Is Tokenization the Next Big Macro Shift?

In this IBKR Podcast Episode, Michael Normyle from Nasdaq joins us to explore how tokenization is transforming collateral, liquidity and the speed of modern markets. Join us as we unpack what this shift could mean for investors and the future of finance.

Summary – IBKR Podcasts Ep. 378

The following is a summary of a live audio recording and may contain errors in spelling or grammar. Although IBKR has edited for clarity no material changes have been made.

Jeff Praissman

Hi everyone. This is Jeff Praissman with Interactive Brokers Podcast. It’s my pleasure to welcome back Michael Normyle, U.S. Economist at Nasdaq. Hey, Michael, how are you? 

Michael Normyle

Doing well, thanks. Glad to be back. 

Jeff Praissman

Always excited to have you in for our monthly podcast, and today we’re gonna dive into how digitalization is, you know, reshaping not just markets, but economic signals investors rely on every day as well. 

NASDAQ had an article a few weeks ago basically talking about tokenization; we’re gonna kind of touch on that a little bit, as well as throw in your economic angle as well. And I kind of wanted to kick it off with the first question: Nasdaq’s research showed that more than half of all institutions expect to use tokenized collateral by the end of next year. From a macro perspective, how significant is that shift for capital efficiency and overall financial conditions? 

Michael Normyle

Just to lead off here, I wanna mention that article that you’re referring to—we were highlighting one of the recent white papers that Nasdaq did on this subject. So I’m probably gonna be referring to that a lot throughout this conversation, but like you’re saying, over half—52%, to be exact—of institutions surveyed expect to be using tokenized collateral by the end of this year. And that really matters because the average firm today, they manage about $75 billion in total collateral across all activities—so repos, derivatives, securities lending, et cetera. But about 25% of that is essentially idle because firms, they have to post their collateral early, often overnight, just to make sure that it’s in the right account by the morning, and they overpost by about 7% as a buffer against failed deliveries. 

So this is an opportunity cost for these businesses, and for firms with over $100 billion in assets under management, tokenization could mobilize nearly $5 billion of currently idle collateral, and that translates to about $350 million per year in additional interest. For firms with $20 to $99 billion in AUM, that’s nearly $200 million in potential earnings. So when you aggregate that across the industry, you’re talking about a pretty meaningful shift in capital efficiency. 

And there’s other aspects where tokenization can help, too. So that white paper mentions that it’s expected to reduce failed trades by about 13%, cut operating costs by nearly 12%, reduce collateral buffering by 12%, and improve collateral utilization by over 3%. So from a macro perspective, tokenization can help make the entire financial system’s plumbing faster, more reliable, and more capital efficient. 

Jeff Praissman

And so it seems like there’s potential—I highlight potential—for a lot more efficiency if there’s a changeover. But, you know, if assets either from equities and collateral become—if they become digital and tokenized—would that change how economists should interpret traditional indicators like liquidity, credit availability, and the velocity of money, given what you— 

Michael Normyle

Yeah, and I think, just to your point, it is good to highlight that this is potential at this point, right? It’s a relatively small amount of assets involved at this point, but something that could certainly build over time. But to your question on how to interpret the traditional indicators because of this change, this shift—as we assume that it’s gonna grow—I’m not really concerned about it at the moment, like you’re saying, because it’s partly potential at this point. But it could become a bigger issue in the long run as adoption of tokenization broadens and the amount of assets involved rises. And that’s because traditional indicators like the M2 money supply or credit growth, or velocity of money—they were designed in a world of batch processing and T+1 or T+2 settlement. So if we switch to a world where a lot of collateral is moving in real time, 24/7 across jurisdictions, then those traditional measures, they need to be, I guess, adjusted to catch up to the new reality and to accurately measure the liquidity in the system, or the lag in reporting them will start to feel even longer, because these are also things that don’t come out immediately following the data. And then there’s the additional challenge—and this is something that we discussed in that Market Makers article on Nasdaq.com that you were referring to—which is just that not all tokens are the same. So it’s a term that’s used widely, but some tokens represent direct ownership of equities, some represent a promise of ownership, but those two things carry very different risk profiles. 

So in updating these measurement tools, we also need to discern not only which type of tokens are moving, but how much. And like I said, though, I think this is a longer-term issue to solve as the amount of assets involved grows. 

Jeff Praissman

Yeah. And in your opening statement, you kind of stated how a lot of firms are putting this money in the night before and going 7% over, you know, on average. Tokenization is often discussed in terms of faster settlement and reduced friction. So again, if this does happen, could that speed meaningfully affect how quickly financial conditions tighten and loosen compared to past cycles? 

Would everything be sped up, or is it sort of like a kind of speeding up that day, but not the overall big picture? 

Michael Normyle

Yeah, I mean, I think that’s possible, and I guess it is kind of like a continuation of what we’ve been seeing throughout history, right? Like it used to be you’d read about what happened the next day in the newspaper, and now you can get a push notification from the Fed, or you can watch the Fed meeting live or the press conference. 

So we’ve definitely seen that speed between something changing and getting the news widely disseminated shrink over time. But if we think about the Fed changing the Fed funds rate, the effect or impact on financial conditions depends on how much collateral is actually responsive to that change. Like I talked about earlier, it could help unfreeze some 25% of capital that’s sitting idle overnight or over the weekend. So if that’s added to the pot of money responding, then you could think about the financial system potentially responding quicker to rate changes in that way. 

And it seems to be something that people in the industry are thinking about, since Nasdaq’s new white paper shows that the repo market is the top priority for tokenization among all the firms that were surveyed. 

And so those repos, they help banks and hedge funds and financial institutions borrow cash overnight. And of course, as an overnight rate, they move closely with the Fed funds rate, which is the rate that banks charge each other overnight for loans. So currently, when the Fed funds rate changes, the repo rate changes. That settlement is still batch processed, and that could take a day or two. So I think it’s really speeding up the settlement side that tokenization would address there. And then, of course, when everything happens faster, that means that we need to think about what kind of safeguards are in place to respond to or prevent problems from popping up. 

Jeff Praissman

Yeah, I was gonna say there’s always unintentional consequences, right? With every, you know, with every technology change, and, you know, I was gonna ask you, is there, you know, is there a risk with this, you know, more efficient collateral usage through tokenization? Could it amplify, you know, leverage during expansions and accelerate stress during downturns and kind of really make some bigger swings versus what the systems used to? 

Michael Normyle

Yeah, and this is something that does come up in the white paper. So first, to, I think, understand why—like I mentioned earlier, again—firms, they overpost collateral by about 7%, and about 25% of all collateral is earning no return. So if tokenization means that same money could be used more efficiently, then they can also support more positions. And if the firms surveyed estimated, that would mean a 3% improvement in collateral utilization here. But of course, when you’re boosting leverage somewhat, that does add to risks when things go sideways too. So the speed and interconnectedness of tokenized markets could potentially accelerate that stress during downturns. But again, I think that’s why those safeguards need to be put in place and managed. And I think regulatory issues is one of the big discussions around this area too, because that’s something that people want in place to, you know, get the benefits of this technology while mitigating the risks as much as possible. 

Jeff Praissman

And with some digital markets moving toward continuous or near 24/7 trading, is that gonna improve price discovery, or does it just introduce new forms of volatility that the traditional economic data may miss? 

Michael Normyle

Yeah, so I’m gonna cite our white paper again here, but I think the answer is a bit of both on this. So right now, firms, they’re saying that markets, they’re shut down Friday evening to Monday morning. And so there’s some amount of guesswork that they need to do for the weekend gap, and that could be mitigated by continuous pricing. 

And ultimately, though, that price discovery mechanism, its efficiency is dependent upon how much participation there are in markets outside of core hours. And of course, this is relevant from the US perspective, right? Because people need to sleep, they need to take weekends off. But then there’s also part that’s where the participants outside the US time zones come in. So it could add to that efficiency because there’s more liquidity coming from outside the US time zone. But in terms of new forms of volatility, I mean, it’s possible that could happen, but I think it’s also something that we’ve been seeing already, even before tokenization and 24/7 trading, or 23.5, whatever it ends up being. But, so if you think about the September 2022 mini budget crisis in the UK, the March 2023 bank failures in the US, these things are happening at a faster pace already. 

So, you know, international events, they can already happen outside of US trading hours. But 24/7 trading does mean more hours where there’s potential to see that volatility. But I think as it relates to traditional economic data, I’m a bit less concerned about that just because it’s already backward-looking, and maybe it’ll feel slightly more backward-looking in this case. 

Jeff Praissman

Right. Yeah, I wanna pivot a little bit and kind of just talk about gold for a few questions. Gold’s long been a key macro signal for inflation expectations, real rates, and risk sentiment. How does digitalization change gold’s role as an economic indicator? 

Michael Normyle

Yeah, I think one of the issues right now, if you own physical gold, is there’s not a lot you can do with it—it just sits on your shelf. But that’s not true everywhere. In India, for example, people already deposit gold and borrow against it. So if that kind of infrastructure scales globally through digital digitization, then gold becomes more liquid, more traded, and more responsive to macro conditions like you’re asking about. And I think it’s clear that there’s interest in this because, again, this is something that came up in the survey of firms in the white paper, where they listed gold as an asset that they expect to tokenize for use as collateral. And so if we see that, that could mean gold signals as an economic indicator—maybe it gets sharper, reflecting that real-time sentiment and capital flows, rather than just being more of a slower-moving store of value. And so when you potentially layer on atomic settlement and broader electronic access, you can turn gold into something that can react to macro developments as fast as other financial instruments. 

Jeff Praissman

Yeah, and that kind of, it kind of just answered my other question, where I was basically just gonna say, you know, as gold’s becoming more digitalized and electronic ownership becomes more prevalent, you know, it seems like it’s gonna potentially stop behaving like a static value and more like a financial asset, with, you know, competing with bonds and cash and equities. 

Michael Normyle

Yeah, I mean, I think that’s fair, right? That could be the case. So, you know, historically, it’s something you hold instead of doing something productive with your capital, since it’s not gonna earn you any yield. But if you can lend against it, post as collateral, access it at any hour of any day, then, like you’re saying, it starts to directly compete more with short-duration bonds or money market funds, or even cash. 

Jeff Praissman

And Michael, along the inflationary and policy and economic signal front here, you know, if capital is able to move faster through these digital and tokenized markets, could inflationary pressures show up in asset prices before they even appear in traditional consumer inflation data at this point? 

Michael Normyle

I think, to me, that I feel like there’s a good argument to be made that’s kind of already the case for a couple reasons. The first just being that markets are forward-looking, and the second being that traditional inflation data, it’s typically lagged two to four weeks, depending on whether you’re looking at CPI or PCE. So markets are already trying to account for that inflation and activity in general in near real time. And so that’s why, you know, you read about companies using satellite imagery to look at how many lights are on as a proxy for activity or count cars in a mall parking lot. So markets are always trying to get ahead of the data, and then they can recalibrate to that data when it’s released. And that’s why we have consensus economic forecasts that are mostly priced in before we get the data. And if those forecasts are pretty much spot on when that data comes out, then the markets don’t really react to it that much. It’s when there’s a big gap between expectations and the final data that you get that market reaction. 

So I think this is maybe a case where tokenization may, at the margin, make it happen somewhat faster and more efficiently, but maybe not a complete game changer compared to some other areas. 

Jeff Praissman

Got it, got it. And my answer to this is yes, but I wanna get your take on it. Being an economist, you know, central banks and policymakers—will they eventually need to monitor new digital indicators, such as, say, tokenized collateral usage, alongside their old measures like lending growth and money supply? I definitely feel like that’s a yes if this stuff continues. 

Michael Normyle

Yeah, no, I 100% agree with you. And I think there’s already signs that we’re seeing it already. So, you know, I mentioned earlier, 52% of firms expect to be live with tokenized collateral by the end of this year, 78% of North American firms expect a significant impact. If you look at something like Broadridge’s digital distributed ledger repo platform that’s processing $9 trillion in monthly turnover, the European Central Bank—they started accepting tokenized securities as eligible collateral at the end of March—and they have Project Pontus that’s gonna deliver regular distributed ledger tech settlement services in central bank money by Q3 of this year. Then the Bank of England, they have their synchronization lab that they’re launching, and that’s meant to help address the issue where many digital asset transactions, they settle the asset leg instantly on blockchain networks, but then the corresponding cash leg can settle hours or even days later through conventional banking infrastructure. So trying to figure out how to, you know, manage those gaps. But in terms of better enabling measurement, I think that’s another thing that came up during the surveys for the white paper, where 70% of firms see the common domain model as the foundation of consistent digital asset representation on-chain. So using a standardized data language that can help capture a more complete picture of what’s going on, enabling more accurate measurement, and then central banks will have to monitor this alongside those traditional metrics. And maybe those metrics need updating too as things grow in this space too. 

Jeff Praissman

And you mentioned earlier that not all tokens are the same, and there’s potentially different risks associated with different tokens. So it’s not one size fits all. Could you kind of just touch on, like a big-picture, 10,000-foot view, what some of those risks could be? 

Michael Normyle

Yeah, and I think this is something that we covered really well in the Market Makers post. But there’s been some steps in the right direction, I think, on this, to remove some of the uncertainty around tokens. One of the bigger ones coming from the SEC chair, Atkins—he laid out his vision for kind of the token taxonomy late last year, and it’s centered on the Howey Test, where to qualify as a security, there needs to be four requirements that are satisfied. The first is the investment of money, so there needs to be an initial outlay of capital or other consideration of value. Common enterprise is the second requirement, so the investor’s money is pooled with that of other investors in a common venture, and so it’s creating some interdependence among participants. The third is the expectation of profits, so investors, they must expect to earn returns on their investment, either through capital appreciation or income distribution. And the last piece is that profits are derived from the efforts of others, and so that means those profits, they need to result primarily from the work and management of a third party rather than from the investor’s own efforts. 

So when you take those four requirements, things like NFTs or cryptocurrencies don’t qualify as securities because there’s no effort of others really happening, like a company’s employees. And it’s actually only tokenized securities, where there’s a token that represents an underlying security like a share of stock, that would count as a security from the SEC’s perspective. 

But, you know, all these things—they’re still relatively new technology, so like you’re saying, there’s room to improve clarity, I think, and that would eventually help improve the efficiency and functionality and, I think, help with adoption too, where anything that there’s uncertainty about—especially in the financial sector—is gonna be a hindrance. 

Jeff Praissman

And final question, kind of just to wrap this whole thing up here. So financial digitalization, it sounds like it’s coming, right? It’s on its way, if it’s not already here. Does it ultimately make the economy more resilient through transparency and access, or more fragile by increasing speed and interconnectedness during these periods of stress, or quite honestly both, right? 

Michael Normyle

Yeah, I mean, I feel like, I guess the sum of everything that we talked about today, I think there’s definitely a case for the increased resilience aspect thanks to the potential efficiency that financial digitalization can provide. But by the same token, if it’s not implemented with proper guardrails, then you could see more volatility during times of stress. So like you’re saying, it’s a bit of both, but I think there’s a way to make it more of the benefit with less of the risk aspect, as long as those guardrails are properly put in place. And I think there’s gonna be time to learn along the way, even just because of the comparatively small size of assets that are involved. But over time, regulation, market structure, legal frameworks, and investor education, those will need to keep pace with the technology. 

Jeff Praissman

Michael, this has been great, as always. I think what’s really clear to me, at least, is that, yeah, digitalization—it’s not just changing how the assets trade, it’s also gonna potentially change how people decipher economic signals, how quickly they form, how quickly they reach markets. I guess, like other big changes in history, people are gonna adapt, right? 

Michael Normyle

I think that’s been really the story of the financial industry for a long time, right? Everything’s been speeding up and getting more efficient, and this is maybe the next step in that evolution. 

Jeff Praissman

And for our audience, you can find more from Michael Normyle at Nasdaq.com, as well as on our website. We do a monthly podcast with him and his team, and also we will include a link to the article that we referenced in the podcast as well. So it’s definitely worth the read as well to do a little bit of a deeper dive into the subject. Thanks, Michael.