The financial system in the wake of Coronavirus
The worldwide spread of the Coronavirus has brought about a series of radical changes on the economic landscape. It has also raised a series of crucial economic questions, ranging from the very nature of economy from the broader questions of how financial transactions can work, down to the individual economies of everyday lives.
The global economy has been thrown off course; aside from the clear threat to health from Covid-19, there are major economic ramifications for the foreseeable future. In March 2020, the Dow and the FTSE each faced their largest one day falls since the crash of 1987. In just 33 calendar days, the S&P 500 shed 34% of its value. The declines seen in the US and UK were echoed by similar falls in Europe; in France, Germany and Spain all of the main stock market indexes closed close to 8% lower. Asian markets also suffered. In China, the Shanghai Composite dropped 3%, while in Hong Kong, the Hang Seng index was down 4.2%, Japan’s Nikkei 225 index plunged 5.1% while the Australian ASX 200 plummeted by 7.3%, in the largest daily fall since 2008.
The 2020 crash, as it is becoming known, has widely been compared to the market fall of 1987. Whilst it is true that both happened extremely quickly, and almost without warning, wiping out much of the gains made in previous years, the scale and extent of the current devastation is likely to be in a different league altogether. In previous crashes, this was mainly attributed to a broken link within the system, which in 2008 was manifest in the sale of hundreds of billions’ worth of unstable collateralised debt obligations (CDOs) on to investors. But in the present economic situation, this is an external threat, a worldwide pandemic. Another significant difference between the two crashes, is that whilst the 1987 credit crash came on a buoyant market, albeit one overburdened with debt, in this year’s crash, not only has the overall global economic framework been experiencing a noticeable slowdown, but the necessary measures enacted to control the virus will result in a prolonged and unprecedented suppression in economic activity.
Signs that economy will suffer a steeper crisis than in 2008, and a more protracted recovery than in 1987, are mounting. Following the panic in the markets, central banks all over the world responded by slashing interest rates. Initially, the market’s response was promising. Since the end of March, the S&P index appeared to hold firm amidst the economic and political storm. However, this apparent positivity may not square entirely with the economic reality. The S&P index in early July 2020 reached the same level, 3,130, as it had in mid-November 2019, before there was even a hint of Coronavirus in the world stage. Several notable billionaire investors have issued their own concern about the overvaluation of the market, emphasising the disjuncture that sees the stock market divorced from real economic conditions.
The IMF predicted in mid-April that the global economy would contract by 3%. However, by late June, the IMF revised its estimates, claiming that the decline in growth was far more severe than previously forecast. UN forecasters were also forced to revisit optimistic estimates of the number of global job losses due to Coronavirus, which were initially pitched at 25 million.
At the worst point of the 2008 recession, more than 750,000 job losses were recorded in the U.S. every month. In 2020, with record unemployment figures being reported each week, the trajectory of U.S. unemployment looks set to rise far beyond even the bleakest points of the 2008 crisis. Indeed, the unemployment figures released for late March, 3.28 million unemployment claims, were the largest ever seen in US history.Three months later, redundancies were reported at a little under 20 million, although there were clear signs that this obscured the full extent of the situation. Whilst the official unemployment rate on 25th June was 13%, it is estimated that in reality, one fifth of the U.S. workforce was claiming benefits. The reason for such a dramatic difference lies in the discrepancy in how the data is recorded; to be marked as ‘officially’ unemployed in the U.S., one must be ‘actively’ looking for work. However, to receive unemployment benefits, there is no compulsion to look around, especially if there are no employment opportunities. The unsettling incongruity of the recording of the unemployment figures is also apparent in the serious disparity in the recorded data for deaths attributed to Covid-19, not just in America but across the globe. The data discrepancy was highlighted by the revelation from a former Florida data official that the state had been manipulating its reported figures for deaths determined to be caused by the virus. It is interesting to note that as South Florida remained the hotspot for Covid-19, accounting for over 50% of state-wide cases, Rebekah Jones, the former manager of the state-wide reporting, was fired suggesting that there was data manipulation.
A further point of concern is levels of state debt, which, worldwide, have reached levels beyond even the worst point of the second world war. At time of writing, global debt has exceeded $78 trillion, and continues to rise. As every country continues to become more indebted, it seems only logical to question who can possibly remain solvent enough to buy up the debt. Indeed, debt has also been firmly stitched into the operations of the banking sector. The financial crisis of 2008 was defined by Wall Street banks, playing risky and central role in the refashioning of debt. Debt was repackaged, mortgages were placed into bundles of complex derivatives called CDOs, stuffed with precarious mortgages. Banks passed these bundles to ratings agencies, who overvalued them, labelling them with double and triple A ratings. The ratings agencies were internally fragmented and missed the risk that all of those homebuyers might default at the same time.
It might be assumed that the banks had reformed since 2008, in fact debt still makes up the majority of the liquidity of the largest banks in the planet. Yet today, it comes in the form of the collateralised loan obligations (CLOs). Though the same CDOs that sowed the seeds of the financial crisis have been condemned to history, CLOs are more popular than ever, despite using the same formula as in their previous incarnation. This formula has now been applied to companies, and not consumer mortgages. When the Financial Stability board examined this situation in December 2019, they reported that for the 30 “global systemically important banks,” the average commitment banks had invested in leveraged loans and CLOs totalled roughly 60% of their capital. As of 31st March, it was revealed that Citigroup had $20 billion worth of CLOs, whilst JPMorgan Chase reported an exposure of $35 billion, alongside an unrealised loss on CLOs amounted to $2 billion. Meanwhile, mid-size banks, including Banc of California and Stifel Financial, disclosed CLOs equating to over 100% of their capital. Were this market to implode, such liabilities could very quickly exceed total assets.
Whilst the burden of debt appears to continually be pushed for successive generations to negotiate, it appears global, corona-triggered economic devastation has already kicked in. Oxford Economics cautioned that global growth could see a decline of 1.3% this year, equalling $1.1 trillion in lost income. China’s economy contracted consecutively from January until June 2020 for the first time in decades, signalling the start of a recession, though the potentially devastating economic impact of the coronavirus remains a long way off being fully realised.
Coronavirus: What is it, how is it transmitted, and can it be passed on via cash?
Whilst the economic implications of the virus are steadily becoming clearer, public understanding and acceptance of the virus and resulting government legislation has been tentative, at best. There is still no clear understanding about the specifics of its transmission. The most rapid means of infection appears to be through respiratory transmission, through short range large droplets, and airborne transmission, which allows much smaller particles to be spread over extended distances. According to a study published in the New England Journal of Medicine (NEJM), airborne transmission is by far the most challenging form of transmission to control; estimates suggest that the virus can live in the air for up to three hours.
Given the novel features of this strain of coronavirus, whilst studies have been conducted on paper money and coins as potential vectors of bacteria and transmissible disease, and examined the resistance profile of pathogenic bacteria on specific notes, as yet, no scientific studies have identified if the coronavirus is spread specifically through banknotes or coins. Current estimates of paper banknotes suggest the virus can be held for up to 2 hours. However, implications of the findings in the NEJM are that the virus can live up to three days on plastic, the material which credit cards and with similar properties to polymer banknotes, which are used in circulation across 30 countries in the world. Nonetheless, though no medical evidence has been found to prove the danger of transmission that cash could posit, according to a recent study on the effect of Covid-19 on the use of cash by the Bank for International Settlements, the perception alone that cash be a vector for the spread of pathogens may be enough to change payment behaviour for both consumers and firms.
The implications of disinformation
Amid the panic of Covid-19 and the efforts to combat the outbreak , a further threat has emerged. Disinformation campaigns appear to have been accelerated by undercover groups thought to originate in countries such as Russia, China and Iran, with the intention to confuse the public understanding of how the virus is transmitted. This recently extended to cash transactions, when an analysis on the spreading of Coronavirus by the World Health Organisation was widely misinterpreted as stating that “cash could be spreading the coronavirus.” While this was denied by the WHO, nevertheless the idea was widely circulated to the extent that it incited a common concern about the capacity of cash to transmit the virus.” Covid-19 related disinformation also appears to have been aimed at a much more systemic target. In June, the EU’s foreign affairs high representative, Josep Borrell, formally accused China and Russia of launching a targeted “flood” of coronavirus disinformation. These disinformation campaigns, he alleged, were orchestrated to undermine European democracy.
This kind of disinformation appears to be widespread, and impacts not only on health and political issues, but directly on the economy. In response, many governments have hurriedly introduced legislation to try and combat the issue. Azerbaijan’s parliament passed a bill banning information posted online that “poses a threat to the life, health, and property of the population, or public safety”. South Africa’s government followed suit, criminalising statements engineered to deceive regarding Covid-19 or the government’s response to the pandemic, and many governments have acted similarly. Institutions such as the United Nations have also launched a response to such campaigns. In early July, the UN launched a disinformation verification unit made up of 10,000 volunteers. According to Melissa Fleming, the under-secretary-general of global communications for the UN, disinformation is “easier to spread” than the virus itself, and without effective communication, the repercussions – political, social and economic – will be devastating.
Cash in or cash out: The global response
Before the pandemic, bills and coins were used for 80% of transactions throughout Europe. Though the pandemic has catalysed the move away from cash, initial observations suggest it unlikely that cash can be eliminated entirely as a result of Covid-19. So far, the response of states and their respective banks has been diverse; revealing their differing attitudes towards the relationship between cash and Covid-19. Following the announcement of institutions such as the Blue Ware Bridge, which connects the United States and Canada, that cash would no longer be accepted at the tolls, the Bank of Canada issued a statement asking retailers to continue to accept cash, declaring that:
“During this time of heightened public health measures intended to limit the transmission of Covid-19, some consumers and businesses are choosing not to use cash to limit potential exposure. Refusing cash could put an undue burden on people who depend on cash as a means of payment. The Bank strongly advocates that retailers continue to accept cash to ensure Canadians can have access to the goods and services they need.”
Other state responses have been more radical. China’s central bank announced that it had blocked the passage of bank notes across provinces, and between cities most affected by the deadly outbreak. The bank also revealed that they had been disinfecting potentially contaminated cash with ultraviolet light and high temperatures, and in some instances, destroying it, a practice echoed by the central bank in South Korea. The BOC declared that decontaminated cash would be stored for seven to 14 days before it could re-enter the market, whilst banks would only release new bills which had already been sterilised. The central banks in Poland, South Korea and the United States Federal Reserve also announced that cash would be quarantined in the respective banks for at least 14 days. In Oman, multiple banks including the National Bank advised consumers to use contactless payments. Iran, located at the epicentre of the outbreak, issued a statement through its health ministry urging its citizens to stop using banknotes altogether.
However, other states have been more ambivalent in their transition from cash to digital solutions. Many Italians are wary of online payment systems, viewing them as an method of extorting more money from consumers. According to the Digital Economy and Society Index published by the European Commission, as of 2019, three out of ten Italians were not yet regular internet users, whilst more than half of the population still lacked basic digital skills. Italy remains a highly cash-based economy, and according to the central bank, 86% of transactions are still paid for using notes and coins. Despite this, the Coronavirus epidemic has, in some estimates, catalysed a reversal in public opinion surrounding cash. This was formally introduced by the Italian economy minister, Roberto Gualtieri, who said in December 2019 that the government intended to bring about a “cultural change in Italy . . . to change the behaviour of consumers and align them more closely to the most virtuous of other European countries.” In France, where cash reigns the vector of choice for over 50% of transactions, some businesses have had to weigh up the health risks with their legal obligation. The law in France, so far unchanged throughout the peak of the pandemic, stipulates that businesses, despite concerns raised over the health risks of its use, must accept cash of up to three thousand euros.
In the United States, 14.1 million adults still do not possess bank accounts, let alone debit or credit cards. As the Federal Reserve observed in November 2018, cash continues to be the most commonly used payment mechanism, representing 30% of all transactions and 55% of all transactions under $10.The rise of cashless-only transactions, exacerbated by the Coronavirus epidemic, prompted many cities across the US, including New York City, San Francisco, Philadelphia and the state of New Jersey to pass legislation to require cash acceptance. Defending this shared position, New York City Councilman Ritchie Torres argued that “from a public policy perspective, cash is the language that our economy speaks.” In Mexico, new forms of cashless initiatives such as the “Afirme E-Fectiva” card, a contactless debit card exclusively for corporate clients, are slowly being introduced. However, it remains the case that 90% of consumer payments are made in cash, whilst almost half of all households do not possess bank accounts. In these states, for now at least, cash remains a vital lifeline.
For a handful of credit card companies, banks and digital platforms, the pandemic has created an unprecedented opportunity. It seems inevitable that such companies will capitalise on this moment of crises to advance the transition towards a cashless society, nudging consumers and retailers to utilise cards and smartphone apps which yield lucrative fees. In the UK, following government instructions surrounding shop closures and social distancing, cash usage halved in a matter of days. Since then, the increase of the contactless limit from £30 to £45 has made cash ostensibly redundant for many consumers. It is not just consumers who have had to negotiate the shift to cashless operations. The cost of use, maintenance and security of contactless operations can amount to a considerable chunk of profit for those who use it. Small businesses, particularly those who operate with tight margins must, however slight the transaction, bear the cost. The smaller the transaction of course, the larger the fractional fee charged for the service.
Can we afford to go cashless?
For some groups, such as low-income households, switching to online banking is a near impossibility, even in highly economically developed states. With the infrastructure supporting Britain’s cash distribution network totalling £5 billion a year, it may still seem counter-intuitive that a country would continue to plough so much money into the production and distribution of cash amongst so many new contactless players. However, the reasoning behind this, according to HM Treasury, is that in the UK, over 15% of people earning under £10,000 a year are dependent on cash, compared to less than 2.5% of all higher income groups. Phasing out cash, it is argued, could disenfranchise 8 million elderly and vulnerable members of society, who depend on the infrastructural lifeline of physical payment systems. This fear was repeated before the lockdown, as the Financial Conduct Authority warned that many older people would be unable to continue using cash for their daily transactions, and the severity of the pandemic would be force them to bank online for the first time. Yet, new analysis by the Halifax banking group seems to indicate that their older banking customers have got to grips with online banking. In the 28 days following the announcement of national lockdown, the number of over-65s who signed up to online banking grew by 63%, compared to the 28 days previous. Similarly, the number of contactless card payments made by over-65s also climbed, from 54% to 62% in the space of one month. Echoing this trend, in Ireland, over-65s now use contactless payments as often as 25 to 34 year olds, according to research from AIB. Its customers, the bank claims, also now spend 30% more through contactless payments as a result of the pandemic, following the to move to set €50 as the new contactless limit at the start of April. the move away from cash, for the states that have been able to facilitate it, has been attained with a rapidity critics may struggle to admit.
For advocates of a cashless society, one of the clear deterrents against the continued use of cash throughout the economy is the toxic shadow economy which cash sustains. In October 2019, Italy’s black market was reported to be worth €211 billion, or 12.15% of the economy. The IMF’s latest survey showed that the black market in Greece stood at 30.2% of overall GDP in 2016, and even for highly developed economies such as Switzerland, the illicit market still siphoned off 9.8% from the economy. In 2016, DNB, Norway’s largest financial services group, publicly called for the government to outlaw cash altogether. The group observed that 60% of cash transfers in the country were made without the banks’ control, and thus could be used for illicit purposes. The bank’s executive, Trond Bentestuen, described how:
Today, there is approximately 50 billion kroner in circulation and [the country’s central bank] Norges Bank can only account for 40 percent of its use. That means that 60 percent of money usage is outside of any control. We believe that is due to under-the-table money and laundering.
These are sizeable leakages, which given the febrile economic climate, require serious consideration. However, when governments seek to legislate to rake back the lost incomes drawn out by the shadow economy and money laundering, they run into inevitable difficulties. One of these difficulties lies in the continued case for high denomination currency. Though the state prints and distributes the notes, it is criminals – engaging in illegal activities such as money laundering or tax evasion – who can make use of the characteristic portability of cash; one million pounds in £50 can fit in a suitcase. In 2016, a report by the economist and former CEO of Standard Chartered, Peter Sands, argued that the notes were fuelling criminal activity, and played “little role in the functioning of the legitimate economy, yet a crucial role in the underground economy.” In the U.K., the public consultation in 2018 issued by the Treasury found that the notes were “rarely used” for normal purchases, an argument which prompted suggestions to abolish high denomination notes altogether, although interestingly, the committee decided otherwise. Elsewhere, many countries have taken a firmer stance on the matter. In 2016, the ECB ceased production of the 500 euro note. Denmark followed by banning the note altogether, due to money laundering concerns.
Yet, whilst reducing the presence of notes (of all denominations) may have the appeal of reducing activity in the black economy, there may be unintended consequences. When one system is eradicated, criminals seek to find the next alternative. In the current financial infrastructure, one alternative is credit, debit, and contactless payments. In the U.K., in 2018, losses on UK-issued cards totalled £671.4 million, whilst figures released for contactless card fraud amounted to £1.18m. With the popularity of contactless cards set to increase further in 2020, increased incidents of contactless fraud are exceedingly likely.
Cashless and proud: States forging the future
For those states that have pioneered cashless transactions, namely in Scandinavia, fears stemming from the Coronavirus and its retention on cash have not had the same attention as has been afforded to their European neighbours. In Scandinavian countries, 90% of transactions are already electronic, level only with South Korea. Sweden has led the charge for centuries; it was the first country to adopt banknotes in Europe in 1661, intends to introduce its own digital currency in 2021, and looks to become the first world’s cashless society in 2023. Currently, less than 1% of all payments are made using coins or notes, and 90% of Swedes bank online, and use more mobile data than any of the other 35 other developed countries aside from South Korea. Back in 2013, Swedish banks made the unprecedented decision to stop handling cash altogether. Banks such as SEB, Swedbank and Nordea Bank refused to hand over or accept physical currency to customers in 75% of their branches. In December 2019, The Riksbank announced significant developments with its e-krona project, which is currently in the testing stage. Whilst not classified as a cryptocurrency, the digital currency utilises blockchain technology. According to previous reports from the original pilot, it appears the e-krona will be centrally managed, such that the central bank will have total control over money supply.
China is already well into developing a cashless infrastructure, though at present it remains reliant on cash. However, the country has capitalised across the payments industry in products such as AliPay, an offshoot of Alibaba and Tencent company WeChat Pay, an offshoot of WeChat, successfully linking electronic and mobile commerce, social media, and the accompanying digital payment methods. In just a decade, China has developed and integrated cashless instruments into society at an extraordinary rate. Both Alipay and WeChat Pay have over 1 billion users each.Over 90% of the Chinese population use either one of these platforms as their primary method of payment may certainly concern those who worry about the rights of consumers, faced with such a restricted menu of financial products, coupled with the new opportunities for surveillance that come with it. Nevertheless, according to the 2018 World Cash Report, 84% of the Chinese population surveyed reported that they could accept a totally cashless life.
Could crypto be next?
With the economic ferment that Coronavirus is producing in the world economies, the time may be ripe for a consolidated move into cryptocurrency, as fiat currencies have proved ineffective and destructive. Indeed, Bitcoin emerged out of the 2008 crisis in response to banks’ bail outs and reckless monetary policies, at a moment which offered a unique opening for new financial systems to emerge. As the world has moved on electronically, to many, cryptocurrencies are the next logical step.
Introduced as the first open source, decentralised, peer-to-peer cryptocurrency, Bitcoin has emerged as by far the most popular cryptocurrency. The architects of the technology underpinning Bitcoin attempted to design a recession-proof transaction mechanism, with the inclusion of a hard-code, programmed digital scarcity, and a regularly scheduled reduction in supply. Bitcoin was designed in order to facilitate transactions without a traditional intermediary such as a central bank, and was ostensibly hardwired to be able to cope with crises, given the crash of 2008 guided its inception.
Since the emergence of Covid-19, cryptocurrencies such as Bitcoin have experienced a run on investment. In January 2019, before the virus had manifested itself throughout Europe and America, Bitcoin was seen to be durable, set against the tumult the markets were undergoing.However, by mid-March 2020, the price of Bitcoin had fallen to its lowest point in nearly a year. The impact of coronavirus caused a major cryptocurrency sell-off which led to a series of crashes in Bitcoin, alongside the losses in currencies across the board. In less than one hour of trading, Bitcoin lost 20% of its value,The following day, its value was stripped by 40%, along with its ‘safe’ reputation. As one analyst described,
previously seen as a possible safe haven in difficult times, investors now seem to be selling out to take back liquidity in case the coronavirus spreads even further. In a time of uncertainty, many investors might feel it is better to own cash or gold rather than more speculative cryptocurrencies like Bitcoin.
Yet by the close of April, Bitcoin recovered almost all the losses it had incurred throughout the March crash, faster than most other assets. Indeed, until the middle of June, Bitcoin outperformed gold and oil, and has crowned the best performing asset of 2020. Discussing its position in relation to other assets, the multi-millionaire investor Robert Kiyosaki, described how Bitcoin, together with other cryptocurrencies, was “now challenging the hegemony of the U.S. dollar and other fiat currencies.” Even JPMorgan, whose chief executive in 2017 described bitcoin as a “fraud,” launched the first US bank-backed cryptocurrency in February, the JPM coin,and took on the cryptocurrency exchanges Coinbase and Gemini in May, cementing their interest in the crypto market. In June, JPM officially re-evaluated their position, describing Bitcoin as “mostly positive,” and noting that cryptocurrencies have “longevity as an asset class.” It is the long term value that Bitcoin has displayed, amidst stock market volatility and immense upheaval, which looks to motivate a sustained increase in its adoption by investors.
In order to protect investments, there are many measures that those exploring business ventures involving crypto may consider to guard against volatility. Given the speculative nature of the coin, it is important that investors are highly responsive to global events which can substantially devalue assets. Moreover, in order to avoid future disputes around the dissipation of assets, proper “know your customer” (KYC) investigations, alongside the identification of brokerages and the ultimate beneficial owner (UBO) are vital measures which should be conducted early on. Such precautions can avoid future costly litigation, and more pertinently, a catastrophic loss of assets.
There are clear signals to indicate that cryptocurrencies, namely Bitcoin, are to be taken seriously. In February 2020, a French court ruled that a loan involving Bitcoin should be viewed as a consumer loan, placing Bitcoin for the first time in the same bracket as money and other financial assets in France. Similar attention has been paid to Bitcoin by countries like Abu Dhabi, which amended its virtual asset legislation to meet the FATF standards, alongside Germany and South Korea, which was an especially dramatic turnaround given that anonymous cryptocurrency transactions were banned several years earlier. Further evidence to support the case for cryptocurrency adoption was supplied in March 2020, following a supreme court ruling in India which overturned the central bank’s 2018 ban on banks transacting with cryptocurrency firms. Collectively, these policies allow for stronger legal recognition and consumer rights, which also making cryptocurrency transactions with banks easier than ever. As the use of Bitcoin become more normalised, the array of its potential uses are still being discovered. One thing is certain, it should not be dismissed.
As the Coronavirus runs its course, there have been many warnings that Covid-19 is a Black Swan, a term coined in 2007 by the mathematician and investor Nassim Nicholas Taleb, to describe an event which disturbs the system, lies outside the realm of regular expectations, carries an extreme impact and makes us rationalise its occurrence after the fact. The initial signs look bad: the worldwide economic system has been thrown off course, whilst an international wariness takes further root. The economic trajectory is unclear, and it may still be unclear in 6 months’ time. Until a vaccine emerges, or a method to prevent outbreaks, nothing can return to normal. What has emerged, is that contrary to expectations, people have adjusted to a cashless economy. But whilst the transition has been swift, it is not possible to shift a culture overnight. Cash is not going to disappear, but it will continue to decline, and Covid-19 is accelerating that trend.
Early signs indicate that Bitcoin and other cryptocurrencies will not only survive Covid-19 pandemic but live to see many more crises in the future. With the growing market in cryptocurrency lending, and multiple policies issued by states to recognise and legislate for cryptocurrency, the prospects for Bitcoin appear to be rosy, and it is well placed to replace traditional banking services in the coming years. However, the increased uptake inevitably brings increased opportunities for fraud. Preparing for such scenarios and bearing in mind the innate volatility of Bitcoin is well advised. Optimal preparation includes KYCs and thorough due diligence before investing, and the monitoring of global events to keep abreast of volatility during the investment. Whilst it is not possible to predict crashes in the market and future litigation disputes, should a catastrophic event such as Coronavirus occur again, and a future opportunist seek to dissipate those assets, ensuring a thorough investigation has occurred before, and during investments is the best possible armoury to protect an investor in the volatile climate we are living through, and are yet to experience.