12 April 2024

SUERF's Assenmacher/Smets: A digital euro: Monetary policy considerations

..for realistic take-up scenarios and appropriate design features, demand for a digital euro would not have any significant impact on the monetary policy stance and its smooth transmission. Moreover, the risk that a cash-like CBDC undermines the profitability of the banking sector seems limited.

This note discusses the possible consequences for monetary policy implementation, transmission and the monetary policy stance of issuing a central bank digital currency. The European Central Bank (ECB) is preparing a possible introduction of a digital euro, which would promote public policy objectives, offer a digital retail payment solution available to everyone, and ensure that the monetary system keeps up with digital advances. We argue that for realistic take-up scenarios and with appropriate design features, demand for a digital euro would not have any significant impact on the monetary policy stance and its smooth transmission. Moreover, the risk that a cash-like CBDC undermines the profitability of the banking sector seems limited. Overall, we conclude that, with appropriate provisions in place, the central bank would be able to conduct monetary policy with a CBDC broadly in the same way as it does now.

1. Introduction

Following a two-year investigation phase into the use case and the most important design features of a digital euro, on 18 October 2023 the European Central Bank (ECB) announced the start of a two-year preparation phase for the possible introduction of a digital euro.¹ A digital euro, a publicly available digital currency that can be held by euro area citizens to make retail payments, would be a liability of the central bank, like cash and reserves.² However, it would be different from cash in that it is digital – existing virtually on some ledger, whereas cash is physical – held in the form of paper bills or coins. A digital euro would also be different from central bank reserves because reserves can be held only by a limited set of counterparties of the central bank, typically banks, whereas the digital euro would be intended for consumers and merchants. This paper discusses the possible consequences of issuing a central bank digital currency for monetary policy implementation, transmission and the monetary policy stance.

The case for a digital euro is based on three arguments.³ The first is rather fundamental and follows from the digitalisation of our financial system, including the payment system, and the dwindling use of physical cash. Due to its nature as a central bank liability, public money acts as the anchor of today’s two‐layer monetary system and is thereby crucial to its functioning (Ahnert et al. (2023a)). In fact, commercial bank money is a promise to convert private money on demand and at par into public money. In the eyes of the consumer, commercial bank money is widely regarded as equivalent to public money. This equivalence depends, however, on the availability of a retail public money such as cash that allows the public to easily convert private money into safe public money.⁴ In a digital world with a declining use of physical cash, it is therefore quite natural for the central bank to provide a digital form of public money (central bank digital currency or CBDC) to preserve its role as an anchor of stability in the monetary system. More generally, this convertibility supports confidence and trust in the broader payment system and ensures the uniformity of the unit of account (Panetta, 2021; Brunnermeier and Landau, 2022). Ahnert et al. (2023a) also argue that public digital money in the form of a CBDC may help retaining monetary sovereignty if global stablecoins became widely used. Without a CBDC, Brunnermeier et al. (2019) warn that the rise of global stablecoins could threaten monetary sovereignty, in the sense that their use as a means of payment may lead to them also being used as a unit of account in contracts, etc. (see also Arner et al. 2020). The digital euro thus can be seen as a necessary step to ensure that the monetary system keeps up with digital advances.

Secondly, the digital euro would offer a digital retail payment solution that is available to everyone, everywhere in the euro area, with a high level of privacy and without cost for consumers. It would offer Europeans the option to pay digitally throughout the euro area. This is particularly important in a monetary union like the euro area with still somewhat fragmented national banking and retail payment systems. Three crucial elements to achieve this are ease of use, widespread acceptance and broad access. While the importance of the first element is self-evident and depends on the technical solution and design features chosen, the second element would be supported by giving legal tender to the digital euro. The last element points to the importance of financial inclusion and the benefits from network effects in a two-sided payments market (see Ahnert et al., 2023a). The ECB has emphasised that a digital euro will enable the use of public money on digital platforms and is a complement to cash, which will continue to be provided on demand.

The third set of arguments is about promoting public policy objectives, such as competition, innovation and resilience in retail payment services (Usher et al. 2021). Introducing a public digital money would follow a welfare-maximising motive, in contrast to the profit maximisation motive of private actors (see Agur et al., 2022). A digital euro would spur competition for payments services, making payments cheaper. For banks and other payment service providers, the digital euro would act as a springboard for the development of new pan-European payment and financial services, stimulating innovation and making it easier to compete with large, non-European financial and technology firms. It would contribute to levelling the playing field between larger and smaller intermediaries – which are typically less able to keep pace with innovation – by allowing all of them to offer more technologically advanced products at a competitive price (Panetta 2022b). Moreover, it would also enhance the integrity and safety of the European payment system at a time when growing geopolitical tensions make it more vulnerable to attacks on critical infrastructure (Panetta and Dombrovskis, 2023). But public policy objectives pertain to even broader issues. Ahnert et al. (2023a) point out how network externalities that are present in the use of a medium of exchange are reinforced by the access to data that arise from trading on large platforms. These network externalities could lead to a dominance of BigTech companies in the payments market, providing a motivation for central banks to introduce a CBDC. Especially in the payment market, network effects and the monetisation of payment data can create market power and inefficiencies (see e.g., Garratt and Van Oordt, 2021; Ahnert et al., 2022). A digital euro can help protect privacy by addressing the externality coming from the fact that giving information is key for the benefit of network platforms but exposes individuals to discrimination.

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