Deposit tokens are not a payments breakthrough

Good morning. It appears that the ceasefire in the Middle East is holding, despite some huffing and puffing from Israel and Iran. Oil dropped 5 per cent on the news, and the S&P 500 rose 1 per cent, breaching a four-month high. We hope the optimism is justified. Email us: [email protected].

Deposit tokens

Last week JPMorgan announced that it would soon issue a “deposit token” — an alternative to stablecoins — called JPMD. The bank says JPMD will: 

eventually enable J.P. Morgan’s institutional clients exclusively to send and receive money securely on chain, enhancing the digital payments ecosystem and encouraging broader adoption.

Unlike JPM Coin, the bank’s earlier foray into the cryptocurrency market, JPMD will trade on a public blockchain (Coinbase’s Ethereum Layer 2 chain, Base) and will be restricted to institutional clients. As it is not a stablecoin but rather an on-chain representation of a bank deposit, it can pay interest. And in the words of Naveen Mallela, co-head of JPMorgan’s blockchain business, “institutional clients can treat JPMD as bank deposits on their balance sheet, providing certainty around financial and accounting treatment”. Furthermore, Mallela says, “we believe JPMD will be qualified for deposit insurance going forward”.

This may well be a step forward for financial institutions that wish to trade crypto assets. As a payments technology in the real world, however, it’s hard to see how it adds much value.

For an asset manager or trading desk interested in crypto, having an intermediary currency between the traditional banking world and the crypto trading world that pays interest and can be treated as a bank deposit in the accounts does indeed sound useful. (Whether crypto assets have enduring value is a separate question). And the fact that the tokens are bank-backed means know your customer and money- laundering infrastructure will be in place (for some crypto traders the presence of this infrastructure will be a serious drawback, but they can always stick to non-bank stablecoins). The possibility of deposit insurance, which is limited to deposits of $250,000 and less, seems of marginal use for institutions, however.

What does the new product offer outside of the crypto world? “24/7 cross-border settlement” is the pitch. And there is indeed a cross-border problem that needs solving. In global supply chains, it is hard to make goods and money transfer between parties at the same moment, which creates risk, delay and expense. But as Steven Kelly of Yale’s Program on Financial Stability points out, “When stablecoins purport to solve that, the problem is that supply chain payments now, and in the future, demand bank money.” 

A bank with a deposit token partly solves that problem, but only if both parties to the transaction are clients of the same bank. If one party is at JPMorgan and the other is at Citi, they are both back at square one (I asked JPMorgan about this, and the bank replied that “JPMD is initially being introduced for use by JPMorgan’s institutional clients, with plans to support transfers between those clients and, eventually, between eligible customers of those clients”). And 24/7 real global settlement between two JPMorgan clients was already available with JPM Coin, and in most cases is possible with normal bank accounts. 

The problem of facilitating instant global payments between different banks is an instance of one of the objections to stablecoins registered by the Bank for International Settlements in its annual economic report. Proper money “can be issued by different banks and accepted by all without hesitation. It does this because it is settled at par against a common safe asset (central bank reserves) provided by the central bank.” Deposit tokens don’t have this property now, and it’s hard to see how that could change.

Deposit tokens may be useful institutional on-ramps to crypto exchanges. As a real-world payments technology they remain, like stablecoins, a solution in search of a problem.

The next Fed chair

Jay Powell has 11 months left in his term as Fed chair. Speculation about his replacement is heating up, as is jockeying for the president’s favour. Fed governor Michelle Bowman came out recently and said the Fed should cut interest rates as soon as July. A few weeks ago, another governor, Chris Waller, argued that the Fed could look through tariff-related inflation. These comments will go down well in a firmly dovish White House. And the two Kevins — Hassett, director of the National Economic Council, and Warsh, a former Fed governor — are also waiting in the wings.

How much does it really matter who replaces Powell? The obvious answer is a lot. The Fed chair is the face of the institution. The chair’s ability to communicate underpins both the credibility of monetary policy and the bank’s independence. At the same time, though, the chair is just one of 12 votes on the Open Market Committee. And there tends to be a lot of consensus among the voting members: dissents are rare, and the published forecasts are clustered in a quite tight range.

Presumably, should the president nominate a true flunky, either the Senate would not confirm them or a rebellion in markets would end their tenure before it began.

But what about an outlier, rather than a flunky? Last week, one person on the committee advocated a 2.5 per cent federal funds rate for next year, where the committee median was 3.6. Imagine now that the person stumping for 2.6 was the chair. Would that cause a problem?  

We spoke with several people who have either been on the FOMC or worked close to it. Their answer was: it would matter a lot. FOMC meetings are debates; members try to convince one another of their view and pull people to their side. And the members tend to defer to the chair. “When I was at Goldman Sachs, we would joke that 90 per cent of what matters is the Fed chair, 5 per cent everyone else on the committee, and 5 per cent the staff,” said Bill Dudley, former president of the New York Fed and FOMC member. This is especially true when the Fed is operating with heightened uncertainty — what Claudia Sahm of New Century Advisors, formerly of the Fed, described to us as the “grey space”:

You can see some deference to the chair in various cases where the committee is in the grey space. I think about when the Fed did lift-off in 2015 [or, when it lifted interest rates from near zero]. It was clear in the transcripts that [Dan] Tarullo was not OK with [chair Janet] Yellen’s push for lift-off, but that he wasn’t going to stand in the way . . . In the grey space, the chair can carry the day, in a way that another member of the FOMC might not.

And boy oh boy are we ever in the grey space right now.

The chair also sets the agenda for each meeting, along with the vice-chair and the president of the NY Fed (together known as “the Troika”). There is always a discussion about the economy and monetary policy, but the Troika has discretion over which other topics are brought to the table: financial stability, quantitative easing, monetary policy framework review and so on. In those conversations, too, the chair gets the most weight. “I viewed my job as a member of the Troika to argue forcefully for my view, but, at the end of the day, to support the chair . . . I [would] not take the disagreement public,” Dudley told us. 

But deference to the chair is a norm, not the law. While there has been a culture of consensus at the Fed, there does not have to be. There could be a big schism between board members, and they might choose to put it on the record. The chair could be in the dissenting group. If that happens, it’s hard to say what would go down — at the Fed or in the markets. We hope we never find out. 

(Reiter)

One good read

Tennis budgeting.