Banking News

Digital currencies may remove banks’ payment role. Bank of England asks if that’s bad

bank of england

Bank of England Chief Economist Andy Haldane has said that digital currencies’ disruptive benefits must not be overlooked by focusing on the risks. He was speaking at TheCityUK Conference. There are concerns that if central bank digital currencies (CBDC) or stablecoins become widely used, commercial banks will struggle to attract the same level of deposits, which will impact their ability to lend. Haldane noted that a focus on this risk has meant the potential benefits of splitting payments and lending into different institutions has not been assessed.

The primary criterion is that digital currencies “do no harm” to financial and monetary stability. But Haldane noted that doesn’t mean there won’t be disruption to incumbents as that’s the nature of innovation.

Stablecoins are backed by bank balances and highly liquid, low-risk securities. This asset profile is classed as “narrow banking” compared to commercial banking with its broader and riskier lending profile. Hence there’s a concern that if stablecoins are widely adopted, “narrow banking” might crowd out funding for the broader commercial banking sector.

He highlighted a possible advantage of narrow banking in segregating low-risk payments from higher-risk lending. There’s also the duration mismatch where bank depositors could withdraw short-term deposits en masse, but bank lending tends to be longer term.

Haldane recognized that by separating the lending and payments functionality, the risk and duration mismatch could reduce a key source of instability within the financial system.

“At the very least, however, these longer-term potential stability benefits of a very different functional model of intermediation need to be evaluated and weighed,” said Haldane. “And, so far at least, they have largely been ignored in discussion of the case for digital currencies.”

This clearly is a disruption of the current commercial banking model, but Haldane started by stating that’s the nature of innovation.

Moving on to monetary policy and an era of negative interest rates, Haldane noted that it’s impossible to levy interest on physical cash, but it is on digital currency.

He highlighted the ongoing research in these areas by the Bank of England, which published its central bank digital currency report earlier this year and also participated in the BIS CBDC report with six other central banks.