On 21 June, a street in Manchester in the UK tested cashless shopping.
For a single day shops and businesses on the city’s Beech Road accepted only debit and credit card payments and no notes or coins.
The results were mixed: not everyone has debt and credit cards and many continue to like to use cash for routine transactions like shopping.
But the measure raises big questions about the future of banking.
Most people use banks mainly for one reason: to handle payments. Bank accounts digitally record the inflow and outflow of payments including salaries and wages, interest income from savings and dividends and myriad transfers to suppliers of goods and services.
A minority use banks to finance transactions. In the UK, the majority of housing loans are managed by specialist institutions.
For many, the amount of borrowing from banks is trivial and may only be required to cover short-term cash flow deficits and purchase low-cost durable goods.
The Manchester experiment is designed to show how cash could become redundant. The British Retail Consortium said earlier this month that cash use has dropped 14 per cent in the past five years. Some predict physical currency will disappear inside 20 years.
But the move to digital payments has implications for banks. Why should people work through one to make electronic payments when they could make them directly?
Electronic payments are simply digital data identical to that handled by Google, Facebook and other digital businesses. These transfer digital data instantly, 24 hours a day across the world. If they can do that, for no fee, why can’t they do the same for the digital data used to transfer information about payments in shops, restaurants and hotels?
The answer is: there is no reason.
A Bankbook network could be established that could be used directly by users to transfer and receive payments without recourse to banks. This would need to be totally secure. But Google and Facebook already have security systems that are at least as good as those used by most banks.
Bankbook could be financed from advertising, like Google and Facebook is.
The banking industry for decades has been allowed to monopolise the electronics payments system. This has enabled them to levy excessive fees for services that could be provided for free (or nearly free).
A larger issue is that the banks’ monopoly over payments has given them scope to make money unfairly. Their techniques include delaying transfers and using these amounts to earn interest income in interbank markets.
Information generated by the massive flows of digital information has also been used to secure advantages in wholesale finance markets.
We have already seen banks prosecuted for abusing their monopoly over the setting of the London interbank offered rate (Libor), the benchmark interest rate for deposits that underpins the global wholesale finance market.
Questions are now being asked about the validity of the gold fixing system, which involves a select number of banks and brokerages setting the global benchmark price for bullion.
The core problem is that there is a conflict of interest at the heart of the contemporary banking system. On the one hand, it is the custodian of the bulk of the global electronic payments system. On the other, it can use the finance flowing through the payments system to gain advantages in its separate, own-account financial trading.
This conflict was at the heart of the global financial crisis of 2007-09. Banks manipulated global payments systems to develop digital off-balance sheet instruments that escaped central bank controls over lending. These generated fabulous returns but collapsed in value when payments flowing through the global electronic finance system sharply contracted.
Removing banks’ control over the electronic payments system will be resisted and not only by financial institutions. Central banks have a vested interested in ensuring electronic payments mainly flow through financial institutions they monitor and regulate. This well-intentioned arrangement grants to central banks a high degree of discretionary control over the monetary system.
For those that believe in the omniscience and infallibility of banking authorities, the status quo is both right and natural.
But the experience of the past decade has called into question the capacity of any monetary institution to do the right thing when the rewards for doing the wrong one are so high.
Critics of the status quo rightly say there’s something rotten at the heart of the banking industry. But they are wrong when they argue that the solution is to impose more regulations, which by definition are open to discretionary manipulation by regulators and evasion by the institutions they are designed to control.
The right solution is to remove human agency from financial intermediation and facilitate buyers and sellers interacting electronically and directly.
This will make banks largely redundant. That’s bad for them. But good for everyone else.