This initiative aims to revolutionise the global financial system by creating an international ‘payment plus’ system that goes beyond basic transactions. Drawing inspiration from technological advances like the iPhone, Carstens envisions a system wherein individuals can conduct any financial transaction, anywhere, at any time. The project leverages tokenised assets and unified ledgers to create a seamless, inclusive, and accessible financial ecosystem for all.
Verbatim transcript of the interview:
Q: My first question is not going to be on the economy or on the interesting payment system that you are trying to put in place, but a more theoretical question. Flexible inflation targeting, which India embarked on just nine years ago, we think it is very successful. However, within India, there are people who are doubting whether inflation targeting is a good idea because food is not something the RBI can control, and food is a large part of India’s index. So there are opposing views. What is your view on inflation targeting?
A: First of all, it has been a tremendously successful methodology and strategy to follow to stabilise inflation. I think that if you compare the world economy from 40-50 years ago to today, one of the key aspects is the absence of relatively high inflation in many countries. This was achieved primarily because of inflation targeting. Inflation targeting basically means — in a very simple way so that people understand — for the central bank to say, “I have a set of instruments. I will use the instruments in a way so that I can assure you that inflation will not be higher than x% or it will be contained in a certain range.”
Flexible — it is flexible sometimes from the point of view of the flexibility of the use of the instruments, but also sometimes it is flexible from the fact that to have a very specific inflation target is difficult and is risky because there are many prices that do not depend on monetary policy. But what is important is that the development of those prices can affect inflationary expectations, and therefore, can contaminate the rest of the prices in the economy.
Therefore, the central bank cannot ignore these prices. In the case of India, for example, food because it affects expectations. And at the same time, inflation expectation relies on the trust that people have in the scheme. Now, a scheme would not be very good if the central bank says, “I will mind these prices but not these other prices.” The person in the street will say, “Well, that doesn’t make sense to me because I face all the prices, not only the ones you choose.” That is why it has to be integrated and I think it makes sense and it works.
Q: I was going to ask you whether they should only target core or non-food inflation. Your point was taken. Now, the other point that people make is that financial stability should be what the central bank should target. But the problem is, what are the parameters of financial stability? How would you answer this question?
A: Financial stability, broadly speaking, means that developments in the financial sector should not hinder the adequate workings of the economy. If you have a financial crisis, for example, a fair amount of people cannot pay, the intermediation process gets disrupted, financing gets disrupted, and losses in the market can affect consumption, then the workings of the financial system are affecting the rest of the economy. And that is something that we don’t want.
I mean, what we want is that the financial system should support economic development, should support growth, should support the purchasing power of the individual and not the opposite. So financial stability means that the financial system is working well, savings are well intermediated into investment, and investment is enhancing the capacities of the economy.
I think that the central bank has a fair amount of instruments to influence financial stability. Not all central banks have all the instruments that are required. Depending on the arrangements, sometimes some regulatory activities are not in the hands of the central bank. But at the same time, that means that it should be an integrated objective of the different activities of the different authorities in the country.
Q: The Reserve Bank of India (RBI) is a full-service-centred bank, and I will come to that in a minute. They are celebrating 90 years, and I will need your comment. But the more important question is the financial stability of the world or of global markets at this point in time. We have seen a lot of exuberance in equity markets. In the US, we have had those magnificent IT stocks. We have had a roaring equity market in India as well. At this juncture, are you worried about financial stability? Any red flags you see hidden in plain sight?
A: There is a sector in the financial system where we don’t have a very good perspective. And that is what is called the non-bank financial intermediation sector. And basically, here we are talking about activities like hedge funds, private equity, private banking, sometimes even insurance, asset management, and so on. Many of these activities are not regulated or fully supervised. But that doesn’t mean that they don’t take sometimes heavy risks and that at some point those risks can materialise.
In particular, the concern is that sometimes maturity mismatches are present. And at the same time, there can be over-leveraging. And whenever you have dislocations in the markets or economic shocks, those risks can materialise.
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Now, they could have, at some point, a systemic impact because the non-bank financial intermediation is not fully dislocated from the banking system. The banking system is one that we care about the most because, usually, that is the dominant, as is the case in India. It is also because it has the most access to the population. But oftentimes, the banking system provides financing to non-bank financial intermediation. And if you have a major problem in non-financial intermediation, it could contaminate the banking intermediation. So, we need to have a comprehensive view and try to use our instruments to guarantee financial stability in all scenarios.
Q: I have been asking you pessimistic questions. Let me ask you the more optimistic question on economic growth. The last number we got from the United States was 3% GDP growth for the just-ended quarter. Do you think that risks of recession in the world are overblown, and we are quite likely to have a soft landing?
A: Let me again also start to follow you on a positive note. I think, yes, we have been faring better than what we anticipated. The coordinated monetary tightening in the world to address a global inflation spur has not had as important an impact on economic growth. Now, at the same time, I have to say there is a lot of heterogeneity in the world. I mean, I think one very remarkable case is, of course, India. That is probably the highest-growing economy in the world. The US is also doing extremely well. Many emerging markets are doing well. But you cannot say the same of some notable economies in the world. Europe is in a soft patch, not in recession, but growing at relatively low rates. And then we have the second-largest economy in the world, China, which is going through difficult times. So, all in all, we can feel optimistic. But there are some areas or some parts of the world where growth has been, I would say, substandard.
Q: I agree that there will be economies moving at different speeds. But overall, you don’t see risks like the 2008 risks which can impact markets?
A: No, not at all. I think what has happened in this post-COVID period is the collective action of the central banks was very decisive and opportune. And it had a very solid impact on inflation. And it’s being brought under control relatively well. I think some of the factors that generated inflation turned out to be transitory, and that helped.
However, the monetary policy actions implemented also played a very important role. There is inflation expectations are relatively stable. Interest rates are starting to come down, and that will support growth. At the same time, usually, when you have a major shock or crisis, you also suffer financial instability. And in this case, we didn’t suffer financial instability. And that is because we entered this post-COVID period with a very strong financial system. And that tells us that the efforts that we implemented after the GFC are paying returns in terms of stability.
Q: That is good to hear, if one of the best central bankers doesn’t see red flags, that’s a positive. You alluded to India in passing. Can you elaborate? Something is going right here. We have had a better rate of growth, a 7% rate of growth for the past few years. Any further comments, what seems to be going right here?
A: Many things are going right here. It’s very refreshing to come to a country where you see very positive indices right and left. I think that you have followed a balanced process of development from a macro point of view. You have had a good fiscal policy from the point of view, yes, it’s in deficit and so on and so forth, but it is moderated. But also, the quality of expenditure is adequate. So just coming here, you see the development of infrastructure and infrastructure definitely will support the economic growth.
You have inflation under control. Financial intermediation is working well, and then you see also major efforts in different regions in the economy, trying to, from a structural point of view, make the Indian economy more productive, and more efficient. I think that is being reflected in great growth and in that way, also, you take advantage of the fact that you have a young population, a driving population. In the end, that materialises in terms of economic growth.
Q: With that, let me come to a project which is after your own heart and our hearts, too, the Finternet, that is a project which Dr Agustín Carstens and Nandan Nilekani of India have tried to put together. It’s an international payment system, a payment plus system. First, tell us, this seems to be a labour of love for you. Tell us what you have in mind in terms of the Finternet. What is the BIS trying?
A: Let me make an emphasis on what you said, that this is a payment plus effort. I think during the last many, many years, at least a decade, in the different parts of the world, there have been major efforts to incorporate technology into financial practices. But if we compare that effort with other developments, for example, the development of the iPhone, where you can do many, many things out of your handheld device, we cannot say that that is the case in financial transactions.
I remember 15 years ago, last time, one of the first times I came here to India, calling Mexico was almost impossible. Yesterday, I called my mother through WhatsApp in three seconds. So that’s a dramatic development. The same thing should happen in the payment system. Now, we have made efforts, starting mostly through payments, and I think the developments that you have here in India are top of the class. I mean, all that you have done with the DPI and UPI is really remarkable.
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Now, the financial system is not limited to payments. There are many other transactions, financial transactions, that are important and here in India, there has been a lot of debate and progress in terms of inclusion. But we measure inclusion by the access that the population have to accounts, sometimes how much they use it.
But if you go through the range of financial transactions and you go to more complicated transactions, the figures of inclusion drop dramatically. A lot of this is just because bringing financial services to the population, especially the most sophisticated ones, are very expensive, and transactional costs are very, very high.
Now, technology can change that. Our financial services are more dominated by concerns of the intermediary or the type of operation. But what I discussed with Nandan, and he was absolutely fabulous in this process, is the fact that we wanted to do a system, or build, or have a vision, more than any articulated vision, where the financial system is concentrated in the individual. Where the individual can do any type of transactions with anybody they want, no matter in what location, at any time. Just like the way you use your iPhone.
Now, what is very significant is that technology is there. Basically, by using tokenised assets, or tokenisation of financial assets, and creating unified ledgers, you can really build an architecture where, from a technological point of view, this vision can materialise. It has been a fabulous interaction with Nandan. It was an effort to bring financial minds together with technological minds. So, the way this happened is that I wrote a paper presented in Singapore last year. I came to the G20 here in Bangalore. I met with Nandan as a very dear friend, and I said, “Nandan, how do you do this, bring this into reality?”
He said, “No problem. We can do this very quickly.” So, I think in this way, that’s also another interesting way where finance can contribute to technology and put something on the table. It’s a steep way up, and it will take time. We need a lot of private initiatives and public sector initiatives. But it is picking traction through time and I think, more than anything, the vision has inspired many people.
Q: Immediately, the problem is whether transactions can be done bilaterally at a lower cost. I mean, at the moment, you still have the SWIFT. You still have to go through several banks and a transaction between two countries can take several days. Do you see, for instance, India-Singapore transactions happening quickly with India’s UPI and Singapore’s PayU or something or, likewise, in the US, the FedNow? Do you see that happening, where inter-country transactions can happen quickly?
A: I think, for example, you mentioned Singapore-India. This payment avenue is, in a way, also incorporated into a project that the BIS has been developing for quite some time. And it’s called Nexus, which is precisely how you bring together different payment systems, fast payment systems, between countries to achieve exactly what you mean. We are trying to enlarge the membership. There is interest from European countries. So hopefully, this will materialise soon. There are technology helps in many different dimensions. I think, at this stage, something where technology is helping us a lot is that there are many costs in cross-border transactions, from the point of view of knowing your client, anti-money laundering, and combating the financial of terrorism.
Now, that is a task, the surveillance of that, that’s a task that can be digitalised and can be made extremely efficient, even more now with artificial intelligence. So, a lot of we are cutting costs there. Now, some of the designs of these projects also try to make simpler, the foreign exchange transaction, which is another leg of a cross-border payment that is usually complex and expensive. Then obviously, the different communications, dispute settlements, and so on and so forth. The nitty-gritty becomes very complex very soon, but we are really dwelling through it, and I think we are making fast progress.
Q: But there is a political angle to it as well, especially after COVID and the high fiscal deficit in the United States, the Ukraine war, the derecognition of Russian assets. There is a bit of a scare about the dollar as a reserve currency. That also has propelled the bilateral search for bilateral payments without going through the central clearing in the United States. Do you see at all the significance of the dollar, the predominance of the dollar reducing?
A: I don’t think so. I mean, at the end of the day, the dollar has developed the main avenues. At the end of the day, financial transactions depend on the credibility of the currency. At the international level, there is no more credible and reliable currency than the US dollar. My strong feeling or belief is that the dollar will prevail as the main currency in the international financial system.
Q: To come back to alternative payments. We have some kind of retail CBDC, but it’s a pilot. Do you see CBDC’s central bank digital currencies making some headway in terms of inter-country payments?
A: Eventually, I think CBDC could be used in payments, mostly at the wholesale level. Now, CBDC, at the end of the day, is a different technological representation of money. It’s not a new currency so at the end of the day, you have to really conceptualise the CBDC in that respect. It’s a more efficient representation of money, but at the end of the day, it cannot change the nature of the currencies that are behind those CBDCs.
Q: But CBDCs in India, at least, were conceived more to draw people away from cryptocurrencies. Do you think that threat is over? At one time, it looked like it would become a rival mode of payment. Is that something that worries you?
A: Definitely. I mean, it’s a quest where we cannot let our guard down. I think the main problem is that cyber currencies are presented as a substitute for fiat currency without the attributes of fiat currency. Therefore, many, many people can have losses as it has materialised on top of the fact that many of these payment vehicles or these vehicles are used to conduct illegal transactions.
Therefore, it’s not desirable at all that you have avenues out there where illegal transactions can take place. For example, ransom payments for cyber-attacks and narco-trafficking, different types of trafficking, and so on and so forth. That’s why I think that we need to put a rein on cyber currencies.
It is clear that in many cases, those cyber currencies do not comply with the three attributes of money, which are a good means of payment, a good store of value, and a good unit of account. Some have matured and have become an investment or speculative alternative. In some cases, they are being regulated, and so they have found their way into broader financial markets. But I think that we should not allow them to proliferate in a way that can make people incur losses or be deceived.
Q: Would you worry that the way political international relations are evolving, there is a big threat to the growth of world trade? We don’t know how the U.S. elections will go, but there are threats of higher tariffs, especially against China or even generally, would you worry that we are in a space where international trade is threatened and, therefore, the world economic growth pace?
A: I have to recognise that in the last several years, we have seen a fragmentation in the global economy, and that’s not good for the world as a whole. Regretfully, I have to say that it is a subject matter that could hinder economic growth and development.
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