In a long-awaited paper, the FRB continues its exploratory approach and emphasizes the need for congressional support.
By Alan W. Avery, Pia Naib, and Deric Behar
On January 20, 2022, the Board of Governors of the Federal Reserve System (FRB) published its long-awaited discussion paper (the Paper) on the potential benefits and risks of issuing a US central bank digital currency (CBDC). The Paper, titled “Money and Payments: The U.S. Dollar in the Age of Digital Transformation,” is intended to initiate a discussion around the various factors the FRB is considering with respect to a potential US CBDC rather than “advance a specific policy outcome.”
The FRB emphasized that it “takes no position on the ultimate desirability of a US CBDC” and, importantly, would not “proceed with issuance of a CBDC without clear support from the executive branch and from Congress.” The Paper acknowledges that further research and analysis is needed to fully assess the potential benefits and risks described therein and solicits public comment on the policy points and issues that the FRB raised.
The Paper summarizes the existing forms of money in the United States as well as the current state of the US payments system, and covers various digital payment methods and assets, including cryptocurrencies and stablecoins. It then examines the various pros and cons of a US CBDC in light of the FRB’s policy stance that any US CBDC should:
- Provide benefits to households, businesses, and the overall economy that exceed any costs and risks
- Yield such benefits more effectively than alternative methods
- Complement, rather than replace, current forms of money and methods for providing financial services
- Safeguard consumer privacy rights while also providing the transparency necessary to deter criminal activity
- Be resilient to operational disruptions and cybersecurity risks
- Have broad support from key stakeholders
In addition, as the FRB noted, current data suggests that a US CBDC would best serve the needs of the United States by being:
- Intermediated by private sector financial services industry participants to facilitate the management of CBDC holdings and payments
- Readily transferrable between customers of different intermediaries
- Compliant with existing US anti-money laundering and anti-terrorist financing regulations, which would require verifying the identity of a person accessing a CBDC
According to the Paper, a US CBDC has the positive potential to:
- Offer the general public broad access to digital money that is free from credit risk and liquidity risk (unlike cryptocurrencies and stablecoins)
- Mitigate some of the credit and liquidity risks to the financial system from the widespread use of cryptocurrencies and stablecoins
- Support private sector innovation by meeting current and future needs for sound payment services
- Streamline cross-border payments
- Enhance cross-jurisdictional collaboration and interoperability
- Preserve the role of the US dollar as the world’s reserve currency
- Promote financial inclusion by facilitating transfer of payments, taxes, wages, savings, credit, etc.
- Expand safe payment options available to the public
On the other hand, a US CBDC has the negative potential to:
- Reduce the aggregate amount of deposits in the commercial banking system, which could in turn increase bank funding expenses, and reduce credit availability or raise credit costs for market participants
- Increase the likelihood and severity of runs on commercial financial institutions (especially during times of stress in the financial system) by simplifying conversion from commercial deposits to risk-free CBDC
- Affect monetary policy implementation and interest rate control by altering the supply of reserves in the banking system
Next Steps in the US CBDC Landscape
While dozens of countries are already in the development and operational phases of their own CBDCs (according to data from Atlantic Council’s GeoEconomics Center), the FRB is taking a more measured approach. It will not move ahead with a CBDC without buy-in from Congress and the executive branch (which may be difficult to obtain), “ideally in the form of a specific authorizing law.” The FRB emphasized that the Paper is merely “the first step” in a public discussion between the FRB and stakeholders, and further steps toward developing a CBDC will be contingent on research indicating that the overall benefits of a US CBDC exceed the risks and the lack of superior alternative methods. The FRB is committed, however, to fostering a broad dialogue about US CBDC, so its exploratory approach will likely continue for the foreseeable future.
Responses to the 22 questions relating to CBDC benefits, risks, and policy considerations at the conclusion of the Paper are due by May 20, 2022.
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