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Facebook's Libra may be catalyst for central bank digital currency plans

Facebook Inc.'s announcement of its cryptocurrency, Libra, will be a catalyst for central banks that are mulling issuing digital currencies of their own, according to industry pundits. It may also prompt a rethink among central banks that are either skeptical or against issuing their own digital currency.

Central bank-issued digital currencies are essentially digitized fiat money, distinct from a cryptocurrency like Libra, although it will be pegged to a basket of different currencies and bonds. But the news of Libra's launch, slated for 2020, has brought the question of CBDCs into focus.

In a change of direction from the Bank for International Settlements, General Manager Agustín Carstens told the press in late June that the bank would support other central banks who wanted to issue their own digital currency. Carstens had said in March that CBDCs were good in theory but less so in practice, and that it was not a central banker's role to be an innovator.

Some 20% of central bankers polled in an International Monetary Fund study said they are exploring the possibility of a retail CBDC. The main motivations for doing so are countering competition from cryptocurrencies, lowering costs and offering a "risk-free" payment instrument to the public, the study, released June 27, said.

Global views vary

Sweden's central bank, Sveriges Riksbank, has explored the idea of creating its own digital currency, the e-krona, since around 2017, while the Saudi Arabian Monetary Authority and Central Bank of the United Arab Emirates jointly launched a common digital currency project, Aber, in January.

In Tunisia, national postal services company La Poste Tunisienne has issued a blockchain-enabled digital token called the e-dinar since 2015 as part of the government's e-governance program, although it is not a central bank initiative and is in a slightly different category, according to a recent paper from the Asian Development Bank Institute.

Elsewhere, the concept of CBDCs has received a frosty reception. Deutsche Bundesbank President Jens Weidmann said in a speech in May that CBDCs would worsen bank runs and create instability in financial systems.

However, there is a good chance that the concept will go mainstream in the near future, according to Juan Castañeda, director of the Institute of International Monetary Research at the University of Buckingham in the U.K.

Central banks that have been quietly looking into digital currencies of their own are likely to pick up the pace now that Facebook has come forward with Libra, he said in an interview.

"If anything, national central banks should speed up their projects to run their own digital currencies if they want to compete with these means of payments in the future; certainly, they should not impede competition," he said.

At the moment, some central banks may have a vested interest in maintaining the current cash-based system and may want to dissuade private companies from issuing their own forms of currency (such as Libra). This is because they can earn important revenues through seigniorage, the actual process of creating physical money, or the difference between the face value of money and the cost of creating it, Castañeda said. So it makes sense that some central banks may have had an instinctively negative reaction to Libra to begin with, he said.

But if a central bank were to issue a digital currency of its own, it would still be able to earn revenues from seigniorage, Castañeda said.

'Not as straightforward as the average person might think'

Castañeda's views on central bank digital currencies going mainstream is shared by ING, whose house view is that central banks could be pairing up with financial institutions to develop digital currencies in the next five to 10 years.

The debate about CBDCs comes at a time when many central banks are upgrading their domestic payments infrastructure to enable "real-time" payments, ING senior economist Teunis Brosens noted in a June 21 blog post. Front-end infrastructure can be updated to allow real-time transactions, including outside office hours, but the back-end infrastructure is a different story, at least as far as smaller payments are concerned.

The back-end of central bank payments is based on batch processing, which requires daily downtime to process all the payments. CBDCs built with state-of-the-art technology could enable 24/7 cross border payments and settlements, Brosens said. This would bring efficiency, cost saving and security gains, he said.

But central banks do not currently have the technical expertise to develop CBDCs on their own, so they would need to partner with other financial institution, Brosens said.

Not everyone is convinced that CBDCs are around the corner, including David Birch, a digital financial services consultant.

"It's not as straightforward as the average person might think," he said in an interview, adding that while there were some obvious "plus points" to CBDCs, it was not clear what their real purpose was, nor how central banks would execute their plans.

But it is still an exciting concept, not least because it would enable some interesting new fintech products and services to be built around CBDCs, he said.