On January 21, 2020, the BIS (Bank for International Settlements) announced that a group of central banks (Canada, United Kingdom, Japan, Sweden, Switzerland and the European Central Bank) will share their experiences as they assess the different cases for launching central bank digital currencies (CBDCs) in their home jurisdictions. This announcement illustrates the growing importance of cross-border spillovers in the CBDC debate. This article summarizes the recent debate on CBDCs and the reasons why it is focusing more and more on global implications.
Over recent years, we have witnessed profound changes in retail-payments systems and in the discussions over the future of cash. The emergence of bitcoin and other crypto-assets based on distributed ledger technology (DLT) have opened the way to decentralized means of payment that are cross-border and outside of the control of central banks. The main drawback of this type of token is very high volatility. To overcome this problem, a new type of crypto-asset has emerged, the so-called stablecoin, the value of which is anchored in fiat money, commodities or an algorithm that defines its supply. In 2019, Facebook put forward the idea of stablecoin Libra, which would facilitate cross-border payments among its users based on a basket of main currencies.
The Libra proposal has reignited the debate among central banks on whether or not they should consider issuing a type of CBDC. This idea has been circulating for several years since the Bank of England (BoE) published a seminal paper in 20161Barrdear, J. and Kumhof, M. (2016): “The macroeconomics of Central Bank issued digital currencies.” Staff Working Paper No. 605, Bank of England.. Many central banks analyzed the idea, partly because of the threat of competition from crypto-assets (so far only incipient) but also based on the intuition that a digital form of cash might overcome some of the traditional drawbacks of banknotes: they are costly to issue and withdraw; they are the main vehicle for tax evasion, crime and money laundering; and in some advanced societies, they are disappearing, replaced by electronic forms of money such as credit cards that are supplied by a few private and very often foreign companies, which in the view of some authorities raises issues of excessive dependence on critical suppliers.
Some central banks, faced with these trends, analyzed the pros and cons of the issuance of digital cash. Most of them, however, did not go further than the exploratory phase, apparently because of the dilemma created by anonymity. If central banks decide to maintain the anonymity that is a key feature of cash (in the so-called “token” variant), it will imply creating a powerful instrument for illegal and crime-related transactions as well as tax evasion. If, on the contrary, CBDCs are identified (in the so-called “account” variant), this would be tantamount to opening central bank deposits to the general public that would compete with commercial banks’ deposits, opening the way to a radical disruption of financial intermediation.
We illustrated the nature of this dilemma in a paper in 20172Gouveia et al. (2017): “Central Bank Digital Currencies: assessing implementation possibilities and impacts,” BBVA Research Working Papers 17/04., based on the idea that CBDCs open the way to transform the nature of cash in three out of its four key features. Cash is peer-to-peer, universal, anonymous and non-yield-bearing. CBDCs would continue to be peer-to-peer but could be universal or restricted to a particular group of users (for instance, financial intermediaries if applied to the wholesale payment system), anonymous or identified, and could open the way to a yield-bearing type of cash.
Depending on how these features are combined, different variants of CBDCs are possible, addressing different problems. The most disruptive of them is a model in which the central bank opens accounts to the population, including the possibility of paying interest. The least disruptive variant would be a CBDC limited to wholesale interbank markets.
It is precisely the very disruptive nature of some of these options that led most central banks to put aside the analysis of CBDCs’ feasibility…until the announcement of Libra. Their main concern had to do with CBDCs’ likely incompatibility with central bank independence. Central banks have already been tasked with a complex set of functions, much more so after the global financial crisis (GFC). The broader their mandate, the more complicated their accountability, which is the reason why their independence has been questioned in a number of places, including the United States and the eurozone. If on top of what they are already doing, central banks were to open accounts to the population and/or directly decide the interest rates of deposits, their legitimacy would be questioned. And it is very likely that their independence would be revisited.
Part of the problem of central bank independence has to do with the potential use that the central bank would make of the resources of CBDCs. In a 2019 paper3Fernández de Lis and Gouveia (2019): “Central Bank Digital Currencies: features, options, pros and cons,” BBVA Research, Working Paper 19/04., we explored the implications of CBDCs on the asset side of the central bank balance sheet, which is often overlooked. If CBDCs replace banks’ deposits, the substantial increase in their liabilities needs to be matched by either (i) lending to the government, (ii) lending to banks or (iii) lending to the private non-financial sector. Each of these options entails serious problems. Case (i) clashes with the monetary-financing prohibition that accompanies central bank independence and leads to the so-called fiscal-dominance problem. Case (ii) implies that the central bank would back credit decisions taken by private banks, with huge potential moral-hazard implications. And case (iii) is equivalent to the nationalization of credit.
Most of the central banks that analyzed the topic concluded that the risks of CBDCs exceeded their potential gains4See Committee on Payments and Market Infrastructures and Markets Committee (2018): Central bank digital currencies, CPMI Papers, no 174, March. See also Carstens, A. (2019): The future of money and payments, Speech held in Dublin, 22 March 2019.. Only Sweden and China seemed to be seriously considering going ahead. Sweden, because cash is disappearing, and the electronic forms of money that are replacing it are provided by a few foreign companies. And China, because the recent explosion in the role of bigtech companies in retail payments is a source of uneasiness for regulators, who seem to view the CBDC as a way to regain a certain degree of control.
This was the situation when Libra was announced in June 2019. The possibility that Facebook, with its 2.5 billion users, would issue a stablecoin that could compete with cash triggered a reaction among central banks—which, on the one hand, raised questions about the nature of Libra and its regulatory treatment and, on the other, reviewed their plans for CBDCs with a more positive tone. According to a BIS survey published in January 2020, nearly 40 percent of central banks consider it likely or possible to issue a general-purpose CBDC in the medium term and more than 25 percent a wholesale CBDC5Boar, Holden and Wadsworth (2020): Impending arrival – a sequel to the survey on central bank digital currency, BIS Papers No 107.. Although Libra was intended for cross-border payments such as remittances, and therefore would not compete directly with cash (which is used mostly for domestic transactions, with a few exceptions), in practice the use cases may overlap, especially if Libra drops its basket feature (as was suggested recently by its creators) and instead is pegged to fiat money.
The debate since then has focused on (i) more pragmatic variants of CBDCs, based on private-public partnership instead of competition and (ii) the cross-border implications of the different modalities.
In regard to the first topic, the International Monetary Fund (IMF) flagged the idea of a “synthetic” CBDC6See Adrian and Mancini-Griffoli (2019): The rise of digital money, IMF Fintech Notes 19/01., which would be issued by the central bank but relationships with customers would be retained by private companies (in principle, banks or fintechs) and which would be required to be backed 100 percent by reserves in the central bank. A number of questions arise in relation to this proposal: Would the identity of the CBDCs’ holders be known by the central banks or only by the private intermediaries? What would be the role of banks vis-à-vis fintechs or bigtechs, including access to central bank accounts? Would DLT be a feature of the system7We explore this issue in Fernández de Lis and Sebastián (2019): Central Bank Digital Currencies and Distributed Ledger Technology, BBVA Research, November 2019., either at the level of the central bank link with financial intermediaries or at the level of the link between the latter and the public (or both)?
Regarding the cross-border dimension, as the proposals get more concrete and the analyses delve more into the details, the global spillovers of CBDCs have become more evident. This is closely related to the question of anonymity: if fully anonymous, it would be impossible to limit CBDCs to residents. In this case, the possibility of non-residents holding CBDCs opens a competition for global seigniorage much beyond the present situation. Today there is external seigniorage in the form of banknotes circulating abroad (overwhelmingly dollars), but this is limited by the logistic complications of banknotes traveling cross-border. With a digital form of cash, the ease of this circulation would be dramatically increased. A credible central bank issuing a digital form of cash would have a huge potential external demand, especially in countries with a tradition of dollarization and in which the population tends to mistrust the local currency, which is the case in many emerging and developing countries with weak institutions. These countries would have strong incentives to establish some form of capital controls if faced with the competition of digital cash issued in countries with a reserve currency such as the dollar, euro or any other stable fiat currency with a credible central bank behind it.
The recent announcement of a group of central banks stating that they will work together on potential cases for central bank digital currencies in their home jurisdictions, under the umbrella of the BIS, reveals an awareness that this is an area in which international cooperation is necessary. Two important central banks are missing in this group: the US Federal Reserve System (the Fed), which has made clear that it has no intention of issuing anything similar to a CBDC because there is no obvious problem to fix in the US retail-payment system8See Brainard, Lael (2019): Digital Currencies, Stablecoins, and the Evolving Payments Landscape, speech at the the Peterson Institute for International Economics, October 16, 2019. (and probably also because they are happy with the status quo of the US dollar receiving most of the “external” seigniorage) and the People’s Bank of China (PBOC), which has announced that its pilot on CBDC is soon to be launched. The global impact of the Chinese experiment is, however, less clear—to the extent that the renminbi is not fully convertible, and the potential for its global role is therefore limited.
Over the next few years, we will probably see different types of crypto-assets, stablecoins and CBDCs proliferate and compete. The spillovers from national experiences are becoming more evident since the technology behind them is inherently cross-border. This heralds a new form of competition in the global provision of money that we have not seen before. Central banks will try to retain control of something that is as central to their mandate as cash is in its different forms. And they will have strong incentives to cooperate to avoid a disorderly competition between them and also with private modalities that already exist or are yet to be born.
What form of digital money prevails will depend on the attractiveness of the different modalities. The digital world tends to be a “winner takes all” type of market. But in the case of cash, national strategic interests are very strong, and regulation is a powerful weapon that different countries can use aggressively. The reaction of central banks to the Libra announcement shows that this is a field in which they will not be passive observers. Whether they react in a cooperative or competitive fashion is yet to be seen. The announcement of the agreement between the six central banks mentioned at the beginning of this article shows that cooperation will at least have an opportunity.
[i] Barrdear, J. and Kumhof, M. (2016): “The macroeconomics of Central Bank issued digital currencies.” Staff Working Paper No. 605, Bank of England.
[ii] Gouveia et al. (2017): “Central Bank Digital Currencies: assessing implementation possibilities and impacts,” BBVA Research Working Papers 17/04.
[iii] Fernández de Lis and Gouveia (2019): “Central Bank Digital Currencies: features, options, pros and cons,” BBVA Research, Working Paper 19/04.
[iv] See Committee on Payments and Market Infrastructures and Markets Committee (2018): Central bank digital currencies, CPMI Papers, no 174, March. See also Carstens, A. (2019): The future of money and payments, Speech held in Dublin, 22 March 2019.
[v] Boar, Holden and Wadsworth (2020): Impending arrival – a sequel to the survey on central bank digital currency, BIS Papers No 107.
[vi] See Adrian and Mancini-Griffoli (2019): The rise of digital money, IMF Fintech Notes 19/01.
[vii] We explore this issue in Fernández de Lis and Sebastián (2019): Central Bank Digital Currencies and Distributed Ledger Technology, BBVA Research, November 2019.
[viii] See Brainard, Lael (2019): Digital Currencies, Stablecoins, and the Evolving Payments Landscape, speech at the the Peterson Institute for International Economics, October 16, 2019.