A burst of creative innovation is under way in money and payments, opening up vistas of a future digital monetary system that adapts continuously to serve the public interest.Structural flaws make the crypto universe unsuitable as the basis for a monetary system: it lacks a stable nominal anchor, while limits to its scalability result in fragmentation. Contrary to the decentralisation narrative, crypto often relies on unregulated intermediaries that pose financial risks
Key takeaways
- A system grounded in central bank money
offers a sounder basis for innovation, ensuring that services are stable
and interoperable, domestically and across borders. Such a system can
sustain a virtuous circle of trust and adaptability through network
effects.
- New capabilities such as programmability,
composability and tokenisation are not the preserve of crypto, but can
instead be built on top of central bank digital currencies (CBDCs), fast
payment systems and associated data architectures.
Introduction
Every day, people around the world make more than 2 billion digital payments.1
They pay for goods and services, borrow and save and engage in a
multitude of financial transactions. Every time they do so, they rely on
the monetary system – the set of institutions and arrangements that
surround and support monetary exchange.
At the heart of the monetary system stands the central bank. As the
central bank issues money and maintains its core functions, trust in the
monetary system is ultimately grounded in trust in the central bank.
However, the central bank does not operate in isolation. Commercial
banks and other private payment service providers (PSPs) execute the
vast majority of payments and offer customer-facing services. This
division of roles promotes competition and gives full play to the
ingenuity and creativity of the private sector in serving customers.
Indeed, private sector innovation benefits society precisely because it
is built on the strong foundations of the central bank.
The monetary system with the central bank at its centre has served
society well. Yet digital innovation is expanding the frontier of
technological possibilities, placing new demands on the system.
Far-reaching innovations, such as those in the crypto universe,
entail a radical departure. The crypto universe builds on the premise of
decentralisation. Rather than relying on central bank money and trusted
intermediaries, crypto envisages checks and balances provided by a
multitude of anonymous validators so as to keep the system
self-sustaining and free from the influence of powerful entities or
groups. Decentralised finance, or "DeFi", seeks to replicate
conventional financial services within the crypto universe. These
services are enabled by innovations such as programmability and
composability (see glossary) on permissionless blockchains. Such systems
are "always on", allowing for global transactions 24/7, based on
open-source code and knowing no borders.
However, recent events have revealed a vast gulf between the crypto
vision and its reality. The implosion of the TerraUSD stablecoin and the
collapse of its twin coin Luna have underscored the weakness of a
system that is sustained by selling coins for speculation. In addition,
it is now becoming clear that crypto and DeFi have deeper structural
limitations that prevent them from achieving the levels of efficiency,
stability or integrity required for an adequate monetary system. In
particular, the crypto universe lacks a nominal anchor, which it tries
to import, imperfectly, through stablecoins. It is also prone to
fragmentation, and its applications cannot scale without compromising
security, as shown by their congestion and exorbitant fees. Activity in
this parallel system is, instead, sustained by the influx of speculative
coin holders. Finally, there are serious concerns about the role of
unregulated intermediaries in the system. As they are deep-seated, these
structural shortcomings are unlikely to be amenable to technical fixes
alone. This is because they reflect the inherent limitations of a
decentralised system built on permissionless blockchains.
This chapter sets out an alternative vision for the future, one that
builds on central bank public goods. This will ensure that innovative
private sector services are securely rooted in the trust provided by
central bank money....
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