Published on All About Finance

The “accounting view” of money: money as equity (Part III)

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In part I of this blog, we discussed the implications of our proposed “Accounting View” of money as it applies to legal tender. In part II, we further elaborated on the implications of the new approach, with specific reference to commercial bank money. We conclude our treatment of commercial bank money in this part, starting from where we left, that is, the double (accounting) nature of commercial bank (sight) deposits as debt or equity.

Bank deposits: debt, equity, or both…?

This double nature is stochastic in as much as, at issuance, every deposit unit can be debt (if, with a certain probability, the issuing bank receives requests for cash conversion or interbank settlement) and equity (with complementary probability). Faced with such a stochastic double nature, a commercial bank finds it convenient to provision the deposit unit issued with an amount of reserves that equals only the expected value of the associated debt event, rather than the full value of the deposit unit issued.

“Stochastic” refers to the fact that, ex ante, a bank creating one unit of deposit expects (probabilistically) that only a share of that unit will translate into debt, while the remaining share (still probabilistically) will not be subject to requests for conversion or settlement. The share of debt-deposits (or equity-deposits as its complement) is a stochastic variable that is influenced by behavioral and institutional factors (for example, cash usage habits or payment system rules) as well as contingent events. For example, in times of market stress, the share of debt-deposits tends to increase, while it tends to be lower when there is strong trust in the economy and the banking system in particular. Policy and structural factors that strengthen such trust (for example, the elasticity with which the central bank provides liquidity to the system when needed or a deposit insurance mechanism) increase the share of equity-deposits.

This argument is evident when applied to the whole banking system, but it holds for each individual bank—albeit to different extents, depending on the size of each bank for a given settlement system and cash usage.1 From the discussion so far, it follows that, all else being equal, the stochastic share of debt-deposits for a small bank is greater than for a larger bank. Vice versa, the larger is the bank, the greater is the share of equity contained in its deposit liabilities.

Accounting principles

The stochastic double nature of bank money is consistent with the principles of general accounting as defined in the Conceptual Framework of Financial Reporting, which sets out the concepts underpinning the International Financial Reporting Standards (IFRS). According to the Framework,

 “A liability is a present obligation of the entity to transfer an economic resource as a result of past events”.2

Financial reports represent economic phenomena in words and number. To be useful, financial information must not only represent relevant phenomena, but it must also represent the substance of the phenomena that it purports to represent. In many circumstances, the substance of an economic phenomenon and its legal form are the same. If they are not the same, providing information only about the legal form would not faithfully represent the economic phenomenon. 3 [emphasis added]

In light of these definitions, sight deposits are a hybrid instrument - partly debt and partly revenue. The debt part relates to the share of deposits that will (likely) be converted into banknotes on demand or into reserve for settlement purposes, and reflects the "substance" of the obligation underlying the deposit contract. The revenue part, on the other hand, relates to the share of deposits that will (likely) never be converted into banknotes or reserves, and reflects the mere "legal form" underlying the deposit contract. This share of deposits is a source of revenue. Once accumulated, this revenue becomes equity.

Now, since there is no accounting standard governing hybrid revenue-liability instruments explicitly, International Accounting Standards (IAS) 32 applies (in force of IAS 8) and provides that, in the context of a hybrid liability instrument, the debt component must be separated from the equity one.4 From such separation derives that, once the debt component is identified, the residual left is the equity component.5 In the case of deposits, the share of deposits that (probably) will not translate into debt represents retained earnings (that is, equity).

The application of IAS 32 is a textbook case. It implies that the balance sheet of the issuing bank should report among debts only the share of deposits that gives origin to a “probable” outflow of economic benefits, while the residual share should be reported in the income statement as revenue. Moreover, since the share of profits attributable to this revenue is undistributed, it would add to the bank’s equity in its financial position statement.

To support the validity of the approach here proposed, consider IAS 37 (governing risk provisioning, charges, and contingent liabilities).6 This standard considers as debt all commitments that fall under the Framework’s definition of “liability,” that is, those that generate outflows of economic benefits with a probability greater than 0.5. Below such threshold, the liability is a contingent liability and must only be reported in the notes to the financial statements.

The implication is inescapable: the existence of legal claims is not per se sufficient for a liability to be considered as debt; the essential requisite is the probable outflows of economic benefits. In the case of bank money, the share of deposits that are not debt must be regarded as revenue, and since such revenue is not reported in the income statement, it constitutes retained earnings (or equity).


The double nature of commercial bank money draws its origin from the power of banks to create a form of money that only partly has the nature of debt. A critical implication is that a relevant share of deposits that banks report in the balance sheet as “debt toward clients” generates revenues that are very much similar to the seigniorage rent extracted by the state through the issuance of legal money (coins, banknotes, and central bank reserves). As discussed elsewhere,7 such type of seigniorage represents a structural element of subtraction of net real resources from the economy, with deflationary effects on profits and/or wages, distributional consequences, and frictions between capital and labor, which should all be studied carefully.


Bossone, B. 2000. “What Makes Banks Special? A Study of Banking, Finance, and Economic Development.” Policy Research Working Paper 2408, World Bank, Washington, DC.

———. 2001. “Circuit Theory of Banking and Finance.” Journal of Banking and Finance 25 (5): 857–90.

———. 2017. “Commercial Bank Seigniorage: A Primer.” World Bank, Washington, DC.

1 Size here refers to the volume of payment transactions that the bank intermediates relative to the total payment transactions in the system.

2 Section 4.26 of the Conceptual Framework.

3 Section 2.12 of the Conceptual Framework.

4 Specifically, IAS 8 (Sections 10-11) requires that, “In the absence of an IFRS that specifically applies to a transaction, other event or condition, … management shall refer to, and consider the applicability of, the following sources in descending order:
(a) the requirements in IFRSs dealing with similar and related issues; and
(b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Framework.”

5 See IAS 32, Sections 28 It is noteworthy that, in the case ruled by the quoted standard, the hybrid instrument has the double nature of “liabilities-capital” and not “liabilities-revenue”; however, capital and retained earnings belong to equity. Briefly, equity can be shared into at least two major components: capital and other ownership's contributions on the one hand, and retained earnings on the other. IAS 32 provides regulation for splitting hybrid instruments between a part attributable to liabilities and a part attributable to equity. Based on the definitions of the Framework, once the component recognizable as debt liability is identified, the residual component is attributed to equity.

6 See IAS 37, Section s 12-13, where the fundamental distinction is drawn between the adjective "probable" for debt liabilities and the adjective "possible" for contingent liabilities to be reported in the notes to the financial statements.

7 See Bossone (2000, 2001, and 2017).

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