12/07/2020Kristoffer Mousten Hansen
Twenty twenty is a year dominated by bad news. While governments around the world have imposed extremely destructive restrictions on economic life and promise a “Great Reset” that amounts to a great leap forward into the socialist future, central bankers have advanced plans for implementing central bank digital currencies (CBDCs). These may arrive as early as next year. Yet what is the motivation behind this innovation? Reports recently published by the Bank for International Settlements1 and the European Central Bank2 provide part of the answer. These publications provide fascinating insight into the theories and ideologies driving central bankers in their pursuit of CBDCs.
Monetary Policy? Moi?
One perhaps surprising theme in both reports is the disavowal of any monetary policy behind plans for introducing CBDCs. The BIS report claims that “[m]onetary policy will not be the primary motivation for issuing CBDC” (p. 8) and the ECB report notes that a “possible role for the digital euro as a tool to strengthen monetary policy is not identified in this report” (p. 3). One might first of all suppose that introducing a new form of money would by definition amount to monetary policy, at least in a broad sense, and secondly perhaps find it a tiny bit weird that institutions dedicated to researching and implementing monetary policy would not have considered the potential effects of a new form of money in light of its effects on policy. But what is really striking is that both reports—and especially the one issued by the ECB—at great length detail the implications for monetary policy of CBDC. True, they say they don’t, but looking beyond the executive summary and paying attention to what is written in the report itself puts the lie to that claim.
In order to see this, we only need to look at the key features the central bankers identify as desirable in a CBDC: it should be interest bearing, and it should be possible to cap how much each individual can hold. Both measures are clearly aimed at supporting monetary policy. The cap on holdings forces people to spend their money, driving either price inflation or investment in financial assets, and by making the CBDC interest bearing (or remunerated, in the language of the ECB) it becomes a tool of setting and passing on policy rate changes, including negative interest rates.
The ECB’s Report on a Digital Euro in particular goes on at great length about the need to limit or disincentivize “the large-scale use of a digital euro as an investment” (p. 28). The reasoning behind this position is crystal clear: since monetary policy has driven interest rates into negative territory, the ECB should not allow large-scale holding of digital euros, since investors would then, quite sensibly, chuck their holdings of negative-yielding bonds and seek a safe haven in digital euros—that is, if they can hold them at no cost. Similarly, the ECB is averse to letting people convert their bank deposits into digital euros (p. 16), which would reside in their individual wallets rather than in a bank account. Indeed, the horror of what the BIS and ECB reports call “financial disintermediation” looms large in the minds of central bankers: if people keep their money outside of banks, these will have less money to lend out, thereby increasing borrowing costs. In the words of the BIS report, they are concerned that
a widely available CBDC could make such events [i.e., bank runs] more frequent by enabling “digital runs” toward the central bank with unprecedented speed and scale. More generally, if banks begin to lose deposits to CBDC over time they may come to rely more on wholesale funding, and possibly restrict credit supply in the economy with potential impacts on economic growth. (p. 8)
Of course, Austrian economists since Ludwig von Mises3 understand that “financial disintermediation” can really be a blessing. In the context of digital euros, all it means is that people would hold the amount of cash they deemed desirable outside the banks. They would only make true savings deposits in banks, i.e., they would only surrender money that they did not want instant access to. Under such circumstances, banks would be incapable of expanding credit by issuing unbacked claims to money; they could only make loans out of the funds their customers had explicitly made available for that purpose. This would not only result in a leaner or sounder financial system, it would also avoid the problems of the perennially recurring business cycle. And contrary to what the central bankers fear, the supply of credit would not be restricted, it would simply be forced to correspond to the supply of real savings in the economy. This, unfortunately, is an understanding of economics completely alien to central bankers.
Negative Interest Rates
One aim in introducing CBDCs that is only hinted at is the possibility of imposing even lower negative interest rates. In recent years monetary economists4 have increasingly discussed the problem of the “zero lower bound” on interest rates: the fact that it is impossible to set a negative interest since depositors in that case would simply shift into holding physical cash. When manipulating the interest rate is the main policy tool of central banks this is obviously a problem: How can they work their alchemy and secure an acceptable spread between the main policy rates and the market rate of interest when interest rates are already very low? Allowing for the cost of holding physical cash, –0.5 percent seems to be about as low as they can go.
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