The Bank of Amsterdam and the limits of fiat money

Research highlights:

• Rising interest rates and losses on central bank balance sheets draw back attention to old questions about the relevance of central bank equity;
• Central banks can operate with negative equity for a time but there are limits. We model the failure of the Bank of Amsterdam (1609-1820) using a global games approach. Our analysis indicates that trust in fiat money is more likely to evaporate when central bank equity is more deeply negative, assets are more illiquid, alternatives to fiat money are more readily available and when economic fundamentals are weaker;
• Although there are many differences with the current situation of above-target inflation and losses on central bank portfolios, our analysis strongly suggests that credible fiscal backing remains critical.