not feasible. While some jobs may be replaced by robots, new opportunities will also arise, reflecting the natural progression of society. Digitalization in payments and infrastructure is notable, along with the emergence of AI tools like GPT and Bard. Rather than replacing jobs, these tools assist us. To researchers, for instance, GPT can be helpful by efficiently translating computer code between languages. I do not consider these tools as truly disruptive; their popularity rather stems from being available with easy usable interfaces – and for free – to the broad public. The missing breakthrough lies in AI systems that comprehend causal relationships. Current AI models analyze patterns and correlations but lack the ability to understand causality, which really would be a significant step forward. Ultimately, an AI capable of independent decision-making based on causal understanding would be truly disruptive.
Speaking of digitalization, let’s focus on central banks. Can you explain how central bank digital currencies (CBDCs) differ from traditional forms of currency?
Most people tend to view money as the same, whether it’s in their bank accounts, wallets, or comes with digital payment methods like Visa. It’s all considered money, enabling transactions. However, there is a distinction between money issued directly by the central bank and other forms. Cash, the physical currency we use, is the only real central bank money accessible to households and businesses. A central bank digital currency (CBDC) would be its electronic twin: central bank money in electronic form, available to the general public. This money, similar to cash, would be fully backed by the assets of the central bank. By contrast, electronic money at your banking account is not backed by the central bank. It is a promise of your local bank to exchange your deposits, whenever you wish, for central bank money, i.e., cash. Since banks normally create much more money than they have in reserves, they can get in trouble in case too many customers at once want to withdraw their money. This is called a bank-run. With the direct issuance of CBDCs by the central bank, households would have access to a secure and electronic form of money, without the need to rely on the financial health of banks. Since this potentially puts banks under pressure to lose customers and deposits, I think it’s very likely that we are going to see that the digital euro will have a cap so that you can use only a maximum of let’s say 3000 euros in the form of digital euro. This also implies that the digital euro is going to work mainly as a means of payment and not as a store of value.
On the other hand, there’s a form of money called reserves that exists exclusively between central banks and commercial banks. Commercial banks can create new money based on these reserves through loans. When a loan is granted, the borrower sees an increase in their bank account, but this isn’t actual money; it’s a promise that they can exchange it for cash at the bank. The question now arises whether we should introduce a new form of central bank money in the digital era, called a digital currency.
In your opinion, is cryptocurrency truly as revolutionary as the media portrays it?
I wouldn’t consider it a recent phenomenon or a groundbreaking revolution in either a technical or conceptual sense. The primary use case for cryptocurrencies is providing a means of payment independent of government interference. Some people appreciate this aspect, while others are skeptical. There’s the speculative aspect as well, but beyond that, I don’t see any ongoing revolution.
One notable feature of cryptocurrencies is the implementation of smart contracts. These contracts are computer code that automatically executes based on specific conditions being met. For instance, if you buy an airplane ticket with a cryptocurrency that utilizes smart contracts, the contract will outline compensations in case of flight delays or cancellations, eliminating the need for personal intervention. It’s a technically straightforward concept, merely listing conditions that trigger automatic execution.
What is the future of non-traditional forms of currency?
Regarding currencies and CBDCs, the future goal would be to make them function like cash. However, there’s potential to make them even more intelligent or programmable, which raises concerns. Digital currencies are a double-edged sword. For example, one could program digital euros to be spent exclusively on books, which might not align with individual preferences. There are risks associated with programming money, such as imposing time limits for spending to stimulate the economy, restricting investment options, or mandating specific expenditures like dining out. Although technically possible, I doubt such scenarios will come to fruition, since they violate property rights.
That said, in certain Latin American countries like Argentina, similar practices have occurred with traditional currency. Bills were printed with expiration dates, essentially requiring people to spend the money within a set period. So, the idea is not entirely novel, but it’s not part of the plan for the euro area. When it comes to CBDCs, different countries are at various stages of development. Nigeria and China, among others, are quite advanced, while the United States shows less interest in digital currency. Each country has its own motivations for exploring digital currencies, which can vary from increased regulations to other factors. Financial inclusion also plays a role, as many people in emerging markets lack access to banking services. With smartphones being widespread, direct payments to individuals, bypassing traditional banks, can serve as a motivation in such economies.
In your ongoing research on central banking speeches, you are examining over 3000 texts from central bankers to investigate the topic areas that national banks and central banks most frequently discuss. Could you provide more details about your research and share any insights that may not be covered in your published paper?
Most of my research revolves around central banking and monetary policy. In my recent studies, I incorporated machine learning and text mining techniques. In my research “One money, one voice? Assessing ideological positions of euro area central banks”, I collected a dataset of speeches from high-level representatives of central banks, primarily governors, vice governors, and other top management, which were available in the BIS archive. These speeches serve as the data for analysis. When it comes to central bankers, monetary policy is a prevalent topic, but the way they address it can differ based on their position or viewpoint. By examining their word choice on the same topic, I can infer their perspective. In our research, we looked at monetary policy and financial stability speeches from various central banks in the euro area, not specifically comparing differences among individual banks. What we found intriguing was that speeches from the ECB differed significantly from those of other euro area central banks, suggesting a form of specialization or division of labour. This outcome was unexpected.
We also observed that the ECB maintained a consistent viewpoint on monetary policy and financial stability during crisis periods. Our analysis relied on computer algorithms to process the speeches, making it more objective and efficient. In another related project ‘Sentiment in high-frequency identification of monetary policy’, we focused on sentiment analysis using language processing models. By employing algorithms like BERT, we measured the frequency of positive and negative words in ECB speeches to gauge sentiment. We aim to examine how sentiment relates to macroeconomic variables and assess its impact. We were able to use information from speeches to gain insights into central banking and its implications for the broader economy.
While conducting your research on monetary policy, did you observe any emerging trends or concerns related to digitalization in the speeches of central banks?
Yes, in addition to our focus on monetary policy and financial stability, we noticed that the topics discussed in the speeches varied over time. We observed the emergence of new topics such as green finance, digitalization, and research on CBDCs. These topics have gained attention and are being actively addressed in the speeches. So, there is a definite variation in the subjects discussed, with new and relevant areas becoming hot topics in central bank discourse.
In relation to your research, could you also elaborate on how central bank communication contributes to effective monetary policy?
Absolutely, central bank communication holds its own significance as a form of policy. While the primary tools for policy implementation involve adjusting interest rates, communication plays a crucial role as well. One prominent method is forward guidance, where the governor makes a statement about keeping interest rates unchanged for a specific period, like two years. However, this approach can pose challenges during unforeseen crises, as it limits flexibility. Nevertheless, communication serves as a vital policy tool for providing guidance to financial institutions, households, and businesses, ensuring they have a clear understanding of the central bank’s intentions. Over time, central bank communication has evolved from carefully worded statements to press conferences that allow for questions from the media. Enhancing transparency and interaction are essential for effective communication. As monetary policy becomes more complex, especially with the introduction of CBDCs like the digital euro, the need for clear and comprehensive explanations to the public increases. It is evident in initiatives like “the Fed Listens” in the United States and “ECB listens” efforts in the euro area, where central bank representatives engage with the public to address questions and concerns.
We also wanted to ask about your most recent research on understanding monetary spillovers. Could you share some insights about economic spillovers in Europe and the challenges they pose to monetary policy?
One significant aspect of monetary policy covered in my recent research “Understanding Monetary Spillovers in Highly Integrated Regions – The case of Europe” is its impact on neighboring economies. Monetary policy, particularly in economies like the euro area, can have side effects/spillovers to neighboring economies like Eastern European countries. Central banks’ domestic focus often neglects this. For instance, when the euro area tightens monetary policy, it strengthens the euro, potentially weakening neighboring currencies and affecting their economies. Our research shows that euro area monetary policy tightening can decrease euro area demand for goods from neighbors like the Czech Republic, leading to negative spillovers and reduced GDP. This dynamic presents a complicated challenge for both euro area and neighboring policymakers.
What was the most interesting/important finding in your research?
A topic that fascinated me early on was research on spillovers. In a highly interconnected world, policy changes in one country can have significant effects on neighboring countries through either financial or trade links. In my research, I looked at the effect of different policy changes (interest rate change, asset purchases, etc.) in different sending economies (euro area, USA) to different receiving economies (European, non-European countries, etc.). From this research, we know today that spillovers can multiply such that in the end, the effect in the receiving economy can be as large (or even greater) than the original effect was in the sending economy. This finding underscores the importance of understanding how countries are connected.
What was the most surprising/unexpected finding in your research?
I have published many papers on spillovers, and it surprises me still today that domestic policymakers tend to be unaware of the importance of spillovers. Even for a big country like the United States, a policy change can have large repercussions that feed back into the USA itself. Large economies should have an interest in better understanding global factors and feedback loops through trade and financial networks.
Yes or no. Are you positive about the current trajectory that central banks in Europe are on regarding digitalization? Do you believe they are implementing the right measures?
Yes.
How do you envision the future of the global financial system in one word?
Fragile.
Written by Maryam Sindi and Viktoriya Teliha
Photo credit to: Dmytro Shchurevskyi, Viktoriya Teliha, Julia Drössler
