Central Bank Digital Currencies: an Old Idea in New Form

Most of the money people use today is not issued by the central bank at all. It is a record in a commercial bank’s books: a deposit, which is the bank’s promise to pay. The central bank issues two kinds of money. One is banknotes, which anyone can hold. The other is reserves, balances in accounts at the central bank, which only banks and a few other institutions can hold. A central bank digital currency, or CBDC, would add a third kind: a digital form of central bank money available to the general public.

That sounds like a new idea born of the internet and of Bitcoin. Its roots go back much further.

An old question

For much of their history, some central banks did hold accounts for private customers. The Bank of England, founded in 1694 as a private company lending to the government, served private clients for centuries. In many countries, postal savings banks and postal giro systems gave ordinary people accounts with a state institution from the late nineteenth century onward. The idea that the public might hold money directly with the state, rather than through private banks, was never exotic.

In the 1930s, in the aftermath of bank failures during the Great Depression, a group of economists in Chicago proposed that banks be required to hold reserves equal to all their deposits, so that deposits would be as safe as cash. The Yale economist Irving Fisher developed the idea in his book 100% Money in 1935. The proposal was not adopted, but it framed a debate about the safety of private bank money that has never quite ended.

In 1987 the Nobel laureate James Tobin suggested at a conference that the government should offer the public a safe, deposit-like form of currency that could be transferred by cheque or electronically: what he called deposited currency. Many modern discussions of CBDC restate his question in new language.

Why now

Two developments revived the question in the 2010s. The first was the decline of cash in some countries. In Sweden, the use of cash in shops fell sharply, raising the prospect that the public might lose access to central bank money altogether if banknotes faded away. The Riksbank began its e-krona project in 2017 partly in response.

The second was the arrival of privately issued digital currencies, first Bitcoin and later large private projects for stable-value tokens. Central banks began to ask whether, if the public’s payments moved to private digital forms, they would lose the anchor role that central bank money plays in the monetary system. The Bank for International Settlements, in its Annual Economic Report for 2021, devoted a chapter to CBDCs and argued that they could help keep central bank money at the centre of a digital payment system.

The first launches

The first nationwide retail CBDC was launched in a small island nation. On 20 October 2020, the Central Bank of The Bahamas made the Sand Dollar available across the country, with the explicit aim of reaching people on its many islands who had limited access to bank branches. The Eastern Caribbean Central Bank launched a pilot called DCash in 2021, and in October 2021 the Central Bank of Nigeria launched the eNaira. China’s central bank began pilot programmes for a digital form of its currency in several cities from 2020.

Adoption has been uneven. In several of these early cases, the number of people using the new money remained modest for some time, a reminder, familiar from DigiCash in the 1990s, that a working technology does not by itself persuade people to change how they pay.

Inclusion and resilience

The smaller countries that moved first often stressed goals that differ from those of large economies. In archipelagos and rural areas, bank branches can be far away, and a digital currency usable on a basic mobile phone promises access to payments for people without bank accounts. Resilience is another theme: central banks want payments to keep working during power cuts, network failures or natural disasters, which is why several projects study offline payments that can be completed between two devices without a connection to any central system. These aims are practical rather than ideological, and they help explain why some of the earliest launches took place in island economies rather than in the largest financial centres.

The digital euro

In the euro area, the European Central Bank published a Report on a digital euro on 2 October 2020. In July 2021 its Governing Council launched a two-year investigation phase to study possible designs and their consequences. On 28 June 2023 the European Commission proposed a regulation establishing the legal framework for a digital euro, which would need to be adopted by the European Parliament and the Council. In October 2023 the ECB decided to move to a preparation phase, which began on 1 November 2023, to work on rules and to select providers that could build the platform. The ECB has stressed that any decision to issue would come only after the legislation is adopted.

The design questions

Most of the debate about CBDCs is not about whether the technology can work, but about how it should be designed. Several questions recur in almost every project.

Retail or wholesale

The first question is who the currency is for. A retail CBDC would be available to the general public for everyday payments, which is the version that attracts most attention. A wholesale CBDC would be used only by banks and other financial institutions to settle payments among themselves, much as reserves are used today, but with new technical possibilities, for example settling transactions in tokenised securities or across borders. The BIS Innovation Hub, established in 2019, has run a number of experiments with central banks on wholesale designs. Wholesale projects raise fewer questions about privacy and bank deposits, and some central banks regard them as the more urgent of the two.

Privacy

Cash is private by default; a digital currency need not be. Who would see the record of a person’s payments: the central bank, the intermediaries that distribute the currency, both, or neither? The ECB has discussed offline payments with a level of privacy close to that of cash. The question is the one David Chaum raised in the 1980s, now asked by central banks themselves.

Banks and holding limits

If people could move their deposits easily into a central bank digital currency, banks might lose funding, especially in a crisis, when a rush to safety could happen in minutes. Most proposals therefore include limits on how much an individual could hold, or other tools to slow large movements. Most also envisage that commercial banks and payment providers, rather than the central bank, would deal with the public.

Technology and control

Despite the association with blockchains, many CBDC designs use conventional databases operated by the central bank or its partners. A CBDC is a liability of the central bank, issued and controlled by it, which is the opposite of the design in the Bitcoin whitepaper. Debates about so-called programmable money, and about whether conditions could be attached to how money is spent, have made some citizens wary, and central banks such as the ECB have stated that they do not intend to programme restrictions on use.

An old idea in new form

Seen against the long history told in these essays, a central bank digital currency combines very old elements. It is a ledger, like the tablets of Uruk. It is money vouched for by an issuer’s mark, like the lion’s head of Lydia. It raises the old question of whether the issuer will show restraint, which the gold standard tried and failed to settle for good. And it must answer the cypherpunks’ question about who can watch our payments.

Whether CBDCs become a normal part of daily life, or remain a set of cautious pilot projects, is not yet known. What is clear is that the problems they address, trust, record-keeping and privacy, are the problems money has always posed. The technology is new. The questions are five thousand years old.