The Federal Reserve issued a highly anticipated paper on a digital dollar, taking a step in a process that could lead to congressional action.
The paper, which lays out the pros and cons of a central bank digital currency, does not appear to take sides in the debate over whether to create one. He discusses the benefits of a CBDC, but also notes that it could pose a threat to banks and new forms of currency such as stablecoins (tokens designed to hold a fixed value of $1).
By setting the stage for a debate, including a request for public comment, however, the Fed could get the ball rolling in Washington. The Fed said it would need the authority of Congress to act, which could help build momentum for legislation that would allow the Fed to begin a design.
The Biden administration also wants the debate, at least, to get started. “The Treasury Department welcomes the Federal Reserve’s paper as an important step forward in the public debate about central bank digital currencies,” a spokesperson said. Barrons.
According to the Fed, a CBDC would be a major digital upgrade to the currency’s existing formats. “The introduction of a CBDC would represent a very significant innovation in American money,” the Fed said in the document, adding that it is “now considering how a CBDC might fit into the American monetary and payments landscape. “.
A CBDC would be a liability of the central bank, not a commercial bank, like a deposit in a savings or checking account. It would be widely available to the general public, although it would not replace money.
People could use it to make digital payments or as substitutes for checks, for example. And as a central bank liability, a CBDC “would be the safest digital asset available… with no associated credit or liquidity risk.”
Among the benefits, according to the Fed, a CBDC could speed up transaction settlement times. This could reduce transaction fees, especially for money transfers or international remittances, which now cost more than 5% of the amount sent.
It could also open up banking services to millions of Americans who don’t have bank accounts and now rely on expensive check cashing services or payday loans.
Another advantage, according to the Fed, is that a CBDC could help preserve the competitiveness of the US dollar in international trade. This is especially critical now that other countries are digitizing their currencies. China has moved forward with a digital yuan, and many other countries have CBDC programs in development.
The Fed also sees commercial banks and non-bank financial companies acting as intermediaries. They would issue and manage the digital wallets that people would use for payments and deposits.
“An intermediate model would facilitate the use of existing privacy and identity management frameworks from the private sector; harnessing the innovative capacity of the private sector; and reduce the prospects for destabilizing disruptions to the proper functioning of the U.S. financial system,” the Fed said.
Still, there’s no denying the competition a CBDC could pose, both to banks and to new financial networks built around stablecoins. Banks could lose deposits to the central bank if it paid competitive rates on deposits; the Fed says its CBDC may not bear interest to assuage those concerns. The Fed could also limit the amount of CBDC an end user could hold so banks don’t see much of an impact on their deposit bases.
Keeping banks informed could also solve privacy and cybersecurity issues. Financial transactions and user data could be held by banks or other financial companies, “addressing privacy concerns by leveraging existing tools,” the Fed said.
How a CBDC would affect monetary policy is also controversial. One implication is that this could alter the supply of reserves in the banking system, impacting the federal funds interest rate, for example. It could also increase the size of the Fed’s balance sheet. Foreign demand for a CBDC should also be addressed – and likely limited. The potential flight of bank deposits to the Fed in a financial panic scenario is an additional issue.
Complexity is one of the main reasons the US has lagged behind other countries in the new digital currency race. A CBDC also has defenders and enemies in Congress, though it doesn’t quite line partisan lines. It is sure to be at the center of a fierce lobbying effort from the banking industry and crypto proponents on one side and consumer advocates on the other.
“The Fed has finally pulled out of a key debate that virtually every major central bank now faces to some degree,” said Eswar Prasad, an economist at Cornell University and author of the book. The future of money: how the digital revolution is transforming currencies and finance.
The newspaper, he added, “takes an agnostic tone” and does a fine job of defining the contours of the debate. The Fed is also tackling the fact that other countries are moving forward with digital currencies at a faster pace, increasing the pressure on the United States to adapt to the new era.
Write to Daren Fonda at [email protected]