Explosion of digital currencies poses challenging policy questions, says senior figure at Bank of England
Andrew Hauser, the Bank’s Executive Director for Markets, provided analysis on how central bank balance sheets can adapt to a world of digital currencies at an event in the US.
In his presentation to the Federal Reserve Bank of New York Monetary Policy Implementation and Digital Innovation workshop, Mr Hauser said: “The explosion of interest in digital currencies poses deep and challenging policy questions on everything from monetary and financial stability, to privacy, competition, money laundering and social inclusion. Public authorities are evaluating the arguments for and against introducing their own Central Bank Digital Currencies.
“And in the private sector there’s a lively debate about what it might take to make so-called ‘stablecoins’ genuinely stable.”
A key unknown in assessing the impact of digital currencies lies in judging the extent to which they may affect the flow, and pricing, of money and credit in the economy, Mr Hauser said.
He added: “When a bank creates a new loan, it must retain or attract sufficient deposits to fund it. Digital currencies do not fund credit creation, but they do increase the competition for, and hence the cost of, deposits, with knock-on implications for the price and availability of credit.
“The size of these effects will depend heavily on the eventual design of any systemic digital currencies, their attractiveness relative to bank deposits, the availability and price of alternative funding sources for banks, and borrowers’ ability to substitute between types of credit. It is not a foregone conclusion that these effects will necessarily be large.”
“Indeed, an illustrative scenario published by the Bank of England in 2021 suggested that the steady state impact could be quite modest, with lending rates rising only slightly, and credit provision falling by a little over 1% – though varying the assumptions can generate somewhat larger results.”
More serious disruption to credit supply could occur if deposits transferred into digital currencies in an unexpectedly rapid or disorderly way, for example during a stress event, Mr Hauser added.
He added: “But a range of design choices, including potential holding limits, could in principle be deployed to deal with such situations.”
“And banks suffering sudden deposit outflows may also, as now, draw on market-wide central bank liquidity insurance facilities – though the pricing of such facilities, and their implications for encumbrance, make them less well suited to providing long-term structural support.”
“Over and above any impact that digital currencies may have on the transmission mechanism, they could also have implications for how central banks achieve ‘monetary control’: i.e. ensuring that short term market rates are aligned with official rates chosen by policy makers.”