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(Kitco News) – Central bank digital currencies (CBDC) have become a popular topic of discussion in recent months as more than 100 governments from around the world are in various stages of exploring the launch of digital cash.
Friday’s release of a regulatory framework by the Biden White House included a section on policy objectives for a CBDC system, which brought the U.S. one step closer to creating a digital dollar.
To gain further insight into what a digital dollar would mean for the global financial system, Kitco Crypto interviewed William Luther, Director of the Sound Money Project at the American Institute for Economic Research (AIER) and an Associate Professor of Economics at Florida Atlantic University.
When it comes to CBDCs, Luther noted that it is important to first understand the difference between actual dollars and claims to actual dollars.
“Americans already have access to a host of digital dollar accounts, which are provided by banks and other financial institutions,” Luther said, “But the assets in these accounts are not actual dollars. They are claims to actual dollars.”
The Sound Money Project director further explained that “actual dollars” are issued exclusively by the Fed and are represented by physical cash and reserve balances held by banks at the Federal Reserve.
Essentially, the Federal Reserve already issues digital dollars in the form of reserve balances, but these balances are limited to financial institutions, and retail users are unable to hold or spend reserve balances.
“A genuine Fed-issued CBDC would be very different in that respect. It would essentially allow Americans to open up an account at the Fed,” Luther stated.
FedNow and the digital dollar
As part of the Fed’s attempt to keep pace with the advancements of blockchain technology in banking, it is looking to create the FedNow instant payment service. Rather than being a CBDC, FedNow is mainly a platform for allowing banks to clear payments in real-time, according to Luther.
More than anything, FedNow is a much-needed upgrade to the Fedwire service, which Luther called “a real-time payment system – with a big asterisk on ‘real-time’.”
“FedNow, in contrast, will be open 24 hours a day, seven days a week, 365 days a year. Banks building on the FedNow platform will be able to support instant retail payments because they will have access to instant settlement with other banks at the Fed.”
As for why the U.S. has thus far dragged its feet in the creation of a digital dollar while countries like China are already testing digital versions of their currencies with the public, Luther suggested that the reluctance was for good reason.
“Essentially, the Fed faces a tradeoff between offering a useful retail payment device and supporting private-sector financial intermediation,” Luther said.
If a CBDC becomes so useful that everyone wants to use it, people could start to “exchange their checking account balances for CBDC, leaving banks with fewer funds to support their lending operations.”
“By disintermediating the financial system, a highly useful CBDC would likely slow economic growth,” Luther warned.
At the other end of the spectrum, if no one uses the CBDC to make payments, the banking system will be unaffected, but that also means that “the purported benefits of a CBDC go unrealized.”
“With FedNow, Fed officials will support instant payments – by offering real-time settlement – without disintermediating the financial system. It is not a retail CBDC – and that’s probably a good thing.”
Digital dollar and cryptocurrencies
On the topic of how a digital dollar could affect Bitcoin and other cryptocurrencies, Luther suggested that their survival “will depend in large part on their unique attributes.”
The professor noted that stablecoins, which trade one-for-one with the dollar, “have no purchasing power advantage over a CBDC – and probably suffer a disadvantage since the Fed can guarantee convertibility.” For a stablecoin to survive long-term, it will need to offer something that a CBCD can’t, such as additional financial privacy.
“Likewise, some will probably prefer to use bitcoin because its supply is tightly constrained,” Luther said. “The Fed cannot commit to limiting the supply of dollars, and probably wouldn’t want to do so even if it could.”
And while some have suggested that the Fed could potentially launch a digital dollar on a public network like Ethereum, Luther suspects that it would instead choose to launch on its own dedicated blockchain.
“A public blockchain would limit the government’s ability to control access and monitor transactions. I am not convinced it will give up control and oversight, even if doing so would be in the best interest of society.”
Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.
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