Central banks that don’t issue their own digital currency will face a dropoff in demand for their physical currency, with the US dollar and euro especially at risk of losing their leading global role, Bank of America analysts have warned.
The widespread adoption and usage of central bank digital currencies, or CBDCs, is inevitable, they said in a research note last week. Such CBDCs would be used as digital cash, rather than a store of value, and could also play a part in monetary policy toolkits, they argued.
Not having a CBDC creates the risk of losing out to countries that do have one, as well as to private actors or companies launching tokens, the Bank of America strategists believe. Much of this is linked to the surge in popularity in private, blockchain-based cryptocurrencies such as bitcoin.
The usefulness of digital cash could prompt people to adopt a CBDC from a foreign institution to carry out transactions, if their own central bank fails to act.
“In some cases, countries without CBDCs could be ‘dollarized’ as their citizens start using another country’s CBDC, and potentially see the value of their currency drop sharply,” the analysts said in the Wednesday note.
That could have an impact on the status of countries in the global financial system. If the US and EU don’t digitize their currencies, then the dollar risks losing its dominance and the euro’s role in global transactions and in reserves, the strategists argued.
The declining use of physical cash by consumers, the threat of losing control of monetary matters, the increasing use of blockchain by businesses are factors driving central banks toward their own digital currency.
Digitization has other benefits for central banks, beyond ensuring their currencies stay relevant in global financial markets and securing the value of those fiat currencies.
“In practice, central banks could utilize features of CBDCs in the future as part of an enhanced monetary policy toolkit if needed, particularly in response to a shock or a crisis,” the analysts said.
They noted that central banks could see monetary control slip away if their country’s inhabitants turn to a global cryptocurrency or another country’s CBDC, both beyond the institution’s reach. That would make cooling inflation harder to achieve.
The adoption of central bank digital currencies is “inevitable” due to numerous apparent advantages, according to Bank of America, though the US still needs to overcome several challenges before there can be an effective rollout of a digital dollar.
Among the many upsides of well-designed CBDCs, according to economist Ethan Harris and currency strategist Athanasios Vamvakidisthere, one stands out: their almost instantaneous transactions at minimal costs no matter where in the world.
This was highlighted during the pandemic when stimulus payments went out to the bank accounts of millions of struggling Americans. A transfer via check would have been too slow while one via credit card would have been too costly.
Still, the US must overcome two problems before a CBDC can be successfully rolled out, according BofA analysts.
First, it must figure out how to include around 5% of American households that do not have bank accounts and the roughly 21% that do not have credit or charge cards. Once the US has its CBDC, these individuals could be locked out of participating.
Second, it must work out if “digital wallets” are indeed the answer to expensive retail transfers across borders, especially with 3% of the adult population in the US not owning cell phones and 15% not owning smartphones.
Still, central banks will likely be moving along two tracks going forward, the analysts said, which are improving the current payment system and developing new methods of payment.
“Central banks have the power and the will to prevent a very bad outcome,” the analysts said. “They are not going to throw the baby out with the bathwater, but will retain control of the payments system and minimize the disruption to the flow of credit.”
The analysts also said they are concerned that if CBDCs for major currencies are available internationally, these could “erode the monetary sovereignty of smaller countries.”
After all, CBDCs, particularly one backed by the US, in some ways are superior to bank accounts as a store of value, particularly during times of crisis, they said.
CBDC is a type of central bank liability – similar to the US dollar – issued in digital form, which could be used by the general public. It will have the full backing of the central bank although could be managed by designated private financial institutions.
Around 56 central banks are developing or considering digital currencies, according to the Bank for International Settlements, with China leading the race as it gradually rolls out its e-RMB.
The Fed for its part in May revealed that it has taken further steps in exploring a digital currency and will be releasing a discussion paper this summer outlining its thinking on digital payments.
Amazon is looking to hire someone to lead its digital currency and blockchain initiatives as more big tech companies expand their businesses into the growing sector.
The position will fall within the company’s payments acceptance and experience team and will be based in Seattle.
“You will leverage your domain expertise in Blockchain, Distributed Ledger, Central Bank Digital Currencies and Cryptocurrency to develop the case for the capabilities which should be developed … You will work closely with teams across Amazon including AWS,” the listing said, referring to Amazon Web Services.
The position requires 10 0r more years of experience in product or program management or business development, and candidates will preferably hold an MBA.
“We’re inspired by the innovation happening in the cryptocurrency space and are exploring what this could look like on Amazon,” an Amazon spokesperson said in an email. “We believe the future will be built on new technologies that enable modern, fast, and inexpensive payments.”
Central bank digital currencies (CBDCs) could be necessary to ensure innovation and competition in digital economies, the Bank of Canada said in a research paper published on Tuesday.
As the economy becomes more and more digital, several issues have emerged that could be addressed through CBDCs. These include problems linked to competition in sectors like payment options, a resulting lack of innovation and development or exploration of new technologies, and an increased risk of market power abuse by large financial bodies as cash becomes less relevant in society.
Introducing a CBDC could address these issues in a more effective way than regulations and policies would, according to the Bank of Canada.
“In general, a CBDC as a basic outside option for payments could discipline the market,” the paper said. “Further, as a competition tool, a CBDC might be simpler than developing new competition policies in the complex and changing environment of big tech, and simpler than attempting enforcement via lengthy and uncertain legal battles,” it continued.
CBDCs could also make the use and further development of technologies like smart contracts and programmable money easier as their framework could be made available for public use and therefore create common ground for innovation.
Finally, CBDCs could also protect and even boost welfare levels, according to the Bank of Canada. The potential emergence of new markets and applications could increase welfare, while the added protection of consumers against market power abuses would prevent welfare from declining, the report said.
The Bank of Canada has not yet decided whether to pursue the development of a CBDC, and is currently in the process of researching and assessing its options.
The US is at a similar point in the process of potentially creating a digital dollar. Earlier this year, Federal Reserve Chair Jerome Powell said the central bank was still exploring the potential of a CBDC and would publish a report this summer. Last week, the European Central Bank also said it was launching a two-year exploration into a possible digital euro.
Japan’s plans for a digital yen could start to come together next year and the design of a potential central bank digital currency will be clearer then, the head of the ruling party’s digital currency initiative, Hideki Murai, told Reuters in an interview published on Monday.
“By around the end of next year, we’ll have a clearer view of what Japan’s CBDC would look like,” he said, adding this would not necessarily lead to a clear-cut decision on whether to roll out a central bank digital currency (CBDC). The Bank of Japan launched its exploration into a CBDC earlier this year and is currently researching and assessing the concept.
Murai also said having a better picture of the digital yen’s design would provide insight into how it might impact the existing financial system and institutions in Japan, which is currently undergoing significant shifts.
Private businesses have taken on responsibilities that previously fell to commercial banks, such as online settlement means, which have put the two industry groups at odds with one another. A digital yen could reverse the shift and commercial banks could benefit from this, Murai said.
“CBDC has the potential to completely reshape changes occurring in Japan’s financial industry.” he commented.
The Bank of Japan has previously said a CBDC would not significantly impact private businesses.
Murai also said the Bank of Japan would have to ensure the digital yen is compatible with CBDCs from other countries, to ensure it stays competitive against the Chinese digital yuan.
The non-profit Digital Dollar Project will launch at least five pilot programs to test the viability of a US central bank digital currency, or “digital dollar”, in the next 12 months, the organization announced Monday.
The initiative – backed by a partnership between Accenture and the Digital Dollar Foundation – was created last year to look into the potential advantages of CBDCs in the US.
CBDCs, digital versions of banknotes, are meant to be more instantaneous and seamless thanks to digital processing. Americans at this point can currently only hold central-bank-issued money in physical coins and notes.
Among others goals, the Digital Dollar Project aims to explore, analyze and identify technical and functional requirements of CBDC, assess benefits and challenges, and consider potential use cases for both retail and wholesale commercial utilization.
It will release its findings for use in academic study, as well as policy consideration by Congress.
“The US doesn’t need to be first to the central bank digital currency, but it does need to be a leader in setting standards for the digital future of money,” J. Christopher Giancarlo, former chairman of the US Commodity Futures Trading Commission and co-founder of the Digital Dollar Foundation, said in a statement.
The Federal Reserve in 2020 partnered with the Massachusetts Institute of Technology to research CBDCs. The US central bank is still being cautious, though, with Fed chair Jerome Powell saying last week that it is “far more important” to get it right than to do it quickly.
“Central bank digital currencies will play an important role in how we modernize our financial systems,” David Treat, a senior managing director at Accenture, said in a statement. Treat leads the company’s blockchain and multi-party systems practice globally.
Accenture has made an initial investment to support the initiative’s operational requirements and intends to match the funds necessary to launch the first five pilot programs.
To date, a number of central banks have been exploring CBDCs spurred by the cryptocurrency momentum that has rapidly risen as of late.
China is leading the race, after developing its digital currency electronic payment CBDC in 2014 and testing a pilot in 2020.
WPR: By now, most everyone is familiar with cryptocurrencies like Bitcoin, which are decentralized. And of course, digital payments have become pretty much ubiquitous. But I think it’s fair to say that the concept of a central bank digital currency has yet to seep into the mainstream. So could you first enlighten us about how China’s new digital currency works – what it is and what it’s not?
Yaya Fanusie: As you said, people are used to Bitcoin and people know a lot about digital payments, because we all pay for things digitally. But a central bank digital currency is something a little bit different. Bitcoin is a decentralized digital currency that no one controls; it’s independent of any government and anyone can participate.
Digital payments, as we know them, basically involve private banking infrastructure where private banks have central bank money, and then they allow you to transact, but it’s really their infrastructure that you’re participating with. So, you have a relationship with that private bank. You don’t really have a relationship with the central bank.
But now, with the advancement of technology, governments see Bitcoin and are expressing interest in it, because Bitcoin solves some interesting problems around how to move value digitally. Central bankers also see that private companies are really involved in people’s commerce and everyday transactions.
This is especially the case in China, which has wanted to figure out a way to have a digital currency that was run by the central bank. So, not like Bitcoin, which is independent and decentralized.
Beijing was concerned about the digital payment space, which you may know is very big in China. The central bank has felt that private digital payment companies are way too powerful. So years ago, they started to think about how they could create infrastructure where the money is actually digital, but it is run by the central bank. Now, what does that look like? We don’t know the details.
In fact, the central bank has been pretty clear that a lot of this is still being worked out. But what we do know the general framework: The People’s Bank of China is going to create the digital currency, and then it’s going to distribute it to banks and to private companies. Those banks and companies will basically have wallets, they’ll have software, and people will transact with the digital currency through those wallets.
But the big difference is that unlike regular digital payments, the thing that they’re transacting with is going to be the central bank money itself, digitally. Not just the applications that they were transacting with through the private companies.
WPR: How far along is China’s digital Yuan relative to similar initiatives in other countries? Because this isn’t something that China is alone in working on, right?
Fanusie: Lots of governments are actually looking at exploring and researching the idea of a central bank digital currency. They’re looking at the pros and the cons, but China is probably the foremost of big economies in terms of actually developing something. They started researching back in 2014, and then roughly a year or so ago, they actually got to the point of doing trials.
What they’ve done over the past few months is they’ve distributed this digital currency via a lottery system to certain citizens in certain cities. And they’ve given them the equivalent of, let’s say, 31 US dollars in the digital yuan, or digital renminbi. They have actually just done these trials – I think it’s maybe half a dozen or more cities that are participating – and I think millions of dollars worth of this currency has transacted over the past few months.
They’ve also taken certain municipal government workers and they’ve allowed them to get some of their salaries paid in this digital currency.
So, I’d say it’s relatively far along, but the key milestone that China is looking at is the 2022 Winter Olympics, which will be held in Beijing next February. The government is saying that they would like to roll out more of this digital currency by then. Not that it will be out universal, but that’s certainly a milestone that they’re looking towards.
WPR: I believe I’ve read some testimonials of people who have been selected for this lottery, and they’ve said that the currency is pretty easy to use and that they like the utility of it so far.
Fanusie: Yeah, I think so. And that’s probably because it’s not that different than mobile payments that they’re already using, since most people in China are not using cash that much. They’re already using digital payments, so it’s possible that for them, it doesn’t make that much of a difference. But for the central bank, it makes a big difference.
You may wonder, if it’s not so different for the consumer, why would the central bank want to do this? Well, the reason is that it’s really about data, and there are a couple of ways to look at this. One is maybe a very positive way, and one is a little bit more cynical.
When you have a central bank digital currency, if you’re a central bank, what this means is that if you create the currency, as people transact, you can actually observe the data. You can have insight as to when people are spending and what’s happening. How much is this currency circulating? What happens when you implement a certain monetary policy? How does that change consumer spending?
The data is available, because people are using the currency that is connected to your infrastructure. In today’s digital payments, that access doesn’t exist. Let’s take an example from the US, with Square or Venmo. All of those transactions are happening, but the government here in the US doesn’t have access to that data immediately. There’s a multilayered process where companies would report back to the government.
But in China, the digital currency is going to allow for a lot more collection of data, which goes with the Chinese Communist Party’s desire to have a more data-driven economy, to collect more data and to use it for monetary policy, but to also to use it for analysis and even surveillance.
WPR: It’s incredible to think about because China’s already such an advanced surveillance state, probably the most advanced in the world. What kind of new data do you think Beijing would be able to collect with this digital currency?
Fanusie: Some of it is new data, but probably most of it is not necessarily new. It is the efficiency of collecting the data. What is different is that we’re talking either real time or near-real time observance of people’s spending. In the current system, obviously the Chinese government is strong, and it can go to companies – and it does – and say, “Hey, show us the transactions of person X, or company X, and hand over this information to us.”
That’s how the government gets its access to financial data now. But what would be different is that the government wouldn’t necessarily have to go to all these different banks and all these different companies to compel them to hand over the information. The payment instrument that people would be using would be within their data house, in a sense.
The Chinese government is now saying that it’s going to anonymize this data, which I wouldn’t take at face value. But even so, the big plus for them is going to be that they’ll be able to see all of these transactions happening, even individual wallets. Whoever is using this, their activity will be seen in at least real time, or maybe relative real time. This is access that doesn’t exist anywhere.
As much as people think about big brother, and they think that they’re always being watched by their government, it’s honestly just not possible technologically for governments to track everyone’s digital payments in real time. because the infrastructure is set up in such a bifurcated way. So this is a huge barrier breaker in terms of collecting financial transaction data.
One thing I should probably also mention is that what this also does is it gives the Chinese government more levers to pull. If the government has access to this digital currency and it’s held with the central bank, you’d be transacting with it, but it’s really a central bank instrument that you’re holding and that you’re transacting in.
If you think a few steps in advance, I think what this means logically is that it would be easier for the central bank to turn off access to that. Right now either the government has to go to companies and say, “Block off this person, close their account.”
But I think the way this is going to work is that they’ll have centralized access. They’ll be able to say, “All these digital Yuan, let’s make them inactive.” Or, “Let’s stop transactions from being able to go into these particular wallets,” or “these particular digital bank nodes are going to be null and void.”
Logically, I think that’s what this infrastructure is going to lend itself to. It then gives the government maybe more power to influence citizens, to take punitive measures and to even look at party members and see exactly how they’re spending. There are lots of implications for domestic control that this technology lends itself to.
WPR: It wasn’t long ago that digital payments and digital currencies were being viewed as maybe one of the best tools to fight corruption in the world, given that with each payment, there was a digital footprint that could be traced. But I don’t remember anyone at the time saying, hold on a second, let’s take a step back and imagine what might happen if one centralized authority is able to collect and monitor all of this data at the same time around people’s payments.
Fanusie: It’s funny, because that sentiment has actually been growing in private circles, especially in the tech community, because of Bitcoin and cryptocurrencies. These decentralized cryptocurrencies are usually public, and all of the transactions can be read and accessed on a public online ledger.
So even though it’s pseudo-anonymous, people can look at a Bitcoin wallet or a Bitcoin address and they can see all the transactions. There’s really no barrier, they just don’t necessarily know who is making the transactions.
For a while, a lot of people have been concerned that if you attach identities to the Bitcoin blockchain, then that could really ruin privacy. Because if you know my address, now you can look and you can see how much I’m spending. You could see how much is in my account. So, there’s actually been a push for privacy within the cryptocurrency community.
What’s interesting is that now that central banks are thinking of a digital currency, even though it’s not going to be public, there is maybe even more of a concern about privacy. If a central bank has a digital currency and all these transactions are on a record, then that central bank could track and maybe see your transactions forever, depending on how you’re going to design this and what privacy safeguards you put in place.
There are all these concerns that the government could have access to someone’s past, present and future transactions, depending on how they design privacy in a central bank digital currency. So, this issue is not going away.
Federal Reserve Chair Jerome Powell said Monday that, while the central bank is still exploring the potential for a central bank digital currency, cryptocurrencies like bitcoin can’t serve as an effective replacement to the US dollar.
The positive developments helped bitcoin surge as high as $61,742 earlier this month as more investors looked to profit on the token’s growing popularity.
Powell has his doubts about cryptocurrencies and their supposed use cases. The tokens might be a substitute for gold, but their wild price swings make them unfit to replace the dollar, the central bank chief said during a teleconference hosted by the Bank of International Settlements.
“Crypto assets are highly volatile – see bitcoin – and therefore not really useful as a store of value,” Powell said, according to MarketWatch. “They’re not backed by anything. They’re more of an asset for speculation.”
Bitcoin fell slightly through the day following Powell’s remarks. The cryptocurrency traded just above $57,000 as of 2:30 p.m. ET, up roughly 98% year-to-date.
While cryptocurrencies aren’t likely to gain the Fed’s favor, the central bank has considered creating a digital currency of its own. The Fed partnered with MIT researchers in August to build and test a central bank digital currency. Officials sought to gain a better understanding of digital currencies and their potential implementation through the tests, Fed Governor Lael Brainard said at the time. Still, the token included in the study was merely “hypothetical,” she added.
Powell reiterated that, though the bank is still studying the potential for a digital dollar, serious vetting is necessary before such a currency is implemented.
“To move forward on this, we would need buy-in from Congress, from the administration, from broad elements of the public, and we haven’t really begun the job of that public engagement,” the Fed chair said. “Because we’re the world’s principal reserve currency, we don’t need to rush this project. We don’t [need] to be first to market.”
Somewhere between a central bank digital currency and cryptocurrencies exist stable coins. These tokens counter the volatility seen with cryptocurrencies by tying their value to more stable assets like government-issued currencies.
Stable coins are “an improvement” over cryptocurrencies and “may have a role to play” in digitizing the dollar, but they’re unlikely to form the foundation for a global payment system, Powell said. Any candidate for a global currency controlled by a private company deserves “the highest level of regulatory expectations,” he added.
Federal Reserve Chairman Jerome Powell said on Thursday prospective digital currencies issued by central banks must accompany cash and other types of money within a flexible payment system.
“A recent report from the Bank for International Settlements and a group of seven central banks, which includes the Fed, assessed the feasibility of central bank digital currencies (CBDCs) in helping central banks deliver their public policy objectives,” Powell said in prepared remarks at a payments conference hosted in Basel, Switzerland.
“One of the three key principles highlighted in the report is that a CBDC needs to coexist with cash and other types of money in a flexible and innovative payment system.”
The COVID-19 crisis has underscored the less systematic areas of the current payment system and sped up the need for digitalization, he said. The Federal Reserve Bank of Boston is said to be collaborating with MIT researchers to explore digital currencies in addition to experiments the Fed’s board of governors is conducting.
Powell was addressing attendees at a conference aimed at discussing improvements in cross-border payments hosted by the Committee on Payments and Market Infrastructures.
“By definition, cross-border payments involve multiple jurisdictions,” he said. “So it will only be through countries working together, via all of the international forums-the Group of Seven, the G-20, the CPMI, the FSB, and others-that solutions will be possible.”
He said that achieving an improved payments system would be made possible through the combined engagement of policymakers, private-sector participants, and academia.
Powell recently said that a potential digital dollar is a “high priority” project for the US, although that comes with notable technical and policy-related issues. As the issuer of the world’s reserve currency, the US doesn’t have to be the first to create one, but it does have to get it right, he said.