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Fed Explores Impact of a Central Bank Digital Currency on Commercial Lending

November 11, 2020, 09:10 AM
Filed Under: Industry News
Related: Federal Reserve

The introduction of a central bank digital currency (CBDC) raises long-standing questions relating to the provision of public and private money, and the ability of the central bank to use CBDC as a means for transmitting monetary policy directly to households, according to a new paper from the Federal Reserve. The theoretical literature on CBDC to date relates to these questions by focusing on the effect of introducing a CBDC (i) on commercial banks, and (ii) on monetary policy and financial stability, and the resulting welfare implications. Policymakers have also taken a keen interest in these questions, among others (Bank for International Settlements 2018).

Broadly, the literature that studies CBDC considers it to be a means of payment that can pay interest and that does not necessarily need to be held in an account at a commercial bank. Though there is no universally agreed-upon definition of CBDC by policymakers or academics, thus far the literature has studied the implications of a central bank liability held directly by the public1. The models and assumptions in the literature so far provide streamlined frameworks to answer questions about the effects of CBDC at the micro- and macro-levels, while abstracting from many of the complex design issues of interest to policymakers.

CBDC's Effect on Commercial Banks

The first strand of the literature asks how CBDC will affect commercial banks. Fundamentally, CBDC can serve as an interest-bearing substitute to commercial bank deposits. Faced with such a substitute, commercial banks may respond by changing the deposit rates they offer to savers and, because of the resulting impact on banks' funding cost, the terms of the loans they offer to borrowers. As a result, both the quantity of bank deposits and the volume of bank-intermediated lending may change with the introduction of a CBDC. In this respect, this strand of the literature can speak to the concern of some policymakers that the introduction of CBDC may replace banks' main source of funding and cause disintermediation of commercial banks, which in turn may lead to a decrease in their lending.

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