The European Central Bank unveiled a discussion paper this week on the professionals, cons, and economics of implementing central bank digital currency (CBDC). It suggested that CBDCs may help push away dominance from BigTech firms in the payments market because of network externalities surrounding the usage of a medium of exchange.
Ultimately, the paper posits that CBDC could be the only treatment for guarantee a smooth continuation of the existing monetary system.
The Risk of Digital Platforms
The discussion paper begins by noting the growing fascination with CBDCs, which are now explored by central banks worldwide. Theyve up to now been launched in two countries: the Bahamas (Sand Dollar) and in Nigeria (eNaira).
The report contextualizes their growth, and prospect of adoption, within the bigger phenomenon of a rapidly digitizing world and economy. It has resulted in digital platforms becoming dominant business models, and an evergrowing role for data and software. However, in addition, it contributed to an anti-competitive environment that’s centralizing digital market power with a small number of tech giants.
This tendency towards centralization is due to network externalities and therefore users are drawn to these platforms precisely because others are employing them.
In the extreme, this may bring about a winnertakesitall outcome with an individual dominant platform in a specific market segment, explained the report.
Regarding crypto, the ECB fears that dominant platforms issuing digital currencies (ex. Diem) might use network externalities to become dominant issuers of private money. This may hypothetically challenge a domestic economys monetary sovereignty its supremacy on the economys currency that acts as a store of value, medium of exchange, and unit of account.
Just what a CBDC CAN PROVIDE
As a fix, the report proposes CBDCs as an instrument that may ensure the continued practical usage of public profit the economy. It might decrease the cost of payments, resolve frictions in financial intermediation, and enhance the central banks capability to serve as a lender of final resort.
By protecting monetary sovereignty, a CBDC would help wthhold the central banks control over monetary policy. If prices throughout the market are denominated in another currency, then any expansionist policy will merely develop a episode of inflation without the upsurge in economic output.
Theoretically, the monetary authority can print unlimited levels of the domestic currency to aid finance institutions in distress, explained the report. However, such liquidity support is not any longer available if liabilities are denominated in forex, which escalates the threat of bank runs (even for solvent institutions).
Facebooks project to launch Diem a worldwide dollarized cryptocurrency project ultimately failed after repeated bouts of regulatory and political pushback. Nations like France and Germany confirmed in early stages that theyd block the project because of its potential to undermine traditional finance institutions.
Since its collapse, Diems former project head David Marcus has transitioned towards focusing on Bitcoin. Those faithful to the principal cryptocurrency, like Jack Dorsey, believe it alone can challenge the global supremacy of the dollar.
Central bankers arent so worried about this specific asset, however. Former Federal Reserve Chairman Ben Bernanke claimed in-may that Bitcoin had already failed alternatively money. Later that month, Swedens Central bank clarified its view that Bitcoin and Ethereum usually do not classify as currencies, mostly because of their volatility.