The world in 2023 begins with several macroeconomic themes that we believe will play a role in reshaping the focus of some CBDC projects. Let us examine some of the major thematic reasons for a CBDC that have lost their urgency and perhaps relevance.
One of the oft cited benefits of introducing a CBDC is the potential to entirely rid an economy of the physical manifestation of cash, and hence eliminate the zero lower bound on interest rates.
This arguably improves the effectiveness of quantitative easing and negative interest rates in reversing disinflation. Put simply, negative interest rates are applied as a charge on the value of deposit balances held at a financial institution.
One way to evade such charges is to withdraw excess deposits and stockpile the money as physical cash. The zero lower bound is a rational response when the costs of storing cash in vaults is lower than the negative interest rate charge.
A total substitution of physical cash by a CBDC would remove this escape valve, and force the deployment of those excess deposits into investments, combating disinflation.
Disinflation is now a distant memory for Central Bankers that have to deal with long dormant inflation. Eurozone inflation reported in October 2022 stands at an annualised 10.7% based on Eurostat’s flash estimate.
The CBDC discourse has shifted as well, with arguments for a CBDC leaning towards how CBDCs would in principle allow for different interest rates for different balances, which would aid in combating inflation. This of course conflates the CBDC with a technical implementation.
Nonetheless, we will witness more multicurrency wholesale CBDC experiments using mechanisms adapted from Decentralised Finance (DeFi) like lending protocol Aave, to inject interest rates in 2023.
Summary
CBDC and macroeconomic theme
A related macroeconomic theme is the continuing cryptocurrency winter and the deepening scepticism against crypto.
This stems from both regulators and retail investors following major bankruptcies at centralized exchanges, lending platforms and trading entities.
Even the bravest Central Banks will reconsider nascent discussions about allowing some form of Central Bank liability to sit directly on a public blockchain.
The urgency has surely faded for Central Banks to facilitate rapid on and off-ramping into crypto markets given the rising concerns about broadening retail access to the asset class and potential for financial contagion.
Third, the collapse of FTX in November awakened the public to the need for self custody in holding cryptocurrency.
Consequently we anticipate that 2023 will bring a reexamination of key assumptions being made by Central Banks about the advisability of the two tier (Central Bank and commercial banks) intermediated distribution model for CBDCs.
Single tier direct distribution models and hybrid models for distribution are likelier than ever before to become part of operating CBDC designs.
In the new era of high interest rates, interest paid on commercial bank deposits is increasing quickly and acts as a strong disincentive for excessive retail CBDC holdings which are non-interest accruing (in most current deployments).
Conclusion
In 2023, more Central Banks will therefore be willing to consider directly holding accounts for citizens on their books.
This will need to be supported by the introduction of new and improved accounting systems and some resolution to important policy questions about the need for KYC on accounts and transactions.
Some of the policy answers will mean a shift in the playing field, posing tough tradeoffs where the Central Bank must balance its desire to provide a better, low cost, single payment solution and unit of account, with the need to not stifle private sector initiatives.
We foresee that the widening of CBDC production usage and trials in 2023 will lead to more contentious and open debate about the proper scope and limits of a CBDC, with private players taking a more aggressive approach to staking their ground.
Written by Stanley Yong, Chief Product Officer, Movmint.io
