The Bank of Canada published a paper on “The Role of Public Money in the Digital Age”, arguing the need for a central bank digital currency (CBDC). It doesn’t mention public concerns about privacy or the impact of a CBDC on commercial banks, because that’s not the point of the paper. It’s starting from an earlier premise – why might a CBDC be necessary? That’s particularly from the perspective of an advanced economy with well functioning payment systems.
Objectively, it makes a strong case.
It identifies three current trends that threaten the current monetary system status quo:
- digitalization in general
- the declining use of cash
- increased demand for cryptoassets and stablecoins.
Surprisingly, in Canada there is neither an obligation on banks to distribute cash nor on merchants to accept it.
There are many ways to create new forms of money quickly. That’s not just digital currencies but also big tech platforms looking to enter the space, such as X.com or Telegram’s fast growing crypto functionality. The risk is that diverse types of money create fragmentation.
Getting widespread adoption for a currency is hard, “but with so many attempts being made, the right formula may eventually be discovered.”
Fragmentation and monetary sovereignty
While new payment instruments are keen to encourage interoperability with other services to onboard new users, they have a habit of creating walled gardens once established, which fragments the monetary system.
Additionally, once payment systems become dominant, they are likely to exert market power, in a similar way to Visa and Mastercard.
One extreme scenario is a private player might become so big that it challenges the Canadian dollar as a unit of account. Alternatively, a foreign CBDC could become a threat. It gives examples of DeFi providing a sufficient incentive to use an alternative unit of account. DeFi is dominated by U.S. dollars. Moreover, Canadian exporters may be encouraged to accept payment in a foreign CBDC.
If monetary sovereignty is weakened, it becomes far harder to implement effective regulations.
Today cash provides an alternative method of payment and provides a counterbalance to banks. As cash usage declines, that public utility optionality for consumers will disappear.
Unless there’s a CBDC.
Note: the paper doesn’t mention any firms or foreign currencies as examples, we added those.