speech
Thank you for inviting me to offer some thoughts on what is by no means a small topic. I think there are two propositions in the payments world that have very broad support. One is that in addition to providing stability, there is a strong need to modernize some key payment practices, thereby providing opportunities to improve efficiency and reduce costs. This applies to both domestic and cross-border payments, wholesale (or high value) and retail. The need is particularly pressing in the area of cross-border payments, which has been slow to modernize. Much more needs to be achieved here in terms of speed, cost, transparency and access to cross-border payments.
My second suggestion is that we should harness the potential of digital technologies in modernization. Otherwise, you risk losing your imagination. I don’t claim to be an expert on this by any means, but I feel there is real potential in leveraging digital technology to improve things. For example, solving late payments for businesses by allowing funds to be automatically released upon delivery of goods. We use encryption techniques extensively to prevent fraud. Therefore, we believe that we need to leverage digital technology.
I would like to focus on the impact of doing so from an economic and financial perspective. This seems like it hasn’t been thought through enough. Do we need to fundamentally change our money and banking systems to make all of this happen? My starting point is that, in principle, we do not understand why we need to fundamentally change our systems. That means no. However, as a practical matter, the best initial endpoint is to not fundamentally change the system, although there are consequences that may require it. So.
Let me add some additional information about the nature and role of money.
First, payments are, of course, one of the important functions of money, money as a medium of exchange. Therefore, they are the core of central bank interests.
Second, there are two forms of money in our world: central bank money and commercial bank money. An important feature of this system is the complete correspondence between nominal and real values. I call this the unity of money. This is achieved through a combination of central bank operations, banking regulation and deposit protection. Because money is unitary, we should be indifferent to whether payments are made in commercial or central bank money in the case of small-value or retail transactions. Of course, payments can be made with something other than money, but this is not an efficient or reliable means of exchange, as there is no guaranteed nominal value. This is one of the reasons why Bitcoin, for example, has not caught on as a popular payment medium.
It follows from this that if we are indifferent whether retail payments are made in central bank money or commercial bank money, it will be difficult to find an anchoring role for central bank money in this area. But that doesn’t mean the role doesn’t exist. This is not a roundabout way of thinking that you don’t need cash. Quite the opposite. Cash should be provided as long as the people want it. And we will continue to supply it because there is evidence that they want it.
I would like to briefly return to the world of wholesale payments and payment system payments. It may seem like I’m contradicting myself here, but my thinking is the opposite. I believe that central bank money has a special role in large-scale high-value payments and payment systems. So it acts as an anchor here. why? The reason is that, unlike cash, wholesale payments and settlements are made using reserve accounts held by banks at the central bank. This money (kind of like cash to be clear) is directly backed by state commitments. Therefore, it is the core liquid asset of the banking system and therefore the anchor of the system. So there is a logical distinction here. We may be indifferent to retail payments between central banks and commercial banks, but the same is not true of wholesale payments and settlements.
From a Bank of England perspective, we are very focused on enabling digital and other innovation in the wholesale world. We want to find and encourage innovation around central bank money that is consistent with our core objectives of finance and financial stability. For more information, please see our recent discussion paper. There, we describe the experiments we are starting, including offering a digital tokenized form of central bank currency.
There are two more steps to my argument.
First, if we are indifferent in monetary terms whether retail payments are made with central bank money or commercial bank money, are we equally indifferent in terms of the broader economy? I mean, please. My answer to that is no, at least not beyond a small scale. Another way to frame the issue is whether we should be indifferent to the balance of central bank and commercial bank funds with respect to retail activities. Why would we want to change this balance? Other things being equal, we shouldn’t want to do that. The reason is that commercial banks use funds directly to extend credit, while central banks do not. Therefore, at best, changing the configuration will complicate the credit system, other things being equal. This, of course, is the essence of fractional reserve banking, which is supported by the unity of money.
The final step is to ask whether, all else being equal, there is a reason why digital payments in the retail industry should be made with newly created central bank digital currencies. I think the a priori answer to this is that commercial bank funds, and thus banks, are the best home for such innovation.
But if innovation is unlikely to occur for some reason, central banks will need to decide whether that is the only game in play. To me, this justifies why we must continue preparing for a retail CBDC. We have not yet found sufficient evidence that innovation occurs in commercial banks. As central banks, we should be thoroughly committed to encouraging and, where appropriate, providing for such innovation, but there is no good reason to be unique about this.
Finally, why might innovation not occur, other things being unequal?
For money to function effectively as a means of payment or exchange, two elements are required. The first (money) is the train, or economic claim (usually to a commercial bank). The second (payment system) is the rails, the infrastructure or technology by which claims are exchanged. Historically, some of these infrastructures and technologies have developed in ways that inhibit incentives for innovation, in some cases due to concentrated market power. It is important that these structural factors do not stand in the way of innovation. For commercial bank money to function effectively, it must respond to the needs of its users. Our retail CBDC work closely considers these trends in the payments landscape. Without innovation in commercial bank money, central banks may be left with the only game in the game as far as innovation in retail payments is concerned. That’s not a desirable outcome for me, but it’s not something I should rule out either.
thank you.
I would like to thank Sarah Breeden, Victoria Cleland, Karen Jude, Nick McLaren, Harsh Mehta and Ali Mousavi for their help in preparing these remarks.