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Business News/ Opinion / Columns/  A digital currency should serve the public interest, not banks
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A digital currency should serve the public interest, not banks

The US Fed must do what’s best for people and not protect lenders

CBDCs let central banks take away some of the banking sector’s business (Photo: iStock)Premium
CBDCs let central banks take away some of the banking sector’s business (Photo: iStock)

The US Federal Reserve last month put out a report about how the US might update its currency for an “age of digital transformation." While the long overdue assessment doesn’t reach a conclusion on whether a new digital dollar would be a good idea, the way it breaks down the issues confuses the interests of the financial sector with those of the public. This US needs a digital dollar that serves households and businesses, not banks and fintech firms looking to set up e-commerce toll gates.

The Fed loses sight of the public interest in a number of ways. It insists that private firms should have a role in providing any new federal digital dollar. It also expresses “concerns" that a digital dollar might lure people and businesses away from bank deposits, which would be costly for banks. To avoid this, the Fed suggests designing the digital dollar to be “less attractive" — for example, by not paying any interest.

The Fed’s skewed analysis comes after a year of rapid developments. In 2021, cryptocurrency mania went mainstream. The outstanding value of Tether, a ‘stablecoin’ designed to trade at par with cash, topped $70 billion. Circle’s USD Coin neared $50 billion. PayPal’s more traditional Venmo app siphoned more business away from banks. Globally, China and the Bahamas both introduced central bank digital currencies (CBDCs). China’s version allows instant transactions on phones by way of an app with no risk of default and no fees.

US private banks, saving associations and credit unions have a legal monopoly on deposits. Their offerings are lacklustre. US bank payments are among the slowest in the developed world; it can take days to transfer deposit account money. Fees are high, often extortionate. And the proportion of the US population without a bank account is worse than Canada, France, Germany, Japan, Italy, Singapore, Spain and even Iran. Fed officials airbrush this problem in their report. They also put their thumb on the scale when it comes to imagining America’s monetary future. According to the Fed, a public option for digital money should probably be watered down: provided through existing financial institutions, with balances capped and no interest paid. These features would protect profit margins of the financial sector, but it’s hard to see how the public would benefit from that.

The Fed already offers digital money— and has done so for decades—but only to banks and other financial institutions. Its ‘master accounts’ pay higher interest (currently 0.15%) than consumers get, are uncapped and allow instant payments.

In surveying a retail option, the Fed also miscalculates costs and benefits. First, it suggests that it would be bad if a new digital dollar is so appealing that it crowds out existing forms of money, such as bank deposits and money market mutual funds, because it would reduce credit availability. But the Fed cites no evidence that creating better forms of money will limit lending. And existing non-bank forms of money, as the Fed acknowledges, drove America’s 2008 crisis. Less of these would be good.

Second, the report repeats the bugbear that offering a US digital dollar will exacerbate financial instability. As Wall Street has argued, and as the Fed contends, a good public currency would cause people to flee private money in periods of uncertainty, making panics worse. This is an indictment of existing arrangements, not a reason to refrain from reform. And if the new digital dollar crowded out private money, that would reduce the panic problem.

Third, the Fed’s assessment overlooks the financial benefits involved in creating a digital dollar. Commercial banks currently earn $70 billion per quarter partly by creating deposit balances (which, as the report notes, are a form of digital money). A Fed option for digital dollars would reduce these profits. It would also let the Fed expand the assets on its balance sheet, recapturing some profits from the banking sector and increasing the money that it transfers to the Treasury by potentially tens of billions per year. In other words, a digital US dollar would reduce the deficit and strengthen the government’s fiscal position.

We need not settle for a ‘skim milk’ CBDC that would create opportunities for the private sector to extract more fees and income from the public while giving up enormous potential gains for American households and businesses.

Instead, the US should develop a digital dollar with no fees that facilitates instant payments, reduces costs for small businesses and increases access to digital payment options. Such a full-strength offering would allow the government to distribute stimulus quickly and easily in economic downturns. This would be more efficient, saving the economy billions in costs. And it would be more equitable. If we are going to design a new public money, let’s have it serve the public.

Lev Menand & Morgan Ricks are, respectively, an associate professor of law at Columbia Law School and a law professor at Vanderbilt University.

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Published: 03 Feb 2022, 10:28 PM IST
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