This is the question that a Norges Bank working group has been investigating in the initial phase of a study of central bank digital currencies. The working group’s report provides an overview of the issues that it regards as relevant in an assessment of whether to introduce a Central Bank issued digital currency in Norway.
The report gives a thorough analysis of the potential of introducing a central bank issued digital currency as a supplement to physical cash to the general public. As Nordic countries are progressing towards cashless societies, the possibility to issue a digital equivalent of physical money is an important topic. Even though cash usage is declining in favor of bank deposits, cash has a number of properties that are described in the report such as a credit risk-free alternative to deposit money, availability for everyone as well as anonymity. The working group states that a Central Bank Digital Currency should contain at least some of these properties.
However, such an introduction would require the central bank to create dedicated payment solutions, where Norges Bank would be responsible for. A central bank issued digital currency and the role of the central bank is limited to offering a digital currency as a means of payment and store of value, and will not be offering any form of credit to the general public.
WHat may come as a surprise for many is that the working group does not consider distributed ledger or blockchain technology as a viable solution as the technology is considered too immature for this usage. Some of the reasons stated are the amount of energy required to validate transactions through “proof of work” would result in high systemic cost as well as security challenges as electronic wallets have been stolen and assets lost due to technical errors. The risk of theft is, in principle, the same as in the case of cash. However, the primary challenge is related to the fact hat the central bank must be able to control the system, which contradicts a purely decentralized system. This may change in time as the technology matures, but for now, two primary models are discussed in the paper:
An account-based model, both value storage, and transaction processing are
centralized. Money is thus held in accounts and moves from one account to
another in the system. Transfers are validated by a central third party
A value-based model, value storage, and processing are decentralized.
Money is thus stored locally in a payment instrument, typically a card or
app. Transfers take place directly between parties, without the
intermediation of a central third party
Even though Norges Bank will be ultimately responsible, none of the primary models requires Norges Bank to have direct customer contact, nor be responsible for technical development and daily operations. The report suggests that there may be several service providers obtaining various roles. However, as neither of the suggested models are distributed, there can only be one provider of the core of the solution, since there may only be one account structure.
A possible solution must also follow several architectural design principles regarding scalability, interoperability, accessibility, security, and flexibility. The solution must be able to scale in terms of both user and usage growth. The solution must be independent of devices and operating systems, as well as adapt to changes in this landscape in order to be accessible for everyone. The solution must also follow universal design principles, be user-friendly enough to cater to everyone and be available 24/4 every day of the year. Needless to say, security must be state of the art just to name a few. The solution will also have to comply with applicable regulations such as GDPR and PSD2. However, the requirements concerning the granting of access to a CBDC payment account will be
inapplicable in certain cases. At the same time, permitting third parties to deliver services on top of an account-based model would encourage consumer adoption of digital currencies through third-party services. An obvious conclusion is that the cost related to both developing, hosting and maintaining such a solution would be substantial.
Even though a central bank issued digital currency seek to possess similar traits as cash, digital currency may have consequences for both banks, financial stability and monetary policy. As an electronic store of value, central bank digital currencies may challenge traditional bank accounts as the primary store of value, thus affect the banks’ balance sheets. As a consequence, banks would have to shift from deposit-based funding to wholesale funding. This may ultimately reduce bank lending and also economic growth. The central bank may become a direct competitor to payment service providers, thus interfering with earnings of existing banks and payment services providers.
With the cost, complexity and potential consequences of a central bank digital currency, a key question is consumer demand and expected adoption curve. This chapter remains somewhat inconclusive and theoretical and does not provide the necessary discussions to asses consumer demand properly. After all, a currency that is not used by the general public is useless.
The working group seeks to further investigate the cost-benefit of central bank digital currencies as well as seek to mitigate the potential consequences for banks as an underlying premise for further work. Personally, I would also like to see some more details regarding consumer adoption an demand in order to make sure this does not end up as a solution in search of a problem.
This is just a mere summary of an solid piece of work by the Norges Bank working group. For more details, I recommend reading the whole report at Norges Bank.