A CBDC Taskforce – so what?
The Bank of England and HM Treasury recently announced the creation of a taskforce “to coordinate the exploration of a potential UK Central Bank Digital Currency (CBDC)”, or ‘Britcoin’ as it has imaginatively been called. This received an awful lot of press coverage considering that the press release also made clear that they haven’t yet made a decision on whether to launch a CBDC. So, in effect, it just said they’ll look at it….which the Bank of England, as well as pretty much every other central bank, has already been doing for several years (a quick search on the BoE website shows official entries on CBDCs from at least as early as 2016). And a recent BIS survey found that 86% of central banks “are now exploring the benefits and drawbacks of CBDCs”, with The Bahamas and China already having CBDCs in large scale pilots.
In the land of digital currencies the more interesting news, on the same day, was the BoE’s launch of “Omnibus accounts”, enabling alternative payment systems to interface directly with RTGS, with a specific mention of Distributed Ledger Technology (DLT) based systems, opening up the possibility of cryptocurrencies being tied into central bank money and the core settlement systems. I’ll come back to why this is important, but first a quick recap on how the landscape of digital currencies has evolved.
Back in 2008 Bitcoin was launched with the ambition for it to become the payments rail of the future, decentralising and democratising payments by taking control away from the establishment, i.e. the banking industry. Fast forward 13 years and the total value of Bitcoins in circulation (I hesitate to use the term ‘market capitalisation’) has increased to be the size of major multinational companies like Facebook and Alphabet. Many banks are now enabling customers to trade with Bitcoin accounts, it has shrugged off some of the negative press from earlier years, and it is now being seen as a genuine investment asset. However, as an alternative currency, i.e. a payment mechanism, it has been a failure. Bitcoin averages 300k transactions per day globally. In contrast, Faster Payments averages around 1m transactions per day, for just the UK market. It’s time we started calling it a cryptoasset, not a cryptocurrency. Other cryptocurrencies are available, but none have been as ‘successful’ as Bitcoin.
Around 2015, Bitcoin and Blockchain / DLT started getting widespread attention within Financial Services, and thoughts quickly turned to whether DLT could be used for CBDCs. The benefits touted were the cryptographic security, the resiliency provided by a decentralised ledger, and the speed from enabling peer to peer payments globally, although there was still work needed to assess the technology challenges. Five years later, there is little doubt that from a technical perspective that CBDCs are possible, but there are wider considerations around the macroeconomic and societal impacts of retail CBDCs (irrespective of whether CBDCs are on DLT or not). Should CBDC users be effectively anonymous (like cash) and, if so, does that facilitate fraud? If users are not anonymous to the central bank, is that all a bit “Big Brother”? Will money going into CBDCs take deposits away from commercial banks and undermine the banking system? Will CBDCs help or hinder financial inclusion? If my payment goes missing, or I don’t recognise a payment, will central banks need to have call centres to deal with ‘customers’? With real-time payments systems becoming more prevalent, do we even need CBDCs? As a result, we’re still a good few years away from any of the major central banks launching a full-scale, retail CBDC; although a wholesale CBDC, for use amongst central banks and commercial banks may arrive sooner.
Alongside these two types of digital currencies are stablecoins which are, from a technical perspective, much like the original cryptocurrencies. However, rather than their value being subject to the whim of the markets (or Elon Musk’s tweets) these are, in theory at least, backed 1:1 with real-world assets, typically fiat currencies. In theory this means their value should never fluctuate (hence, stablecoin) making them much more attractive as a means of payment. In contrast to CBDCs, most stablecoins are operated by private companies with Tether, USDC (USD Coin) and USC (Utility Settlement Coin) being some of the more prominent examples. Some of the larger banks, such as JPMC, are also developing their own DLT-based alternative currencies as a means of settlement. These stablecoins are currently gaining traction at a significant rate with some interesting collaborations happening with established players, such as USDC’s partnership with Visa. This recent surge in interest was bolstered in January when the OCC in the US clarified that financial institutions can use stablecoins for payment activities.
One of the fears of central banks was that the use of stablecoins would move money away from the traditional banking sector where monetary policy can be enacted using interest rates…and this is why the recent BoE announcement is so important. By allowing and encouraging alternative payment operators, such as stablecoin operators, to hold the assets backing the stablecoins with the central bank it creates a win-win situation – central banks can continue to drive monetary policy using interest rates, and stablecoin operators have cast-iron guarantees with their deposits sitting with the lender of last resort. And it’s worth noting that stablecoins aren’t constrained by a lot of the macroeconomic and societal considerations that CBDCs are. As a result, stablecoins are very much the ‘gateway’ digital currency for a lot of market participants, as acknowledged by Visa in their press release about the USDC tie-up.
So what does this all mean for the traditional banking sector? When it comes to Bitcoin, no effort should be spent wondering whether this will be a form of payment, but banks may consider whether they want to allow customers to hold Bitcoin as an asset, or indeed whether they themselves want to invest in it. Mainstream CBDCs are still a few years away for the reasons outlined above, and because most central banks are fully occupied with ISO20022 migrations, and the BoE itself is also busy with its RTGS replacement. So while the new taskforce is a nice bit of PR, the near-term focus of the banking sector should be on the seemingly inexorable rise of fiat-backed stablecoins and how these will be used in both the retail and wholesale space. If you’d like to know more, please contact me at [email protected]