A Slimmer Federal Reserve Master Account Could Pave the Way for Narrow Banking

During my tenure at the Federal Reserve, our role was often jokingly referred to as preserving the status quo. The Fed's primary objective has traditionally been to ensure financial stability, rather than to disrupt it. However, Fed Governor Chris Waller's recent speech, in which he proposed the creation of a new payments account for non-bank payment providers, marks a significant departure from this approach. This proposal, presented at the Fed Payments Innovation Conference, challenges the long-held assumption that only banks are authorized to facilitate money movement in the US and have access to the Fed's balance sheet. In 2023, I noted that stablecoins were at the forefront of the battle for the future of money, with the real contest being over who would have access to the monetary system - banks, fintechs, or decentralized networks. Two years later, Waller's proposal brings this battle to the Fed itself. Unlike the UK and EU, which have comprehensive frameworks for payment providers, the US lacks a federal payments charter, forcing non-banks to navigate 50 state money transmitter laws or rely on bank partnerships. The Office of the Comptroller of the Currency's proposed fintech charter never gained traction, resulting in a regulatory vacuum that drove innovation into the gaps and enabled stablecoin issuers to become de facto payment companies in the digital era. However, these issuers lack access to Fed payment rails and typically require partnerships with banks. Governor Waller's proposal for a 'skinny master account' would provide eligible non-bank institutions with direct access to the Federal Reserve's payment rails, albeit without the traditional privileges afforded to banks. These accounts would not earn interest, could be subject to caps, and would not have access to daylight overdraft or discount-window facilities, with their sole purpose being to facilitate payments. For decades, every US transaction has ultimately relied on a bank's account at the Fed, with fintechs, card networks, and digital wallets innovating in partnership with banks. A payments account would change this paradigm by creating a narrow, supervised corridor into the core monetary infrastructure, effectively establishing a US payments charter through access to the Fed system rather than through legislation. In many ways, Waller's proposal revives the concept of narrow banking, which separates the payments function of banking from the credit creation function. Narrow banks hold high-quality, liquid assets and exist to move money, not to lend it. This concept has resurfaced repeatedly since the 1930s but has never gained traction in the US - until now. The proposed payments account could also redefine the role of stablecoins within the monetary system. Payment stablecoin issuers already operate as a form of narrow bank, holding fully-backed reserves and facilitating payments rather than lending. However, the GENIUS Act does not provide them with direct access to Fed payment rails, the one step that would integrate these stablecoin issuers into the US monetary system. If stablecoin issuers could hold reserves directly through a Fed payments account, their tokens would be backed by central bank money itself, providing the Fed with expanded tools to manage systemic risk stemming from payment stablecoin issuers and bridging the divide between private and public digital dollars. Stablecoins backed by Fed payment accounts would also offer a viable alternative to a retail central bank digital currency. Governor Waller has long been skeptical of a Fed-issued central bank digital currency, and his payments account proposal suggests a middle way: allowing the private sector to innovate at the front end while maintaining the Fed as a trusted settlement layer behind it. During my time at the Fed, preserving the status quo seemed synonymous with preserving financial stability. However, stability also depends on adaptability, including central banks' ability to innovate in order to maintain control of their monetary levers. As Giuseppe Tomasi di Lampedusa's novel The Leopard aptly puts it, 'If we want things to stay as they are, things will have to change.'