Money is an ever-changing entity and has taken many forms. From cowry shells that were used as a form of payment in the Maldive Islands to the metal coins depicting various rulers of the Roman Empire, and now to digital currency, the form money has taken over the centuries usually reflects the technology available in a particular time as well as the needs and desires of the people living in that time period.
The need for financial institutions to adapt to these changes, albeit cautiously, was the main point of a speech given by Christine Lagarde, managing director and chair of the International Monetary Fund (IMF), at the Singapore Fintech Festival.
In her speech, Lagarde states that she believes that central banks should consider the "possibility of issuing a digital currency," laying out three ways it "could satisfy public policy goals" or "provide what the private sector cannot."
First, she says that CBDCs have the potential to bring financial services to the underbanked, noting that the use of cash is already on the decline. Without access to digital forms of money, the underbanked will be further marginalized. Second, she argues that a digital currency could check the power of large financial institutions, thereby increasing consumer protection by preventing monopolies. Last, they would allow people some measure of privacy, just as cash transactions do.
Although Lagarde's words on CBDCs were mainly positive, she did outline some potential detrimental aspects of issuing a state-backed digital currency, namely, risks to financial integrity, financial stability, and, surprisingly, innovation.
She notes that there is a "tradeoff between privacy and financial integrity," and hints that CBDCs would still have to make concessions for anti-money laundering and terrorist financing rules. In terms of financial stability, she raises the specter of bank runs – assuming that digital currency holdings would be similar to holdings in a bank. Lastly, saying that if central banks were to issue CBDCs and provide a one-stop shop for users to buy, sell, trade, and store crypto, the role of entrepreneurs may be severely diminished.
A paper released by the IMF to coincide with Lagarde's speech outlines some additional risks involved with CBDCs. For one, the volatility of cryptocurrency prices means cryptocurrency struggles to "fully satisfy the functions of money." On a separate note, the report hints that the devil is in the details – demand for a CBDC will hinge on how much it is designed to benefit users.
Although the paper is somewhat critical of CBDCs, it does reiterate Lagarde's main takeaway, stating:
"Overall, it is too early to draw firm conclusions on the net benefits of CBDC. Central banks should consider their specific country circumstances, paying careful attention to the risks and relative merits of alternative solutions. Further analysis of technological feasibility and operational costs is needed."
As Lagarde mentions in her speech, many different banks are already looking into the benefits of issuing a CBDC. In July of this year, researchers at the Bank of Canada issued a paper regarding the potential benefits of central bank-issued digital currencies. And in October it was reported that Sweden's Central Bank was moving closer to issuing a CBDC.