Swiss voters will be asked to vote about the introduction of so-called sovereign money during the course of next year. Erwin Heri, a professor of finance, says there are better ways to improve the stability of the banking and financial systems.

Erwin Heri, a group demanding the introduction of so-called sovereign money claims that this would make the Swiss banking and financial system more secure. Do you agree?

Certain elements of the financial system might become more secure using a system of sovereign money – irrespective of what security in the context of the financial market actually means. Others however would become less secure. We shouldn’t forget that the last financial crisis wasn't about bank runs or credit creation, but instead about complex forms of securitization vehicles, inadequate equity levels and shadow banking. Issues that were badly or inadequately regulated under the old regime. A sovereign money system wouldn't have helped.

Under the proposal, the central bank gets a monopoly over the creation of money. The excesses on financial and real estate markets suggest that such a system would be a good measure to prevent inflation.

Time only would tell whether such a system would allow a better management of inflation. The effect of money creation depends on what the subjects of an economy do with the newly created money, whatever process is applied. If they are using it productively, there will be growth. When they are buying existing goods, the effect is inflationary, when they acquire securities or real estate, bubbles may develop. All this essentially is independent of the process of money creation.

«The value of money today is an expression of what we think that it will buy us»

Putting the monopoly for the creation of money with the central bank sounds good. However, to achieve that you don’t need a political move such as the «Sovereign Money Initiative» – there is no need for experiments into unchartered territory.

Money on accounts (sight deposits) are supposed to become as secure as money stashed away in your safe at home as all of it was created by the Swiss National Bank (SNB). How does this work in reality? Would the SNB guarantee for the electronic money (sight deposits)?

The money would be safer in as much as it would no longer be part of the books of a bank, but remain outside its balance sheet, much like the securities deposits of today. But we should have no illusions about cash. Cash isn’t physically backed up anywhere in the world. We haven’t had a gold – or any other – standard for a long time.

The value of money today is exclusively an expression of what we think that it will buy us and of the expectation that the seller will accept the money. In other words: it is based on trust.

The group behind the move says that the money on our accounts to a large degree isn’t real money, but money that was created by the banks by extending their balance sheet, money that they don’t own in reality. If the bank goes bust, our money also disappears.

Real money, not real money – a mere confusion of terms. It is a passive on the balance sheet. Something that the bank owes us. A debt that – dependent on the form of account we have – can be withdrawn tomorrow, in banknotes and coins.

«The advantage of such a move is that people for once have to think about the balance sheet of a bank»

The advantage of such a political initiative is that people for once have to think about the balance sheet of a bank and that they need to understand that their savings account is a passive on their bank’s balance sheet. If the bank has to file for bankruptcy, the account – put in simple terms – will become part of the bankruptcy proceedings. That’s how it is and how it has always been the case. Which is why we have a legal provision that «insures» the deposit of as much as 100,000 Swiss francs at any one bank.

If you want to safely deposit more cash on the bank, you have to put it on the balance sheet of several different banks. And if you want to keep your money outside the banking license, you will have to buy securities, such as short-term bonds of the Swiss government. These are equally liquid and also in the depot of a bank, but aren’t part of the balance sheet, but instead in a securities portfolio.

The «Sovereign Money Initiative» also wants the SNB to distribute new money directly to the federal and cantonal governments. Wouldn’t it make sense to introduce such a helicopter money in Switzerland, because the money would actually reach the real economy and not disappear in speculative channels?

I dread the political fight about how to distribute such money created by the central bank. The current discussions about the pension system shows to a certain extent what results we sometime achieve with our Swiss «compromize-o-cracy».

«We should rid ourselves of the illusion that there will suddenly be any gifts for distribution»

We should rid ourselves of the illusion that we all of a sudden get hold of some gifts that are there to be distributed. Incidentally, the central bank already apportions part of is profits to cantons and the federal government.

Assuming for a moment that voters would vote in favor of the proposal, would it be possible to put it into practice?

The implementation process would probably prompt quite a political dispute.

Do you think voters might approve of the initiative?

I don’t think so. It is far too complicated, concerns a highly complex and contentious issue and I don’t think that the Swiss population wants to make an experiment into such unchartered territory. By the way, I don’t think we should abolish something that worked in 95 percent of all cases in reasonable fashion.

«We don't need to uproot a system that has worked for the past 50 years»

We ought to learn from mistakes made, apply the necessary changes, and that’s hard enough. We should not risk part of the 95 percent that work well in the hope of eliminating the 5 percent that are bad.

Are there any better alternatives to alleviate the problem of too-big-to-fail?

A relevant part of the necessary tools is already available in law. The central bank in principal is able at any time to manage the scriptural money creation with demands for capital reserves and for the banks’ equity and with its own monetary policy instruments.

I also believe that we shouldn’t give up on a revised form of the Glass/Steagall Act. But to do so, we don’t need to uproot a system that has worked more or less for the past 50 years.

Erwin Heri is an associate professor and lecturer for economic theory at University of Basel and at Swiss Finance Institute in Zurich. He is also active in asset management. He co-founded Fintool, a platform for education in finance. Heri is a member of a string of boards.