Sunday, May 02, 2021
E-yuan and E-euro
Central banks sound out digital money
The island state of Bahamas already has them, the major central banks are preparing: Their currencies will soon also be available in digital versions. China’s central bank is accelerating.
Central banks around the world are pushing ahead with their preparatory work on issuing digital versions of their currencies. From China to the euro zone, central banks are accelerating their research and test runs with such technologies. The reason: Potential rivals such as Bitcoin are advancing more and more from the outer edges of the financial industry into core markets. They are now already attracting many established major investors. There are also projects such as Facebook’s Diem crypto currency.
In a financial world that is becoming more and more digital, the currency sovereignty of the central banks could be shaken. Issuing own digital currencies (CBDC) could be an answer.
The basic idea: Like banknotes and coins, CBDC should be an easy-to-use legal tender – just in digital form. It is intended to enable individuals and companies to make electronic payments and money transfers. As with traditional cash, CBDC owners would also have a direct claim on the central bank. So far, access to central bank money beyond cash has only been limited to commercial banks.
Digital cash: Whenever someone uses their giro card, credit card or payment app when shopping, some form of digital money is already being used. But this was created by financial institutions and is also not “risk-free” – as CBDC would be. Accounts at commercial banks are normally only protected by the deposit guarantee systems up to a certain amount. If a bank goes bankrupt, savings can be lost.
Loss of control: Central banks are concerned that they could lose control of the money cycle and the payment systems in cryptocurrencies. Should such forms of payment spread, this could weaken the central bank’s access to the money supply. This risk has grown since cryptocurrencies have found their way into the financial sector.
In addition, as the use of cash is declining in many developed countries, issuing CBDC would also ensure that the general public would continue to have access to central bank money. In addition, CBDC could serve as a new tool for central banks for monetary policy.
The Risks: The banks are at the center of the risks. Because if there were to be a massive shift of funds from bank accounts to CBDC, a stable and reliable source of income for the financial institutions would be lost. In a crisis situation, bank customers could also empty their accounts because they consider digital central bank money to be safer at such times. To prevent this from happening, many central banks are considering setting ceilings for CBDC holdings. In addition, there is the question of data protection if a central bank should have access to all transaction data of citizens in the future. According to an ECB survey, this is the most important issue for people in the euro zone.
The design: The design and scope of CBDC depends crucially on the objectives of the monetary authorities and also on political considerations. A CBDC could take the form of a so-called token that is stored on a smartphone or on a prepaid card. It could also be structured through accounts held directly with the central bank or administered through intermediary commercial banks. A blockchain, as used in crypto currencies, could be used as the basic technology. But it doesn’t have to be that way. The Chinese central bank had announced that their digital yuan would not be based on a blockchain.
The leading central banks: China’s central bank wants to be the first among the major central banks to issue a digital version of their national currency. It has already started extensive test runs in several million metropolises. In the western industrialized countries you take more time. The US Federal Reserve sees no rush to introduce a digital dollar. In the current year, however, the ball should get rolling. The ECB is currently exploring the possible introduction of a digital euro within the next five years. The Bank of England recently stepped up its research without specifying a time frame.
Smaller central banks have already created facts. In 2020, the Bahamas became the first country in the world to launch a digital version of their currency – the so-called sand dollar. The Eastern Caribbean Central Bank, the central bank of several countries in the Eastern Caribbean, introduced the so-called “DCash” a few weeks ago. The international community is the first monetary union in the world to have a digital currency.
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