This is an interesting article which in essence deals with the subject of the risk of owning various forms of money. I've added my thoughts and possible implications for gold.
Narrow Bank applied to the Fed to collect deposits from institutional cash investors and deposit it with the Fed. Money deposited with the Fed is considered the safest form of cash investment and banks regularly park excess reserves with the Fed where they recieve a higher rate of interest than in the tri-party repo market (one of the largest markets out there). This extract from the article above basically explains the Narrow bank proposal to the Fed.
"We talked last year about a thing called TNB USA Inc. “TNB” stands for “The Narrow Bank.” The idea of the Narrow Bank is that you can open a bank account with TNB, and it will take your money and park it at the Fed, and that’s it. The Fed will pay it 2.4 percent, and it will take a small cut, and it will pass the rest on to you. Depending on the exact structure of interest rates, you may end up getting a bit more interest than you would in the repo market. And because TNB only takes money and parks it at the Fed—because it is only a pass-through for Fed accounts, and never invests your money in trading or derivatives or mortgages or business loans or even Treasuries—and because Fed accounts are perfectly, uniquely safe, you might decide that this is the safest possible place to keep your money, safer than repo or regular bank accounts or anything else. (Again, “you” here means large institutional cash investors like money-market funds; TNB was not offering retail accounts.) There is an obvious appeal."
The Fed's response to Narrow bank's application was NO and these were the objections raised
"The Fed raises three main objections. 3 The first is macroeconomic: The Fed worries that narrow banks could mess with the implementation of monetary policy, because if they succeed they will keep a lot of money at the Fed, increasing the size of its balance sheet. 4 They might also make other short-term interest rates (like fed funds) more volatile, because people who would otherwise participate in those markets might park their money at narrow banks instead, making it harder for the Fed to target interest rates.5
Second, it worries that narrow banks will take funding away from regular banks, making it harder for those banks to trade stocks and bonds (a business largely funded by repo), and maybe even making it harder to make loans:
Lenders in the overnight general collateral (“GC” repo market could find PTIE deposits more attractive than continued activity in the overnight GC repo market. If the rise of PTIEs were to reduce demand for GC repo lending, securities dealers could find it more costly to finance their inventories of Treasury securities. Such a development could impair the liquidity of the repo market, making it harder for banks to monetize Treasury securities in times of stress and raising the overall cost of Treasury borrowing. A decline in the robustness of the repo market could also have implications for the success of the decision of the Alternative Reference Rates Committee to base LIBOR’s replacement on the U.S. Treasury repo market.
PTIEs could also diminish the availability of funding for commercial banks generally. To the extent that deposits at PTIEs are seen as a more attractive investment for cash investors that currently hold bank deposits, these investors could shift some of their investments from deposits issued by banks to deposits with PTIEs. This shift in investment, in turn, could raise bank funding costs and ultimately raise the cost of credit provided by banks to households and businesses.
Third, the Fed worries that having too safe a bank would be bad for financial stability: In times of stress, everyone will flee from the regular banks to the super-safe narrow banks, which will have the effect of bringing down the regular banks.
Deposits at PTIEs could significantly reduce financial stability by providing a nearly unlimited supply of very attractive safe-haven assets during periods of financial market stress. PTIE deposits could be seen as more attractive than Treasury bills, because they would provide instantaneous liquidity, could be available in very large quantities, and would earn interest at an administered rate that would not necessarily fall as demand surges. As a result, in times of stress, investors that would otherwise provide short-term funding to nonfinancial firms, financial institutions, and state and local governments could rapidly withdraw that funding from those borrowers and instead deposit those funds at PTIEs. The sudden withdrawal of funding from these borrowers could greatly amplify systemic stress."
What essentially this means is that there are institutional cash investors out there that are not banks that are looking for pure money exposure with zero counter-party risk. The Fed has basically said that opening their money accounts to these proposed schemes would tend to increase financial instabilty by providing a nearly unlimited supply of safe-haven assets during periods of market stress, ie if these schemes were allowed to exist they would essentially allow a real avenue for "a run on the whole system". That's my interpretation.
Well this seems to me to explain why the Fed doesn't like gold either because gold is also money without counter-party risk that can be turned to if there is a "run on the system". Whether gold has unlimited safe haven supply or not is debatable. Clearly the physical supply is not unlimited but there is nothing stopping the price rising to levels where smaller and smaller quantities become more valuable in severe market stress situation.Esh
repo market could find PTIE deposits more attractive than continued activity in the overnight GC repo market. If the rise of PTIEs were to reduce demand for GC repo lending, securities dealers could find it more costly to finance their inventories of Treasury securities. Such a development could impair the liquidity of the repo market, making it harder for banks to monetize Treasury securities in times of stress and raising the overall cost of Treasury borrowing. A decline in the robustness of the repo market could also have implications for the success of the decision of the Alternative Reference Rates Committee to base LIBOR’s replacement on the U.S. Treasury repo market.
