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I have long been an enthusiast for central bank digital currencies (CBDCs). Last October I stuck my neck out to predict the eurozone would introduce one by the end of 2025, on the back of an interview with Fabio Panetta, the executive board member who heads the European Central Bank’s work on a digital euro. I may still be proven wrong on that particular call, but there is no doubting that the central banking community, in general, is accelerating down the path towards official electronic cash.
This week there is a palpable pick-up in the pace. You can feel it in a new Financial Times interview of Panetta by my colleague Martin Arnold. While the ECB has formally still not decided whether to launch an e-euro, focus is shifting from outlining how one would work to emphasising the benefits it would bring. Panetta emphasises how CBDC can be more respectful of data privacy than a private digital means of payments.
This shift from analysis to recommendation is particularly striking in a new report from the Bank for International Settlements. The “central bankers’ bank” boldly stated that a CBDC was “a concept whose time has come”.
Not only that, it is choosing sides in a number of design choices any CBDC project has to make. In particular, it recommends an account-based rather than a token-based CBDC. In other words, the digital currency would be held in accounts belonging to particular individuals or businesses, who would use digital IDs to access their funds, rather than be an anonymous token accessed through anonymous cryptographic devices that would be a gift to money launderers and criminals. (An account-based design also has advantages in terms of monetary policy.)
Given this choice, the BIS makes the powerful argument that CBDC is better for privacy and healthy data governance than private digital payment. As Benoît Cœuré, former ECB executive board member and head of the BIS’s “innovation hub”, points out, the counterfactual against which a CBDC should be judged is not the world as it was, but what the world is going to become without CBDCs: very possibly one in which Big Tech muscles its way into payment provision and financial services more generally. The BIS’s case for CBDC is in this sense very “European” — a desire to avoid market concentration in payments, since this would allow private hoarding of behavioural data that, in turn, created market power in other digital sectors. This is a novel and powerful argument for a CBDC: if designed right, it is a guarantor of open and competitive payments and financial market structures and of citizen control over data.
Do read the report and let me know what you think. To me, the BIS makes a very strong case, but there remains one objection it has not done enough to dispel. That is the fear of commercial banks that CBDCs will make them obsolete. If customers have an ultimate safe store of value with the central bank, with all the convenience of paying for your takeaway coffee, why keep money on deposit with a bank? A CBDC could be a recipe for bank runs — either acutely in a crisis, or permanently over time.
The BIS has several answers. One is that banks should be afraid, very afraid, of what is about to hit them from Big Tech — and see that a CBDC is a way to preserve an environment in which they can compete. Another answer is that large shifts of private bank deposit money into official digital currency can be discouraged by caps on holdings in CBDC accounts or unattractive interest rates (or a combination of both).
The first answer is good: it tells the bank to take a good deal when it sees one. The second is not good enough. In a real crisis, no central bank would find it politically possible to discourage flights to safety: citizens would reasonably ask what CBDCs were for if you could not use them for safety in a storm. Even in good times, it would be hard to set interest rates with a view to maintaining the business models of banks. Monetary policy is intended to stabilise the economy and inflation, not look after a particular sector’s private interests. The more honest answer is that the central bank would set rates that are right for the economy, and banks would just have to pay enough of a premium to make their deposits attractive.
That may not be a bad thing; it would force banks to up their game in good times. There remains the worry about bank runs in a crisis. But here a better answer exists. It involves resurrecting the proposal Lord Mervyn King, former governor of the Bank of England, made a few years ago that central banks should be “pawnbrokers for all seasons”.
Building on the emergency lending from the past two crises — including against sometimes dodgy collateral — and expanded balance sheets, King proposes that all banks be required to pre-position enough collateral with the central bank to be guaranteed enough reserves to cover all their deposits in a run. The “haircuts” or penalty discounts on these pre-arranged secured loans would be set in good times, reflecting that central banks could hold on to them for as long as necessary to sell when a crisis is over.
This would make runs harmless, and therefore highly unlikely to happen. It would also make it straightforward to resolve and restructure banks without hurry, since the deposits and pre-positioned assets backing them would simply be transferred out. It would make bank regulation a lot simpler, and supersede the need for deposit insurance. Finally, it would end the procyclical effect of central banks assessing collateral in times of stress.
All these are reasons to adopt King’s pawnbroker model regardless of the digital revolution. But that revolution adds a reason for it. For in King’s world, there would simply be nothing to worry about if customers opted to switch bank deposits for CBDCs.
CBDCs will arrive sooner than you think, even in the absence of such regulatory reforms. But the shift in the nature of money they represent will both facilitate and be facilitated by deeper changes in our financial system. We should take the arrival of CBDCs as an opportunity to think big.
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