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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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