Bank of England Updates

For over 300 years, the Bank of England has issued banknotes bearing the pledge “I promise to pay bearer” and the note’s sterling value.

This legal commitment has long underpinned the core of finance, as commercial banks are required to be able at all times to convert customers’ money into physical cash, thus tying these private providers of currency and payment systems to the central bank orbit.

But the use of cash is declining, undermining this central feature of the financial system and leading the BoE to fear that banknotes and coins will become less relevant in the future. While there is little evidence that volatile cryptocurrencies such as bitcoin are attracting investors as an alternative to sterling, there is concern that the costs of sterling transactions will leave the currency vulnerable to downside. Stable coins – digital currencies linked to an external benchmark such as the dollar, or even digital currencies issued by foreign central banks.

This could undermine financial stability in Britain and the BoE’s ability to set interest rates to control inflation.

With these threats in mind, the BoE and the Treasury are investigating the issuance of a central bank digital currency, a digital pound sterling, for daily use by the public.

For users, a central bank digital currency would be little different from today’s digital payment bank accounts, except that it would be automatically guaranteed by the state, as money currently is, reducing the risk of using it. and potentially transaction costs.

When using the central bank-backed digital sterling, the money would come either from an account directly linked to the BoE or from a digital token backed by the BoE, just like a £ 10 banknote is a paper token also issued by the central. Bank.

This would, however, require elements of a new payment infrastructure.

Advocates hope that a central bank digital currency would lower the cost of payments and increase the inclusiveness of digital payments for those without a bank account in a world where fewer retailers could accept cash in the future.

A recent survey of academic economists conducted by the Chicago Booth School of Business found that 63% agreed that the benefits of a central bank digital currency would outweigh the risks, while only 7% were disagree.

No decision has been made at Threadneedle Street and there is no timeline in mind. But bank officials said they were exploring the deal with “pace and purpose,” bolstered by the fact that the European Central Bank launched its digital euro project last month.

Jon Cunliffe, the BoE’s deputy governor for financial stability, pointed out that technological change could lead to the demise of the current form of public money – cash. “We shouldn’t let this happen by accident,” he said.

Without committing to a digital pound sterling, he expressed hope that “a well-designed and efficient public funding alternative, coupled with much-needed regulation, would provide a more efficient and robust response. [to the coming changes in payments technology]”.

While there may be benefits, few economists believe they will be transformative and a digital pound, if introduced, would likely look like another form of payment, leaving many other features of the modern economy behind. unchanged.

Professor Olivier Blanchard of the Peterson Institute of International Economics and former IMF chief economist, felt he could not be excited about the prospect. “I can miss the vision thing. [Central bank digital currencies] can improve plumbing [of the financial system]. But to me that seems like a lot of ado about not much, ”he said.

The BoE has made it clear that there are important design features it needs to get a handle on the potential risks it wants to avoid by introducing a digital pound sterling.

Privacy is perhaps the biggest immediate design issue with central bankers wanting enough capacity to be able to fight crime without the state having visibility into every transaction people make.

Cunliffe stressed that the state should strike a balance here and that that balance would apply to both public digital currencies and private tokens such as stablecoins. One of the benefits of involving central banks, he added, was that the state would never collect or sell data on individual transactions for marketing and business purposes.

The other crucial question the BoE needs to determine is whether it would pay interest on any retail central bank digital currency, as it does with the digital currency it currently issues to commercial banks, or not as it does. is the case for physical species.

It will be a thorny question: paying interest would strengthen the power of the BoE’s monetary policy, especially if it wanted to impose negative rates to encourage spending. But if it did pay interest, it could prove extremely attractive to consumers, undermining the health of the banking system, reducing deposits and increasing the cost of loans.

Professor Stephen Cecchetti of Brandeis International Business School and former chief economist of the Bank for International Settlements, which oversees the international payments system, is concerned about this potentially destabilizing aspect of central bank digital currencies.

He sees central banks rushing to introduce digital public currencies because they are fashion followers rather than a force for good. It would undermine national banks, generate a “tidal wave” of money flowing from developing economies in search of a stable place to park money and harm privacy,[ing] authoritarian governments by giving access to everything we do ”.

“All of this makes us very concerned,” added Cecchetti.