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Fed Paper: Central Bank Digital Currencies Could Replace Com...
NEWS

Fed Paper: Central Bank Digital Currencies Could Replace Commercial Banks

Central bank digital currencies might one day replace commercial banks. But that comes with risks, according to new research from the Federal Reserve of Philadelphia.

 

The 32-page research paper – titled “Central Bank Digital Currency: Central Banking for All?” – investigated the implications of an account-based central bank digital currency (CBDC), focusing on its potential competition with the traditional maturity transformation role of commercial banks.

 

“The introduction of digital currencies may justify a fundamental shift in the architecture of a financial system, a central bank ‘open to all,’” the paper, which was published on June 1, reads.

 

Questions posed by the research arm of the Fed, which were undertaken in collaboration with the Universities of Pennsylvania and Chicago, examined the ramifications of the introduction of a CBDC and how the opening of central bank facilities might affect financial intermediation.

 

Specifically, the questions were aimed at exploring the role CBDCs play in “giving consumers the possibility of holding a bank account with the central bank directly,” in essence replacing the role currently performed by commercial banks.

The paper determined the set of allocations achieved with private financial intermediation (commercial banks) could also be achieved with a CBDC, provided competition is allowed with those commercial banks and depositors do not panic. However, the paper also determined an associated cost involved.

 

“Our equivalence result has a sinister counterpart. If the competition from commercial banks is impaired (for example, through some fiscal subsidization of central bank deposits), the central bank has to be careful in its choices to avoid creating havoc with maturity transformation,” according to the paper.

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The paper also showed how the “rigidity of the central bank’s contract with investment banks” deterred panic runs and, as such, if depositors started to exclusively deposit with the central bank it could end up becoming a “deposit monopolist,” attracting deposits away from the commercial banking sector.

 

“This monopoly power eliminates the forces that induce the central bank from delivering the socially optimal amount of maturity transformation,” the Fed paper says

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