CBDC: A solution in search of a fair hearing?

January 14, 2022

A new report from the House of Lords on central bank digital currency (CBDC) shows that politicians still don’t understand the problems with our monetary system.

On Thursday the House of Lords’ Economic Affairs Committee published the report from their inquiry into central bank digital currencies (CBDC), titled ‘Central bank digital currencies: a solution in search of a problem?’

The Chair of the Committee, Lord Forsysth of Drumlean summarised: “We took evidence from a variety of witnesses and none of them were able to give us a compelling reason for why the UK needed a central bank digital currency”.

This conclusion is unsurprising, given that the Committee did not hear from any witnesses that are actively advocating for the benefits a CBDC offers to society. Indeed, many of those who gave evidence have vested interests in opposing a CBDC, such as HSBC and Visa, whose profit margins would be disrupted by democratising the money and payments system. It is also worth noting that many Committee members, including the Chair, have interests in financial sector firms.

Positive Money submitted written evidence, and were pleased to see our contribution cited on more than one occasion in the report. In spite of this, the report as a whole seems to demonstrate a lack of understanding of the monetary system, and the issues a CBDC would help address. This is perhaps not surprising, given that there is a very poor understanding of money among Parliamentarians.

The report identifies “risks of private money creation”, as a future issue CBDC may pre-emptively address, referring to concerns that big tech companies could start creating their own money. However this fails to consider that the current system is already dominated by the private money created by commercial banks in the form of deposits – a crucial fact which is absent from discussion in the report.

A CBDC would provide universal access to a secure, digital form of public money. As the Lords report notes, citing our evidence, public money (money issued by a public institution such as the Bank of England) provides the anchor of trust and final means of settlement which all private forms of money (such as bank deposits) rely on. Currently the only forms of public money which exist are physical cash, and central bank reserves. Central bank reserves exist digitally, but they are only available to commercial banks, which means the rest of us have to rely on these banks to make digital payments.

Currently the public good of a payments system is entangled with banks’ risky profit-maximising activities. Not only does our reliance on private banks and card companies mean they are able to extract huge economic rents from us, but it also means we are forced to bail them out to prevent the whole economy collapsing, as we saw in the 2008 financial crisis.

As a risk-free form of money which is separated from banks’ risky credit creating activities, CBDC has the power to address the inherent instability of our current financial system. Yet the Lords on the Committee are more concerned that CBDC could be a risk to the stability of the banks. The Committee’s report has been influenced by critics who argue that introducing a CBDC would itself cause instability as people move their money from bank deposits into risk-free CBDC, leading to runs on the banks. However, as both our work and the Bank of England’s own research has shown, there is no reason why CBDC couldn’t be introduced in a way which preserves financial stability.

Many of the claims that a CBDC threatens financial stability come from those who fear that competition from a CBDC would make private banks obsolete. But as even former Bank of England governor Mark Carney has recognised, “Banks are a means to an end—not ends in themselves—and they will have to adapt to a much more competitive environment.”

A CBDC, if designed with the public interest in mind, would address the fundamental fragility at the heart of our economy, and offer a more resilient system to replace the multi-layered and inefficient arrangement we have at present. It would open up the privileged access to safe accounts at the Bank of England enjoyed by private banks, allowing all households and businesses to save money and make peer to peer payments directly, without needing to rely on middlemen such as banks and card companies, who extract profits from the money we are forced to lend them, and the payments we are forced to make through them.

This would not only mean cheaper and more efficient payments, but also more effective and fairer monetary policy. Rather than relying on private banks to pass on changes in interest rates or increase their lending, the Bank of England would be able to pay interest directly on people’s CBDC accounts or channel new money directly to the real economy through drops of ‘helicopter money’.

The Committee is right to take seriously the privacy implications of a CBDC, but CBDCs in themselves shouldn’t pose a threat to privacy. Focusing only on the risks of state surveillance misses the very real privacy threats generated by the privatisation of our payments system. It is important to recognise that the state does not need a CBDC to monitor the transactions of its citizens – banks already share data with security agencies upon request. Whether we have the option to make digital payments without being subject to state surveillance does not rest primarily on the decision of whether to launch a CBDC. In reality, our payments privacy relies much more on whether high standards of data protection are enforced across the public and private sectors, and the ease at which branches of the state are able to access this data.

Positive Money’s submission urged for a CBDC to be designed with strongest possible protections for privacy to be built in, and emphasised that a CBDC could actually offer increased protection against private sector interests exploiting our data (especially if the profit models of private sector payment firms increasingly rely on exploiting the personal data they collect from users). We have also proposed that CBDC accounts be complemented with an anonymous token form of CBDC for small transactions, which would replicate the decentralised benefits of cash.

Other objections, such as the increased risk of a single point of failure being exploited by cyberterrorists, are also not specific to a CBDC, and demonstrate the importance of maintaining a diversity of payment methods, including cash.

Despite these shortcomings the report has made some welcome points.  For instance, the Committee recommends that the CBDC engagement forum should include a greater number of representative consumer groups, rather than being dominated by commercial interests.

Furthermore, the report recognises that a CBDC could mean an increase in central bank power without sufficient scrutiny. The Bank of England is already one of the most powerful economic institutions in the country, and Positive Money has long-advocated for enhanced accountability. Regardless of whether a CBDC is implemented, we are already seeing a shift away from the role of traditional banking and towards market based financing (such as bond and share issuances), which will likely mean an increased role for central banks in using their powers (including the creation of new public money) to backstop financial markets. The Bank of England’s executive director for markets, Andrew Hauser has already spoken about how the central bank is evolving from not only a lender of last resort, but also a market maker of last resort. This extended role, as well as the design of toolkits, has profound implications for the financial system and wider economy and requires enhanced scrutiny.

Regardless of the concerns we’ve raised about oversights in the report, we welcome the greater scrutiny provided by the Committee. It is right that more questions are asked about the design and implementation of a CBDC, as well as the role of the Bank of England in our economy, and we look forward to being part of more debate in the coming year.