The CBDC Juggernaut
In the last 48 hours, the Bank of England, the Federal Reserve and the Bank Negara Malaysia have all provided perspective and taken action regarding central bank digital currency (CBDC) issues. The policy shifts illustrate a core truth about the overwhelming force of momentum regarding reserve currency public policy: strategically significant developments occur within technical details.
Fortunately, our PolicyScope Platform provides the ability not only to acquire a 360-degree view of all global activity within the last 24 hours but also to assess policy reaction functions over time. Surfacing related content automatically make it possible quickly to draw two main conclusions from the activity in the last 24 hours that moves beyond the hype.
Policymakers remain concerned about competition from private token issuers.
The technical issues inhibiting faster progress have nothing to do with technology.
Each of these is analyzed in more detail below.
Overview -- The 2020 Arc of Policy
Our regular readers will remember that 2020 started as a major CBDC year. Policy activity exhibited sharp upwards aggregate activity regarding payment systems, cryptocurrencies, and CBDCs. The pandemic interrupted that momentum for understandable reasons. The main policymakers in this space are central banks and they were busy stitching together a large number of economic lifelines as mobility restrictions and shattered supply chains hobbled economic activity:
As of end-July, activity levels in all areas had resumed levels last seen in January 2020. Activity already in August suggests strongly that the autumn will be busy.
The stage is now set for year-end policymaking when officials return from August vacations.
Competition Concerns -- yesterday's FRB & BoE action
Central banks and sovereign currency issuers are not immune from competition. In fact, inefficiencies within existing payments processes provide incentives for private parties to deliver alternative mechanisms that better address user needs.
In a regulated financial system, some inefficiencies are deliberate. Inefficiencies related to verifying user identities, for example, address significant safety and security needs designed to prevent the payment system from being used to support illicit or illegal activity. Policymakers are delivering zero indication of compromising on these issues. Given the anonymity built into blockchain-based digital assets and digital currencies, conflict on this issue is inevitable.
However, central banks are now actively competing with private currency issuers in two other areas: speed and financial stability. Let's start with speed.
Need for Speed: One major advantage associated with a range of alternative payment providers (peer-to-peer networks, payment cards, cryptocurrencies) is that value transfers occur instantly from the consumer's perspective. The consumer does not need to wait for a check to clear or for a funds transfer to be credited to an account. But at the institutional level, interbank processes generate considerable operational efficiencies for companies operating the payment networks. These inefficiencies create incentives for firms to start experimenting with alternative stores of value to meet market demand for instant payments.
The European Central Bank appreciated the challenge faster than the United States. They launched an instant payments network in November 2018. Yesterday, the Federal Reserve finally followed suit. The "FedNow" service provides the foundation for instant payments in the United States.
Industry experts will be unimpressed. The Federal Reserve's action starts a long transition towards instant payments with a hazy, unclear commitment concerning actual implementation:
"The target launch date for the service remains 2023 or 2024, with a more specific time frame to be announced after additional work is completed."
Consumers may have a need for speed, but the Federal Reserve is only acting with all deliberate speed. A slow and deliberate approach is only possible under the assumptions that no other credible, alternative stores of value will achieve consumer confidence and scale relative to the sovereign-issued currency during the same time period. Cryptocurrency enthusiasts will scoff at this assumption.
The Bank of England is not laughing. Yesterday's financial stability statement from the Financial Policy Committee made clear that policymakers are looking over their shoulder and assessing carefully their competitors in the currency arena:
Rather than compete on speed, the Old Lady of Threadneedle Street is competing on confidence. The implication is that a private issuer -- with fiduciary obligations to boards and investors -- will not have the ability or capacity to serve as a source of strength comparable to that provided by official sector deposit insurers and/or lenders of last resort.
The Main Hurdles Are Not Technological -- Bank Negara Malaysia
To be clear -- major technological hurdles do indeed exist to launching a credible, secure, and reliable CBDC. But these challenges can be addressed. Serious, intense work has been underway within all major global central banks for over 18 months regarding the underlying technology and making it fit for purpose at central banks.
While distributed ledger technology may incorporate some inherent safeguards against hacking, central banks seeking a digital version of their national currency will require adjustments. Those adjustments may rankle cryptocurrency enthusiasts and delay deployment in order to complete the development work.
Cash may be anonymous, but when cash was launched centuries ago it was not possible to think about tracing it short of adding dyes to the paper. More importantly, large amounts of transactions and funds held in cash create security risks for individuals and become increasingly difficult to hide from regulatory, tax, and law enforcement authorities. Digital currencies create no comparable natural limits on how much cash an individual can hold.
It will take time for central banks to solve for issues regarding anonymity, data privacy, and regulatory reporting. Again, these are surmountable issues.
But for any digital currency to operate at scale, it must be interoperable on a cross-border basis. An elaborate cross-border payments system already exists to support international payments (large and small). Yesterday's speech from the Deputy Governor of the Bank Negara Malaysia pinpoints the much larger challenges that await central banks seeking to issue CBDCs:
Cross-border clearance and settlement will require policymakers to agree internationally on a broad range of standards, particularly:
These are not technological issues. Views vary -- sometimes dramatically -- at the national level regarding those issues. Laws in many jurisdictions restrict what kind of information can be shared across borders (and even across functions within the same country) with respect to private individuals and private firms. More stringent national security requirements apply regarding the sharing of information that pertains to core government functions....like currency issuance.
The list above, while daunting, is not complete. Other policymakers this year and last year identified major issues regarding monetary policy transmission functions associated with floating a parallel, digital, currency alongside traditional currency.
Conclusion: Despite the pandemic, central banks continue to engage actively in an evolutionary process that will bring them and their currencies into the 21st century. The policy formation process is iterative and reactive. Trajectory shifts will occur in subtle, technical ways. Our patented PolicyScope Platform process will capture each move, providing users with superior informational advantages at every turn. Platform data powers the analysis delivered daily in the PolicyScope Risk Monitor, further amplifying the competitive advantages for users.
These insights were discovered using BCMstrategy, Inc.'s PolicyScope Platform. BCMstrategy, Inc. is an early stage technology company bringing the data revolution to policy intelligence by quantifying global public policy activity daily. Daily analysis of platform data is available to individual subscribers through the PolicyScope Risk Monitor. Subscribe today today to receive data-driven insights regarding key geoeconomic policy trends.
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