St. Louis Fed: central bank e-money addresses banking sector competition

Should a central bank take over the provision of e-money, a circulable electronic liability? We discuss how e-money technology changes the tradeoff between public and private provision, and the tradeoff between e-money and a central bank’s existing liabilities like bank notes and reserves.

The tradeoffs depend on

i) the technological setup of the e-money system (as a token or an account; centralized or decentralized);

ii) the potential improvement in the implementation and transmission of monetary policy;

iii) the risks to safety and privacy from cyber attacks; and

iv) the uncertain impact on banks’ efficiency and financial stability.

Our main conclusion is that the new technologies like DLT and mobile computing have not significantly changed the tradeoffs for the specific case of providing central bank accounts to the public. In contrast, these same technologies might have changed the tradeoffs in the provision of token-based systems by central banks.

Surprisingly, this change will not come through the changes in the efficiency or risk of token systems. Instead, the fundamental change will be that the new technologies might allow central banks or regulators to increase the competition in the market for payments services at the wholesale and retail levels.

The most compelling argument for central banks to issue e-money is to address competition problems in the banking sector.

By offering a token-based system to a wider set of participants, which could include individuals but most likely new financial firms, central banks could increase competition and spur innovation. Although this could have been done even before by opening the high-value payments systems to non-traditional financial institutions, the new technologies make the entrance of the central bank a real possibility.

Many questions are left unanswered. The most important ones relate to the effect son the industrial organization of payments services providers, in particular banks. Plenty of work remains to be done to examine the quantitative implications of a new type of token-based system offered by the central bank to bank deposits and bank lending.

We also discussed the evaluation of the tradeoffs from the point of view of the decision to issue e-money by the central bank. However, should the decision be not to issue, or not immediately, the alternative could imply needing to regulate the issuance of private e-money. To be able to make the decision to issue or regulate, central banks will have to evaluate the tradeoffs quantitatively. This justifies further theoretical and empirical work.

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