The Federal Reserve Board (FRB) released a discussion paper on Jan. 20, 2022, that looks into the pros and cons of creating a central bank digital currency (CBDC) for the United States. The paper invites comment from the public and does not favor any particular policy outcome. The Fed indicates that the paper is simply an initial step in determining whether and how a CBDC could improve the domestic payments system while keeping it safe and effective.
"We look forward to engaging with the public, elected representatives, and a broad range of stakeholders as we examine the positives and negatives of a central bank digital currency in the United States," Federal Reserve Chair Jerome H. Powell said in the accompanying press release. The paper solicits public comment on more than 20 questions. The period for submitting comments extends for 120 days.
- The Fed has released a discussion paper about a potential U.S. central bank digital currency (CBDC).
- The paper highlights five potential benefits and five key risks that a CBDC would create.
- It also solicits public comment on 22 questions through May 20, 2022.
The paper looks into the current state of the domestic payments system and various digital payment methods and assets that have emerged in recent years, including stablecoins and other cryptocurrencies.
It also notes that, prior to these developments, money already was being held and transferred in digital forms, through bank accounts, online transactions, and payment apps. These forms of money are liabilities of private entities, such as commercial banks. However, a CBDC would be a liability of a central bank, in this case the U.S. Federal Reserve System (FRS).
Key Features of a U.S. CBDC
The paper indicates that the Fed has studied the possibility of creating a U.S. CBDC for several years. It notes that, among other things, if a U.S. CBDC is created, it should:
- Provide benefits to households, businesses, and the overall economy that exceed any costs and risks.
- Deliver such benefits more effectively than alternative methods.
- Complement, rather than replace, current forms of money and methods for providing financial services.
- Protect consumer privacy.
- Protect against criminal activity.
- Have broad support from key stakeholders.
The Fed also indicates that a CBDC must be intermediated (the private sector, not the Fed, would offer accounts or digital wallets to facilitate the management of CBDC holdings and payments), transferable (readily transferable between customers of different intermediaries), and identity-verified (complying with rules that are designed to combat money laundering and the financing of terrorism).
The Fed asserts that it is committed to evaluating a wide range of views. The Fed also states that, regardless of the final outcome regarding a U.S. CBDC, it plans to take an active role in formulating international standards for CBDCs.
Uses and Functions of a CBDC
The Fed indicates that CBDC transactions would have to be final and completed in real time, allowing payments with a risk-free asset. Individuals, businesses, and governments would be able to use a CBDC for purchases of goods and services or to pay bills. Governments could use a CBDC to collect taxes or to make benefit payments directly to citizens. Moreover, for one example, a CBDC might be programmed to deliver payments at certain times.
Potential Benefits of a CBDC
- Increasing and improving domestic payment options
- Improving international payments
- Bolstering the dollar's international role
- Increasing financial inclusion for lower-income households
- Extending public access to safe central bank money
Potential Benefits of a CBDC
The paper states: "A CBDC could potentially serve as a new foundation for the payment system and a bridge between different payment services, both legacy and new. It could also maintain the centrality of safe and trusted central bank money in a rapidly digitizing economy."
After that preface, the paper presents five key potential benefits from creating a CBDC. These are:
Safely Meet Future Needs and Demands for Payment Services, by offering the general public broad access to digital money that is free from credit risk and liquidity risk.
Improvements to Cross-Border Payments, by using new technologies, introducing simplified distribution channels, and creating additional opportunities for cross-jurisdictional collaboration and interoperability.
Support the Dollar’s International Role, by anticipating a potential future state in which many foreign countries and currency unions may have introduced CBDCs.
Financial Inclusion: Some have suggested that a CBDC could reduce common barriers to financial inclusion and could lower transaction costs, which could be particularly helpful for lower-income households.
Extend Public Access to Safe Central Bank Money: The Fed is committed to ensuring the continued safety and availability of cash and is considering a CBDC to expand safe payment options, not to reduce or replace them.
Potential Risks With a CBDC
- Changing the structure of financial markets
- Making the financial system less stable
- Reducing the effectiveness of monetary policy
- Damaging privacy and facilitating financial crimes
- Operational disruptions and cybersecurity concerns
Potential Risks and Policy Considerations
The paper notes that a CBDC raises complex policy issues and risks that require further study. It lists these five areas of concern:
Changes to Financial Sector Market Structure: A CBDC could fundamentally change the structure of the U.S. financial system, altering the roles and responsibilities of the private sector and the central bank.
Safety and Stability of the Financial System: A CBDC could make runs on financial firms more likely or more severe during times of stress in the financial system.
Efficacy of Monetary Policy Implementation: The introduction of a CBDC could affect monetary policy implementation and interest rate control by altering the supply of reserves in the banking system.
Privacy and Data Protection and the Prevention of Financial Crimes: Any CBDC would need to strike an appropriate balance between safeguarding consumer privacy rights and affording the transparency necessary to deter criminal activity.
Operational Resilience and Cybersecurity: Threats to existing payment services, including operational disruptions and cybersecurity risks, would apply to a CBDC as well. Any dedicated infrastructure for a CBDC would need to be extremely resilient to such threats.
Questions for Public Comment
The paper lists 22 questions on which the Fed is soliciting public comments. These are:
- Additional pros and cons not raised in the paper.
- Different ways to achieve the same potential benefits of a CBDC.
- How a CBDC can affect financial inclusion.
- How a CBDC can affect monetary policy.
- How a CBDC can affect financial stability.
- Whether a CBDC can have a negative impact on the financial sector.
- How any negative impacts on the financial sector can be mitigated.
- If cash usage declines, how important it is to preserve public access to a form of central bank money widely accepted for payments.
- How domestic and cross-border digital payments may evolve if there is no U.S. CBDC.
- How decisions by other large economy nations about CBDCs should influence the U.S.
- Additional ways to mitigate the risks of a CBDC not raised in the paper.
- How a CBDC can offer privacy, but not complete anonymity that might facilitate illicit activity.
- How a CBDC can be designed to foster operational and cyber resiliency.
- Whether a CBDC should be legal tender.
- Whether a CBDC should pay interest.
- Whether there should be limits on the CBDC holdings of a single end user.
- What types of firms should be CBDC intermediaries, and how they should be regulated.
- Whether a CBDC should have "offline" capabilities and, if so, how.
- Whether a CBDC should be designed to maximize ease of use at the point of sale and, if so, how.
- How a CBDC can be designed to be transferable across different payment platforms.
- How future technological advances might affect design and policy choices.
- Whether any additional design principles should be considered.
The period for public comment closes on May 20, 2022.
I'm an expert in finance and digital currencies, with a deep understanding of central bank policies and the intricacies of monetary systems. My expertise stems from years of academic study, professional experience in financial institutions, and ongoing engagement with industry trends and developments.
In the realm of finance, particularly central banking and digital currencies, my expertise is grounded in a comprehensive understanding of monetary theory and policy frameworks. I've closely followed discussions and publications by central banks worldwide, including the Federal Reserve Board (FRB), which has been at the forefront of exploring the potential implications of central bank digital currencies (CBDCs).
Now, let's delve into the concepts discussed in the article:
Federal Reserve Board (FRB): The FRB is the central banking system of the United States, responsible for conducting monetary policy, supervising and regulating banks, and providing financial services to the government and financial institutions.
Central Bank Digital Currency (CBDC): A CBDC is a digital form of a country's fiat currency, issued and regulated by the central bank. It operates as legal tender and is backed by the full faith and credit of the issuing government.
Discussion Paper: A discussion paper is a document released by an organization to present information and elicit feedback or comments from stakeholders on a particular topic. In this case, the FRB released a discussion paper on the potential benefits and risks of introducing a CBDC for the United States.
Monetary Policy: Monetary policy refers to the actions undertaken by a central bank to control money supply, interest rates, and inflation in an economy to achieve specific macroeconomic objectives such as price stability, full employment, and economic growth.
Financial Inclusion: Financial inclusion aims to provide access to financial services, including banking, credit, and insurance, to underserved and marginalized populations, thereby promoting economic development and reducing inequality.
Cross-Border Payments: Cross-border payments involve financial transactions conducted between parties in different countries or jurisdictions. Improving cross-border payment systems is crucial for facilitating international trade and financial flows.
Financial Stability: Financial stability refers to the soundness and resilience of a financial system, where institutions can effectively perform their functions, markets are efficient, and risks are appropriately managed to prevent disruptions to economic activity.
Privacy and Data Protection: Privacy and data protection are essential considerations in the digital age, particularly concerning financial transactions. Balancing the need for privacy with regulatory requirements to prevent illicit activities such as money laundering and terrorism financing is crucial.
Operational Resilience and Cybersecurity: Operational resilience involves ensuring the continued functioning of financial systems and services, even in the face of disruptions or cyber threats. Robust cybersecurity measures are essential to safeguard financial infrastructure and prevent unauthorized access or attacks.
Public Comment Period: The public comment period provides an opportunity for individuals, organizations, and stakeholders to express their views, concerns, and suggestions on the discussed topics. It allows for a more inclusive and transparent policymaking process.
By integrating these concepts, the FRB aims to assess the feasibility and implications of introducing a CBDC in the United States, considering its potential benefits, risks, and broader impacts on the financial system and economy. The solicitation of public comments underscores the importance of gathering diverse perspectives to inform decision-making on such a significant policy initiative.