This note analyzes the benefits and costs of issuing a central bank digital currency, or CBDC. A central bank digital currency is not simply paper currency in digital form: its adoption would have profound consequences for the U.S. financial system and economy. It could transform the place of the central bank, and the government more generally, in our society. As an IMF analysis explains, “Launching a CBDC is a multidimensional undertaking that extends beyond the central bank’s normal information technology project management frameworks…. The new currency could lead to major disruptions affecting monetary policy transmission, financial stability, financial sector intermediation, the exchange rate channel, and the operation of the payment system.”
The most significant impact would be a diminishment of the fractional reserve banking system in the United States, under which banks engage in maturity transformation by taking deposits and making loans. That system provides depositors a secure place to put their money with the right to withdraw it immediately, while allowing borrowers access to stable, low-cost, long-term funding. As some of those bank deposits moved to the central bank in the form of CBDC, the impact on economic growth could be significant – unless the central bank also assumed responsibility for lending or became a regular source of funding for banks.
A CBDC could come with benefits, potentially including a more efficient payments system and financial inclusion. This note includes a discussion of those benefits, and how they vary based on program design. Notably, many discussions of CBDCs list a variety of putative benefits, without acknowledging that many of them are mutually exclusive (because they are predicated on different program designs) or effectively non-existent (because the program design that produces them comes with costs that are for other reasons unbearable). Thus, for example, if one concludes that a decentralized, tokenized system (akin to present-day cash) is a dead option because it would mark the end of governmental actions to prevent money laundering and sanctions evasions, then key benefits of a CBDC – privacy, for example – disappear. As another example, the drag of a CBDC on lending and economic activity could be reduced by capping the amount of CBDC and using intermediaries rather than the central bank to transfer it, but any cap would necessarily reduce a CBDC’s benefits for efficiency and financial inclusion. Yet in some analyses, a “greatest hits” approach to CBDC benefits is presented.
The path forward is currently uncertain, and design choices could drive very different outcomes. In the United States, the Federal Reserve has expressed caution in this area, expressly noting the high stakes and need for Congressional consideration. This approach contrasts with a more precipitate approach at the European Central Bank, which has effectively announced its intention to issue a CBDC[3] even as its potential consequences remain under study. This note describes a wide range of policy issues that merit consideration prior to a decision on whether to adopt a dollar CBDC.