Page 52 - Banking Finance February 2022

FEATURE

More use cases instrument that pays interest (positive or negative) is strictly
not a currency."
After the spread of the covid-19 pandemic, Western
governments spent a lot of money to kickstart their domestic
economies. This included directly depositing money into CBDCs and bank runs
individual bank accounts. But the governments did not have A bank run is basically a situation where many depositors
the bank account information of all citizens. Hence, they want to withdraw money from a bank if they perceive it to
also sent out cheques and debit cards loaded with money. be fragile. In fact, this could be an unintended consequence
of CBDCs.
As Prasad writes about the American case: “Cheques and
debit cards mailed… were delayed or lost. Scammers found As the Report on Currency and Finance 2020-21 points out:
ways to intercept some payments, while many recipients “CBDC… poses a risk of disintermediation of the banking
threw out (the) debit cards, mistaking them for junk mail." If system, more so if the commercial banking system is
a CBDC system was in place, the governments could have perceived to be fragile." People can move money from their
directly put money into the wallets of people. In fact, in order commercial bank accounts to their CBDC accounts if they
to get people to spend that money immediately, they could perceive a bank to be in trouble or if there is macro financial
have deemed it to be expirable within a certain period. instability.

On the flip side, this would mean that the fiscal policy and Hence, the design of the CBDC becomes very important. As
the monetary policy would get mixed up even further, the Bank of England discussion paper puts it: “Limits on
blurring the line between the independence of a central individual holdings of CBDC could help ensure that CBDC is
bank and the government. used primarily for payments and not for large savings,
reducing the extent of disintermediation of the banking
The other advantages of CBDCs include no counterfeiting system."
of currency (until innovators figure out how to do that
digitally), greater financial inclusion and a boost to the war Also, it’s only fair that a central bank, an institution which
on black money and corruption. regulates the commercial banks, shouldn’t be directly
competing with them. Hence, it is important that the RBI
Introducing negative interest rates is another possibility that follows the two-tiered approach to CBDCs, where the
might emerge with a wider adoption of CBDCs. The only central bank “creates the digital version of its currency",
reason most central banks can’t implement negative interest nonetheless, it “leaves the distribution of that currency and
rates is because people can simply withdraw their money the maintenance of CBDC wallets to existing financial
from banks and other financial institutions and hold it in the intermediaries". In fact, this is precisely how the Chinese
form of cash. CBDC is being developed.

But in a world of 100% digital money, negative interest rates Finally, there are two points worth taking into account. One,
are possible. This has got central bankers excited. In tough CBDCs are different from cryptos. While the original idea
economic times, a central bank could mandate a negative behind bitcoin, the first cryptocurrency, was to challenge fiat
interest rate on CBDCs stored in wallets, encouraging money and emerge as a medium of exchange, that hasn’t
people to spend. Of course, people might still not spend, but happened. Meanwhile, cryptos have become an object of
a negative interest rate is an idea that central banks can speculation. Hence, as Shankar puts it: “They are not money
resort to when they have run out of all other ideas. (certainly not currency) as the word has come to be
understood historically". CBDC, however, is money as it is
In order to do this, CBDC will need to have the functionality historically understood. It is issued by a central bank and it
of a savings bank account, where the central bank pays a is backed by the sovereign, like fiat money is.
certain amount of interest to depositors for keeping their
money in the wallets. Only when you pay an interest can Two, if CBDCs do work in the long-term, it would mean the
you charge a negative interest. As Shankar said in his speech: end of cash. While that does solve some problems, it will
“Such steps may need to be taken with care as any also create others. (Source: Mint)

52 | 2022 | FEBRUARY | BANKING FINANCE