The risks to commercial banks if Europe launches a digital euro were explored by Fabio Panetta, board member of the European Central Bank (ECB), during a Bruegel online seminar this week.
Panetta outlined three potential types of risks to banks from a central bank digital currency (CBDC).
Bank disintermediation and capital allocation
The first is the potential for bank disintermediation. If more payments are made using a digital euro, potentially banks will participate in fewer payments. Citizens also might prefer to hold funds in a CBDC rather than a bank account, even during stable periods.
Without those deposits, banks would have to raise funds elsewhere, which is likely to be more expensive. And there’s a concern that the net effect would be fewer loans available, which may impact economic activity.
In response, Panetta noted that the design of a possible digital euro could significantly impact these risks. He also sees an ongoing need for banks as intermediaries because the ECB has no plans to interact directly with citizens.
He also highlighted recent analysis that downplays the risks. For example, a digital euro may increase competition in banks’ funding markets.
Times of crisis
The second risk area, and perhaps the most talked about, is the potential flight to safety in a crisis. A sudden shift of funds into CBDCs creates a digital run on commercial banks.
Panetta stated that it’s unlikely a digital run would come out of nowhere. There are other first lines of defense such as deposit guarantees, supervision and its role as lender of last resort.
Nonetheless, he acknowledged there may still be some risk and a digital euro design would need to address this.
While there’s been talk of dollarization risks from CBDCs and stablecoins, there is also the risk of greater international use of the euro. On the plus side, it might be a useful means of payment for cross border retail transactions and would make it easier for remittances.
But if non-residents started to hold significant funds in the digital euro, there could be very rapid increases or decreases in holdings when there’s international shocks. And research has shown that with CBDCs, foreign exchange rates could be more volatile and impact foreign economies.
On the flip side, if other countries adopt digital currencies and Europe does not, it could make Europe more vulnerable to those shocks.
Design features to address the risks
There may be a limit on the amount of digital euro that can be held and a figure of €3,000 was mentioned. The aim is to discourage the use of a digital euro as an investment store. There’s still a desire to enable large transactions with the CBDC, so any excess amount would automatically be converted into a bank account balance.
Potentially above the limit, there could be charges to make it unattractive to use the CBDC for anything other than payments.
Meanwhile, Deutsche Bundesbank Director Burkhard Balz, also spoke about the digital euro this week with a focus on international cooperation. He highlighted that there’s a need for convertibility, interoperability, and international standards for cross border usage.
However, he was upbeat about the potential for digital currencies to address cross border payment frictions. “Cross-border payments are, putting it bluntly, still in the medieval age,” he said.