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Central Banks and Crypto Currencies

Gregory Yates • 26 March 2021
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If you can’t beat ‘em, join ‘em?

Central banks around the world have watched the growth of crypto currencies with concern. Some see the crypto phenomenon as a serious threat to their monopoly on currency issuance as well as their control over their nations’ money supply and monetary policy. But there is also growing interest at many central banks in capitalizing on some of the attractions of crypto instead of resisting them.  Above all, central banks want to avoid being marginalized and supplanted by cryptocurrencies. They recognize that for some libertarian crypto supporters, this is precisely their ultimate goal.

John Kiff, a senior analyst at the International Monetary Fund (IMF), notes that retail central bank digital currencies (CBDCs) are currently in some stage of research and development at least 52 central banks around the world. In a March webcast sponsored by the Central Bank Digital Currency Think Tank (CBDCTT.com), Kiff said that several major central banks are now deeply involved in CBDC efforts, including the U.S. Federal Reserve and the European Central Bank as well as the Bank of England and its counterparts in Japan, Canada, and elsewhere. Moreover, Kiff said the IMF is running a CBDC “technical assistance program” for smaller central banks.

These central banks see several clear benefits from a digital currency, such as reducing the costs and risks associated with physical cash and simplifying the payment system. According to Kiff, CBDC could also provide a more efficient mechanism for distributing economic stimulus payments that rev up consumer spending and investing. With digital currency, there’s no wondering how and when the checks will arrive in household mailboxes.

At the same time, there are risks associated with CBDC. Most notably, Kiff said, if they compete with bank deposits, they could affect financial stability by disintermediating banks and undermining their lending capacity and diluting their ability to implement monetary policies. CBDC could also increase the risks of a run on banks by offering a readily available, liquid, and safe alternative to bank deposits. Moreover, CBDC issued in reserve currency countries could increase currency substitution, in which countries with weaker currencies find many domestic transactions are denominated in foreign currencies. That’s generally meant “dollarization” – relying on U.S. dollars rather than the domestic currency – but there could be a switch to CBDCs issued by the U.S. Fed.

During a March 22 virtual panel discussion on digital banking hosted by the Bank for International Settlements, Fed Chair Jerome Powell acknowledged that the Fed has been looking into digital coins, but he said “you can expect us to move with great care and transparency with regard to developing a central bank digital currency.”  Last year, the Federal Reserve Bank of Boston entered into a partnership with the Massachusetts Institute of Technology on a multiyear study into developing a central bank digital currency.

While countries around the world contemplate CBDCs for their domestic currencies, there’s also a debate about a super, global CBDC. Mark Carney, the Governor of the Bank of England, has proposed a “synthetic hegemonic currency” that would be based on a basket of currencies, This would essentially be a digital version of the IMF’s Special Drawing Rights (SDRs).

Meanwhile, a report issued by the Macquarie Group, an investment banking firm, earlier this year noted that central banks have to take notice of “the network effect of cryptos.” As “utility and acceptance broaden,” that inevitably begets even more use. Central Bank interest in all things digital has been whetted not only by the general rise of crypto currencies but in particular by Facebook’s announcement of Libra, its own approach to digital currencies, in June 2019. Although Libra (now called Diem) has not taken off and would not exactly be a direct competitor to CBDC, Kiff has referred to it “a bit of a shock.” It indicates major companies have an eye on the digital currency arena.

The Macquarie Group report in early 2021 said the central bank digital currency landscape “is lagging the pace of crypto adoption,” and it added that “it is still unclear how entrenched private cryptos will become before CBDCs become a viable alternative for more efficient transactions.” As crypto marches on, what is clear is that central banks don’t intend to be left behind. What’s still to be determined, however, is whether they’re going to be leaders or followers in the digital currency world.

Stay tuned as we’ll be releasing further information surrounding an ecash platform and the need, or lack thereof blockchain within the retail CBDC space during the next Think Tank discussion with Thomas Moser, Alternate Member of the Governing Board, Swiss National Bank.

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