Legality is not the problem with parallel currencies

Critics of Italy’s mini-BOT identify the threat in the wrong place

Izabella Kaminska


Claudio Borghi, economics spokesman for Italy's League party. The government wants to use mini-BOTs to help deal with its debt © Getty


For a while now the Italian government has been toying with the idea of introducing mini bills of treasury — so-called mini-BOTs — to help it pay debts to private sector businesses. A parliamentary vote in May which endorsed the proposal helped give the idea further credence.

But there are many who have not taken the idea seriously. This is an error. Some wrongly believe that because the securities would be considered a parallel currency they would be deemed illegal in the eurozone.

This is because European Central Bank members are obliged to hold the euro as legal tender in their respective sovereign states. Thus, the scheme would be impossible to implement unless Italy was prepared to leave the euro. It is rightly assumed that Italy is not prepared to do that.

When asked about the mini-BOT plan, ECB president Mario Draghi did not hold back. He noted: “They are either money and then they are illegal, or they are debt and then that stock goes up.”

But this view overlooks the fact that parallel currencies can circulate without legal tender status. It also fails to acknowledge that parallel currencies have always been with us, and that in most western economies there is no prohibition on settling commercial debts in other forms of mutually agreed securities or assets. Not even in the eurozone.

Legal tender status helps in establishing and popularising a currency, but it is not essential. The system as it stands features a plethora of parallel currencies, none of which are legal tender, but which all seamlessly interact with each other without any legal contradiction.

As the Bank of England points out, cheques, debit cards and contactless payments don’t constitute legal tender. They too are a form of parallel currency.

The reason we have possibly forgotten the extent and breadth of the pre-existing parallel currency network — which features everything from store-issued points, bank money to the eurodollar market — is because in recent years it has been overshadowed by the emergence of cryptocurrencies. These differ from traditional parallel currencies in that they have no overt issuer or guarantor.

But it is this wider context that makes Mr Draghi’s stance on mini-BOTs disingenuous. He should recognise that in being issued by a national treasury and capable of being accepted as payment for taxes, mini-BOTs have a better chance of succeeding as a highly liquid currency than most other rival parallel systems (certainly more so than Facebook’s proposed cryptocurrency, Libra).

As the economist Willem Buiter noted last month in a research note, if mini-BOTs do acquire the property of moneyness, they have the potential to make a real difference by transforming illiquid government liabilities (arrears) into liquid ones. Indeed, once the private sector becomes willing to hold zero interest mini-BOTs, despite there being other risk-free assets with positive interest rates, the market begins to view them as “fiscal money”.

This in turn allows the state to use that liquidity to raise public spending on real goods and services. According to Mr Buiter, in an economy with slack, output and employment could rise leading to an increase in tax receipts.

There are certainly other examples where such fiscal monetary exercises have paid dividends.

Consider the IOUs California began issuing in 2009. These helped to inject enough liquidity to spare the state from bankruptcy. Those IOUs were a form of debt, which also worked like a currency with very positive impact.

Clearly, the eurozone is far more fragile than the dollar system ever was. So the analogy with California is not perfect. Another possible parallel is with the other famous state that used monetary fragmentation to tackle growing imbalances: the Soviet Union.

The original goal there was to create a system that transferred value so seamlessly that money itself would, in theory, no longer be needed. Except, as imbalances built up, the state was forced to issue three different types of money, with varying usability profiles. Unfortunately, the managed nature of these currencies, plus the lack of slack in the system, inhibited growth. A system-wide economic collapse with inflationary consequences followed.

With precedents like that, it is unsurprising that Mr Draghi was inclined to talk down the mini-BOT plan: it could genuinely undermine the euro. The legality question, however, is a distraction — something that Mr Draghi’s successor Christine Lagarde, a former lawyer, will be aware of.

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