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Consumers are abandoning cash in favour of digital payments – a long-term trend that rapidly accelerated during the pandemic. Central banks are fretting about the consequences. Are consumers too reliant on US card networks, which recently withdrew their services from Russia, demonstrating that even private payment systems can become drawn into international conflicts? Are alternative systems needed to improve the economy’s resilience to system outages, natural disasters or cyberattacks? Does it matter if there is no longer a public alternative to private payment services like card payments? And will consumers who value the privacy of cash adopt riskier alternatives like Bitcoin or stablecoins, some of which have been recently proven to be unsafe stores of value?
Nearly all central banks globally – including those in the EU, UK and US – are examining retail central bank digital currencies (CBDCs) such as the ‘digital euro’ as a potential answer to these concerns. Many are ploughing ahead with pilots already.
A retail CBDC would allow consumers access to electronic money backed by the central bank. Today, only commercial banks generally have this privilege, in the form of central bank reserves. Individuals can hold central bank money, but only in physical form – as banknotes and coins. When individuals hold funds electronically, those funds only represent a claim on the private bank that manages the account, not the central bank.
However, everyday consumers in Europe may find this revolution to be an academic one. Europe’s banking sector is robust and deposits are guaranteed up to a generous limit. Consumers, quite reasonably, consider bank savings to be about as safe as cash. And CBDCs would probably be provided via commercial banks, and could allow payments through a mobile app, a card, or a similar device. So a CBDC could look similar to any bank account today. State-backed savings options are already available for those who want them.
Whether consumers and retailers would actually prefer to use a CBDC for payments – rather than private payment services like today’s cards – is therefore not obvious. Some central bankers imply usage is unimportant, arguing that a CBDC merely needs to exist as an ‘anchor’, giving consumers certainty that money can be withdrawn from the private banking system. But cash still serves that purpose – and if the problem is that fewer consumers and retailers use cash, then a CBDC would only be a solution if it was more widely used instead. Other commentators assume the bigger risk is overenthusiastic adoption, in particular that CBDCs will be used for investment purposes and not just to make payments. They worry that if consumers can quickly shift their bank deposits into CBDCs, rather than needing to withdraw cash, banks would become more vulnerable to runs. And if consumers have more of their savings in CBDCs and less in bank deposits, then banks will need more expensive wholesale funding to provide loans to customers. That would drive up the cost of finance for households and businesses. To deal with this problem, CBDCs would need limitations – such as caps on individual holdings or unattractive interest rates – to limit the risks to private banks. But that will reduce its attractiveness to users: existing payment services do not generally have these limitations.
The primary objectives of a CBDC therefore cannot be achieved unless it is “available everywhere” and can win market share from today’s card payments. Yet CBDCs will struggle to compete.
The objectives of a CBDC cannot be achieved unless it wins market share from today’s card payments. Yet CBDCs will struggle to compete.
First, consider price: a CBDC should be financially attractive to both consumers and retailers. Some retailers could be enticed to accept it: many are concerned about the fees associated with accepting payment cards like Visa, Mastercard and American Express, despite regulatory reforms in 2015 which reduced these fees. A recent UK study showed that smaller retailers pay, on average, nearly 2 per cent of a total transaction’s value to accept cards. Cash is not getting more attractive either: it slows down the speed of transactions; carries risks of theft and loss; and as Chart 1 shows, retailers must pay more to deposit and handle cash as its usage declines. A CBDC could do better: it could be cheap like cash; and like electronic payments, it would be quick and safe to use....
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