On 12 March the Bank of England published a discussion paper exploring the possibility of it issuing Central Bank Digital Currency (CBDC) in the future. The paper initiates a dialogue with a range of stakeholders as to whether the benefits of doing so outweigh the risks and how any such CBDC might be designed and operated.

The paper is well written, accessible and contains a number of interesting proposals, even if it is clear that these are at a very early stage and are only a sub-set of the many possibilities.

What is CBDC?

In simple terms it is digital cash, issued by the Bank of England.

It would become the highest quality digitally-exchangeable and -transferable monetary value available for use by individuals and businesses, because it would be issued directly by the Bank of England (and so constitute central bank money). While bank deposits represent a claim against the bank where the deposit is held, not against the Bank of England, CBDC would represent a claim directly against the Bank of England, meaning it would be free of credit risk (just as cash is).

Importantly, though, it would be posible for us all to hold central bank money without needing to open a bank account at the Bank of England. This is in contrast to the current position in which cash is the only central bank money which an individual or most companies can hold and use; and, sadly, none of us can open a current account at the central bank. 

The Bank of England's aspiration is that CBDC would represent a third way of holding and using money in the UK (and beyond): a digital, and thus in theory fully auditable, alternative to cash and bank deposits.

The possibilities for CBDC are myriad but, to give just one example, it could facilitate micropayments (payments of only a few pence (or less)), the fees for processing which are currently often greater than the amounts transferred. This itself could support different revenue models for all sorts of things (e.g. paying for individual articles and/or other media, rather than paying a regular subscription).

What does the discussion paper do?

In high-level terms, the Bank of England's paper:

  1. explains what CBDC is, how it works and what its purpose is;
  2. sets out a number of approaches which could be taken to the creation of a CBDC;
  3. goes into considerable detail about the individual elements of the Bank of England's design principles for any CBDC;
  4. gives details of an initial Bank of England proposal of what this might look like in practice; and
  5. contains a list of questions to which stakeholders are invited to provide responses.

Why now?

Central banks interest in digital currencies has increased significantly in the last year or so. It is quite possible that this is due to concerns which those central banks (including the Bank of England) have about the risks which might be posed by private digital currencies (so-called stablecoins), but it has also become more topical as the world of payments technology and payments infrastructure has evolved, and other external factors such as cyber threats and political instabilities have come to the fore.

Libra is the most well-known of these proposed private offerings and, while it has not made the progress it initially promised and looks to have come up against a number of regulatory hurdles, its surprise emergence may have knocked various central bankers off a balance which they are now trying to regain.

There is, in fact, an entire section of the discussion paper in which the Bank of England describes the risks associated with stablecoins. The proposal for a CBDC can therefore be read as a direct response to those perceived threats.

What next?

Responses can be provided up until 12 June 2020. Perhaps unsurprisingly, the Bank of England has not committed itself to any timetable on which it will respond to any comments it receives or issue any more concrete proposals. Arguably more important events have now intervened in any case.

Final thoughts?

The discussion paper shows that the Bank of England has carefully considered the possibilities around CBDC and is actively pursuing these, without committing itself one way or another.

Concerns remain about the possible effects of introducing CBDC. In particular, there is a real risk that doing so might prove so popular as to challenge existing elements of the way the financial system works. Significant uptake might, for example, cause large-scale bank disintermediation (i.e. people moving their deposits away from banks), which could threaten banks' funding models and affect the funding available to the real economy. In addition, it should not be a shock that anti-money laundering and data protection concerns feature heavily in the Bank of England's considerations.

One thing which the Bank of England's proposals do not seem to address is access to money more generally. While SBDC is supposed to act like digital cash, it may still require some form of third party account or wallet for individuals to hold and access it, which does not really help the currently unbanked. Given that this was one of the principal selling points of Libra, it is something which the Bank of England and other central banks might want to consider as they develop their thinking further.