The spread of the virus has led to concerns over using physical cash for payments despite limited evidence of the cash being a carrier
Who would have imagined that a pandemic would lead to a push for central bank innovations? But this is indeed happening in the space of central bank digital currencies (CBDCs). The spread of the virus has led to concerns over using physical cash for payments despite limited evidence of the cash being a carrier. This has propelled central banks into thinking of rolling a CBDC quicker than thought initially.
In an earlier piece, I had highlighted how the central banks of China and France are racing ahead in CBDCs largely to counter the exorbitant privilege of the US dollar. It is interesting to note that both these central banks have taken immediate steps to get their CBDCs rolling post the outbreak of the pandemic.
First, on March 27, 2020, Banque De France (BDF) released a call for applications to experiment with a CBDC for “interbank settlements”. The term ‘interbank settlements’ is important here. There are two categories of payment and settlement systems: retail and wholesale/interbank. Retail payment systems involve individuals and households making payments for goods and services. They pay using either cash -- which is central bank money -- or deposit -- which is commercial bank money. In the wholesale, or interbank, payment system, banks and financial entities pay and settle transactions among themselves. These payments could be to enable households/firms to pay/transfer funds from one bank to other or for banks to pay other banks for borrowing funds.
BDF clearly is targeting a CBDC for the interbank/wholesale market. This market is anyway largely digitised across the world. The question is how the existing network will transfer e-dollars or e-euros seamlessly. Once successful here, it can transition to a retail version as well. It is interesting to note that BDF is a member of the European Monetary Union with the ECB as the main player. There are 18 other central banks of the Union and their views differ with respect to digital currencies. Hence, it is unclear how this CBDC project will evolve as France implementing it alone may not work.
Second, on April 28, 2020, the People’s Bank of China in a release announced that “the PBC will explore modern information technologies to empower finance for the benefits of the public and enterprises, help solve the problems of micro and small enterprises (MSEs) and private enterprises, such as the difficulties in and high costs of financing, and the last-mile problem of financial inclusion, support pandemic containment and resumption of work and production, and improve the quality of financial services for the real economy”.
The PBC had run a pilot project in Beijing in December 2019, and in April 2020 announced that it supports the expansion of the same pilot to cover the six cities of Shanghai, Chongqing, Shenzhen, Hangzhou, Suzhou, as well as Xiong’an New Area of Hebei.
The central bank watchers (such as central banking.com) attributed this pilot project to Chinese testing their CBDC in the six new cities. Thus, in China, CBDC is no more at an experiment stage and is actually being tested for usage. Unlike France, China's CBDC is broader in scope and is being tested for multiple purposes such as financing of MSE and public enterprises and for last-mile financial inclusion.
Apart from China and France, let us look at other countries. Sweden was the first to start a CBDC project for a very different reason of people not using cash. The project started in 2017 and the central bank has already released two reports evaluating CBDC prospects. The reports have suggested that Sweden should offer CBDC as a valued-based system compared to account-based system. In the former, the CBDC will be issued in digital wallets whereas in the latter, one can open an account at the central bank.
As per latest news in February 2020, Sweden’s Riksbank was partnering with Accenture to construct a technical platform for CBDC. The project aims to allow CBDC to be stored in a digital wallet and make payments via wearables such as smart watches, and cards. The project also aims to make payments when in offline mode. The network will be managed by the central bank alone, but open to expansion. It will also be less energy intensive compared to say, a bitcoin network.
Riksbank has also been releasing highly readable research papers to understand various dimensions of issuing a CBDC. For instance, one research paper analysed the impact of CBDC on seignorage. The research presented several scenarios under which seignorage can rise, decline or stay constant.
The Bank of Canada is another central bank which has been releasing interesting research papers on CBDC. The broad idea is that CBDC should mimic the features of the physical cash while giving benefits of technology and looks at issues such as security and privacy in depth. One research proposes that CBDC should be universally accessible and be available in a standalone device which will enable payments even in offline mode.
To sum up, the pandemic has not just quickened the pace for digital payments, but also for CBDCs. The pandemics lead to centralization of forces and one sees this in the space of digital currencies too with private digital currency players (earlier piece) more or less fading away and CBDC taking the centre-stage. The Chinese have emerged as the frontrunners in the CBDC race with some European central banks not really far behind. The RBI also has to quickly get into the race and figure whether and how they would approach this area of CBDCs.Amol Agrawal is faculty at Ahmedabad University. Views are personal.