Digital pounds, dollars and euros are years away, but radical changes in wholesale banking and settlement are coming sooner than you think.
Innovation in central banking often starts in small markets. New Zealand was the first country to formally adopt inflation targeting as we now know it in 1990. Today the Bahamas and Cambodia lead China in piloting central bank money in electronic form.
However, few realize it was Finland that pioneered the world’s first central bank digital currency. The experiment has some important lessons for those feverishly trying to figure out how revolutionary CBDCs will be, including the U.K., which joined the club just last month with a new taskforce.
Finland introduced the Avant Card in December 1992, long before Bitcoin came into existence. It could be loaded with up to 500 euros ($602) in today’s terms and was rechargeable. According to Aleksi Grym, an economist at the Bank of Finland, central bankers were convinced this system would quickly displace cash.
However, consumers found it difficult to use. Retailers were frustrated to have to add extra point-of-sale equipment. Finland’s central bank ended up selling the card to a group of banks that shut it down in 2006.
Today Avant Cards can be found on eBay for $10 1 — hardly digital gold.
It turns out that displacing the efficiency and convenience of modern credit card networks, and now their digital brethren, is incredibly hard. Most consumers value the reassurance that their money is safe in the bank if they lose their debit or credit card, which wasn’t true with these bearer instruments.
It is revealing that today Finland has chosen the digital slow lane for reconsidering a CBDC despite being the most cash-lite country in the world with just 3% of transactions undertaken in cash.
This leads to another key lesson: Before major central banks issue tokens at scale, there needs to be a far deeper assessment of the impact on financial stability and monetary policy and whether they increase the potential for bank runs. This, not a technical judgment about the efficiency of rival payments systems, is what will determine how large central banks will act.
After all, access to central bank money has traditionally been the preserve of domestic regulated banks. The age of the blockchain could open it up directly to other businesses, a huge taboo to break. What would that mean for the banking system, especially in a world where cash is far less important?
Deposit flight in times of stress is far from a theoretical risk. The International Monetary Fund totted up 124 systemic banking crises from 1970 to 2007. Even though post-crisis reforms make banks far stronger, liquidity scares will happen. 2
To address this, pilot projects have limited the amount of funds available or gated the ability to move money, as with the Bahamas’ sand dollar. But creating expensive new payment systems just for transactions of up to 3,000 euros, as the European Central Bank has suggested, is unlikely to be worthwhile.
Central banks may even see their control over monetary policy transmission diluted, as Denis Beau, deputy governor of the Bank de France, recently pointed out.
The financial crisis taught us that the models central banks relied upon were overly simplistic, fair-weather versions of what really could happen because they overlooked the complexity of how banks function. No central banker wants to repeat this mistake.
This is not to say a digital dollar or euro is unviable, rather that central bankers will tread gingerly, starting with a narrower scope. This will leave the field open to Bitcoin, other crypto assets and private sector stablecoins to make the running for years to come.
But in no way will central bankers simply sit this round out while others build some magical, new decentralized market without them.
As Cameron Cobbold, a former Bank of England governor, said, “A Central Bank is a bank, not a study group.” So the real action will be in making wholesale markets and cross-border transactions more efficient. An example is in Singapore, where JPMorgan Chase & Co. and DBS Group Holdings Ltd. are working with Temasek Holdings Pte are working to digitize commercial bank money on blockchain technology for international payments, building on a pilot program by the central bank.
And so perhaps the most interesting part of the U.K.’s announcement of a CDBC taskforce was not the tantalizing glimmer of a Britcoin. It was the BOE’s creation of a new “omnibus” account to provide access to its real-time settlement system beyond its traditional customers. This will allow new providers of financial market infrastructure to leverage blockchain technology to deliver faster and cheaper wholesale payments and settle them using central bank money.
One consortium, comprised of 15 shareholders including UBS Group AG, Barclays Plc and Nasdaq Inc., has already applied for access with a goal to be up and running next year. Others are likely to follow.
Put another way, Britain may have the world’s first synthetic digital currency system for wholesale payments — backed by a central bank — as early as 2022. Such a development, over time, will have a profound impact on the role of banks in settlement. This is what to watch, not the Bahamas' sand dollar.
However, few realize it was Finland that pioneered the world’s first central bank digital currency. The experiment has some important lessons for those feverishly trying to figure out how revolutionary CBDCs will be, including the U.K., which joined the club just last month with a new taskforce.
Finland introduced the Avant Card in December 1992, long before Bitcoin came into existence. It could be loaded with up to 500 euros ($602) in today’s terms and was rechargeable. According to Aleksi Grym, an economist at the Bank of Finland, central bankers were convinced this system would quickly displace cash.
However, consumers found it difficult to use. Retailers were frustrated to have to add extra point-of-sale equipment. Finland’s central bank ended up selling the card to a group of banks that shut it down in 2006.
Today Avant Cards can be found on eBay for $10 1 — hardly digital gold.
It turns out that displacing the efficiency and convenience of modern credit card networks, and now their digital brethren, is incredibly hard. Most consumers value the reassurance that their money is safe in the bank if they lose their debit or credit card, which wasn’t true with these bearer instruments.
It is revealing that today Finland has chosen the digital slow lane for reconsidering a CBDC despite being the most cash-lite country in the world with just 3% of transactions undertaken in cash.
This leads to another key lesson: Before major central banks issue tokens at scale, there needs to be a far deeper assessment of the impact on financial stability and monetary policy and whether they increase the potential for bank runs. This, not a technical judgment about the efficiency of rival payments systems, is what will determine how large central banks will act.
After all, access to central bank money has traditionally been the preserve of domestic regulated banks. The age of the blockchain could open it up directly to other businesses, a huge taboo to break. What would that mean for the banking system, especially in a world where cash is far less important?
Deposit flight in times of stress is far from a theoretical risk. The International Monetary Fund totted up 124 systemic banking crises from 1970 to 2007. Even though post-crisis reforms make banks far stronger, liquidity scares will happen. 2
To address this, pilot projects have limited the amount of funds available or gated the ability to move money, as with the Bahamas’ sand dollar. But creating expensive new payment systems just for transactions of up to 3,000 euros, as the European Central Bank has suggested, is unlikely to be worthwhile.
Central banks may even see their control over monetary policy transmission diluted, as Denis Beau, deputy governor of the Bank de France, recently pointed out.
The financial crisis taught us that the models central banks relied upon were overly simplistic, fair-weather versions of what really could happen because they overlooked the complexity of how banks function. No central banker wants to repeat this mistake.
This is not to say a digital dollar or euro is unviable, rather that central bankers will tread gingerly, starting with a narrower scope. This will leave the field open to Bitcoin, other crypto assets and private sector stablecoins to make the running for years to come.
But in no way will central bankers simply sit this round out while others build some magical, new decentralized market without them.
As Cameron Cobbold, a former Bank of England governor, said, “A Central Bank is a bank, not a study group.” So the real action will be in making wholesale markets and cross-border transactions more efficient. An example is in Singapore, where JPMorgan Chase & Co. and DBS Group Holdings Ltd. are working with Temasek Holdings Pte are working to digitize commercial bank money on blockchain technology for international payments, building on a pilot program by the central bank.
And so perhaps the most interesting part of the U.K.’s announcement of a CDBC taskforce was not the tantalizing glimmer of a Britcoin. It was the BOE’s creation of a new “omnibus” account to provide access to its real-time settlement system beyond its traditional customers. This will allow new providers of financial market infrastructure to leverage blockchain technology to deliver faster and cheaper wholesale payments and settle them using central bank money.
One consortium, comprised of 15 shareholders including UBS Group AG, Barclays Plc and Nasdaq Inc., has already applied for access with a goal to be up and running next year. Others are likely to follow.
Put another way, Britain may have the world’s first synthetic digital currency system for wholesale payments — backed by a central bank — as early as 2022. Such a development, over time, will have a profound impact on the role of banks in settlement. This is what to watch, not the Bahamas' sand dollar.
