The Federal Reserve asked the public for its thoughts on the need for a central bank digital currency (CBDC), and the banking industry has answered with a resounding “no.”
The comments came in response to the Fed’s report, “Money and Payments: The U.S. Dollar in the Age of Digital Transformation.”
While the Fed itself has been opposed and undecided, the idea has caught hold around the world, with China on the verge of taking its digital yuan live, India promising a digital rupee, and the European Union and European Central Bank (ECB) aggressively supporting a digital euro.
Here’s a look at the pros promoted by many central bankers and the cons spelled out by the banking business.
The Power of CBDCs
There are several arguments made by central banks and governments in favor of CBDCs, but the issue largely arose — at least on a global basis — in the wake of the fear of stablecoins competing with fiat currencies after Meta’s abortive 2019 effort to launch an unpegged stablecoin called Libra, which was later renamed Diem.
Here are some of the top arguments central bankers and elected officials make in favor of CBDCs:
- Control is paramount: The stablecoin as a currency competitor has many CBDC proponents up in arms. Central bankers and governments say if citizens turn to privately issued stablecoins over fiat, they will lose the ability to oversee their own economies. That’s largely behind China’s move to create the digital yuan — and India’s push for a digital rupee.
- They hold stablecoins at bay: This has a great deal of crossover with control, but it’s worth noting that China and India have banned stablecoins — and any other cryptocurrencies — for payments. And China has banned crypto outright while India came close and is cracking down on crypto trading.
- They insulate economies: One reason that control is needed, many central bankers say, is that if people turn away from the national currency, the governments will lose vital tools to fight off inflation and economic downturns.
- They facilitate real-time payments: A CBDC would almost by definition require that transactions are available around the clock and every day of the year, and it would also allow for real-time transactions.
- They fight dollarization: The U.S. dollar’s position as the world’s reserve currency, and the economic power that provides, is another target of CDBC supporters. Digital currencies could be used to bypass the dollar’s role in international trade, they say.
- They improve inclusion: Getting the unbanked into the financial system is a major goal in many of the countries looking into CBDCs, particularly in developing nations with large gray economies. That means consumers would be able to transact electronically and likely build up credit.
- They cut cross-border costs: Another big focus of CBDC supporters is the staggeringly high cost of cross-border transactions, which not only have enormous fees — particularly remittances, which run 5% to 7% — but take days to finalize.
Banks See Doomsday
In their responses, the banking lobbies argued that CBDCs like a digital dollar “could present serious risks to financial stability and may provide few, if any, benefits,” in Bank Policy Institute’s (BPI’s) words.
Arguing that a CBDC would “undermine the commercial banking system in the United States and severely constrict the availability of credit to the economy,” the group added that many of the potential benefits of a CBDC are available from other tools ranging from existing real-time payments networks to well regulated — and bank issued — stablecoins.
The American Banking Association (ABA) said if a CBDC’s “objective is to realize the benefit of technological innovation, we should look to leverage novel developments in private money (like real-time payments systems and well-regulated stablecoins).”
Here are the main reasons banks see CBDCs as a threat:
- They create unfair competition: A CBDC would fundamentally change “the relationship between citizens and the Federal Reserve,” the ABA argued, noting that a digital dollar would be a direct liability on the central bank. That would, in effect, move money away from depositary banks and into accounts at the Federal Reserve, where the funds can’t be put to work.
- There would be less to lend: Aside from having to compete with the central bank, commercial institutions would have to hold CBDC deposits in the same way they do securities, BPI said. That means banks “could not do anything with the customer’s CBDC,” deposits, it added. “Any transfer of a dollar deposit from a commercial bank or credit union to a CBDC is a dollar unavailable for lending to businesses or consumers.”
- There are other options: While CDBC proponents have argued that a digital dollar would make both internal and cross-border payments faster, “this rationale for a CBDC seems increasingly inapt in the United States, where The Clearing House’s RTP real-time payment system, operational since 2017, continues to grow in use,” BPI said. The need for 24/7/365 payments is also a feature of the Federal Reserve’s forthcoming FedNow. On the cross-border side, there are other options, such as The Clearing House, EBA CLEARING and SWIFT’s plan to launch an “immediate cross-border (IXB) payments system” by the end of the year, BPI said.
- They defend the dollar: On that point, the BPI turned to CBDC skeptical Federal Reserve Chairman Jerome Powell, who said, “the reason the dollar is the reserve currency is ‘because of our rule of law; our democratic institutions, which are the best in the world; our economy; our industrious people; all the things that make the United States the United States.’”
- The stablecoin threat is overblown: As for the argument that a CBDC is needed to defend against competition from privately-issued stablecoins that could compete with national currencies, BPI called for requiring stablecoins be backed by dollars deposited in commercial banks and treasuries — something the administration recently called for. Unlike CBDCs, BPI said, carefully regulated stablecoins “could avoid undermining the banking system while still offering convenience to customers.”
- Inclusion is already widespread: One of the biggest arguments made around the world for CBDCs is to improve financial inclusion of the unbanked. As for the U.S., both banking groups said that’s just not as big an issue as it is in developing nations. The ABA and BPI pointed to the Bank On program as an example of a better option with minimal opening requirements and costs — and no penalties.