Page 37 - Banking Finance October 2025

ARTICLE

per also talks about aspects/elements that pertain to CBDC's While a lot of people are moving to cashless payments, cash
role as an efficient medium of exchange. Some character- remains an important means of payment for many people.
istics are intrinsic to any government-issued currency, such CBDC could ensure that everyone has access to central
as acting as a legal tender for public and private payments. bank money. The paper also talks about reducing the risk
of financial instability. Financial instability can occur when
Over the past few decades, monetary economists have there is a loss of confidence in the financial system. The
reached a broad consensus that the conduct of monetary overall impact of CBDC on financial stability would depend
policy should be systematic and transparent, thereby facili- on the behavior of economic agents over time, which prob-
tating the effectiveness of the monetary transmission ably depends on the specific attributes of the CBDC. It is
mechanism as well as the central bank's accountability to important that we focus on increasing the contestability of
elected officials and the general public. The design of a re- payments. CBDC could help in providing an alternative to
tail CBDC involves critical decisions and involves a proper bank notes, cheques, debit and credit cards, online trans-
legal framework and regulation. fers, etc., which means it can provide contestability in
payments.
Token-based CBDC, though being a potentially revolution-
ary form of currency, encounters hurdle in attaining legal Opportunities and risks
tender status and aligning with prevailing criminal law
There are some bittersweet considerations when it comes
frameworks. On the other hand, account-based CBDCs,
to responsibilities. Central banks could perhaps target mon-
resembling traditional book money, navigate the legal land-
etary stimulus better as individual beneficiaries and vulner-
scape with relative ease. This nuanced evaluation under- able sections could be identified quickly and assisted during
scores the imperative need for a robust legal foundation
times of economic stress. They may also be able to earmark
for CBDCs. Existing legal and monetary laws must be me- account top-ups for designated purposes. But adding all
ticulously scrutinized and, if required, revamped to accom- these features could bring in complications and affect the
modate the digital transition.
ease of access and undermine the ready fungibility of money.
Also, these extensive powers with the central bank may
The overarching message echoes: nations must meticu- spark privacy concerns, especially authoritarian govern-
lously contemplate legal frameworks, and recognize the in- ments can use it to keep track of all transactions and exer-
tricacies of CBDC implementation. While technological
cise more control over the public.
progress propels financial innovation, a comprehensive un-
derstanding and codification of legal aspects are indispens-
There are implications for monetary policy too. For ad-
able.
vanced economies, negative interest rates may become
easier to implement as digital fiat can be directly pro-
grammed to do so, assuming physical cash is done away
with. Otherwise, savers could just hoard physical cash. It
pays to note that deeply negative rates can undermine
confidence in the currency and prompt a rush to gold or
other such assets. There is an additional concern that if the
public is allowed to convert their deposits into their CBDC
accounts, commercial banks may be robbed of their primary
funding source. Depletion of demand deposits from the
banking system would mean a forced reliance on costlier
alternatives like wholesale funding.

Moreover, the central bank could be compelled to accept
the risky role of a financial intermediary during times of
crisis, as all funds are likely to flow into its books. Issuance
and withdrawal limits could perhaps help address some of
these vulnerabilities, but not all.

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