New technology continues to enable experimentation in the future of money by an array of entities. Next generation central bank digital currencies (CBDC) are being considered to serve a digitized economy with a wide array of potential approaches and designs. Some designs could fundamentally alter the commercial banking system we know today, while other initiatives from technology firms could present challenges for government controls and monetary policy. “Money Redesigned” is a new series of papers from IIF Digital Finance highlighting critical issues presented by the next generation of digital money.
This first paper in the series is a collaboration of the IIF’s Digital Finance and Economic Research capabilities and advances our work on the potential disintermediation, of banks and other financial service firms, by CBDC. With initiatives from various central banks to explore CBDCs as well as first two iterations of the Libra white paper, it is an appropriate juncture for us to refresh our analysis on this risk which we first raised in 2018.
The paper incorporates some market data-points and examines some specific examples of consumer/investor behavior, where significant large movements of savings/investments have been observed with other digital currencies/assets. The Covid-19 crisis is the latest instance of consumers moving some assets out of intermediaries during a crisis. If a CBDC were available, businesses (not generally covered by depositor insurance) could be major drivers of a shift to a central bank claim instrument. This potential for major impacts on bank funding and financial stability has a particular risk of disrupting the funding sources that are most valued under the Basel III Liquidity Coverage Ratio and Net Stable Funding Ratio.
The paper highlights the need for effective ways to limit the potential for crowding out bank deposits, both structurally and in crisis situations. This may mean considering the particular roles that commercial banks might play in a CBDC ecosystem, and whether there is merit in a combination of bank-provided wallets and deposit insurance. There is still much to do in exploring and examining optimal designs and potential solutions for CBDCs, to ensure such innovations can help reinforce (and not undermine) system stability and economic growth.
IIF Digital Finance will continue to highlight these issues and encourage the further development of safe and effective innovations that can benefit the economy and support stability. Further papers in our Money Redesigned series will look at the potential impacts of private multi-currency stable coins in emerging markets, and the intersection of digital currencies with digital identity.