A speech by Ms. Lael Brainard, who is a member of the Board of Governors of the Federal Reserve System, recently made people sit up and take notice of the discussion surrounding central bank digital currencies, (CBDCs).

She started off by stating that while digitization has enabled consumers and businesses to transfer value instantaneously, the risks have also increased immeasurably.

In terms of cryptocurrencies, she mentions that one important design choice is whether a digital currency is account-based or token-based. “From an accounting perspective, there is an account structure for the asset owner and for the asset itself. Individual accounts could take the form of traditional account structures of commercial banks or be pseudo-anonymous. The accounting of the asset itself could take the form of debiting and crediting account balances or tracking of specific “tokens.”

“Another key design consideration is the method for authenticating the asset owner—to open an account and to make transactions. Traditionally, identity authentication is done by the account provider, but new tools, such as bio-metrics, may be required for decentralized systems”

“A third important design variant is convertibility. Private-sector digital currencies vary in important ways with regard to whether they are linked in a legally binding way to a sovereign currency.”

She then moved on to stablecoins, and unlike first-generaton cryptocurrencies, these coins are tied to an asset or basket of assets, such as commercial bank deposits or government issued bonds. Interestingly, she then spent some time on central bank digital currencies.

A recent Bank for International Settlements survey of 66 central banks showed more than 80 per cent of central banks being engaged in some type of central bank digital currency (CBDC) work.

“Given the dollar’s important role, it is essential that we remain on the frontier of research and policy development regarding CBDC.Like other central banks, we are conducting research and experimentation related to distributed ledger technologies and their potential use case for digital currencies, including the potential for a CBDC. We are collaborating with other central banks as we advance our understanding of central bank digital currencies.”

In the U.S. context, she said that apart from design issues to explore, the legal considerations are also very important. She is also concerned that adding a new form of central bank liability will reduce operations vulnerabilities from a safety and resilience perspective. In the grander scheme of things, the design of any CBDC will need to address important questions surrounding financial stability.

With regards to the existing Federal Reserve Act, how will a CBDC fit into the existing narrative? In terms of its currency issuance, will the CBDC have legal tender status? She said that while the legal framework is well-established with regards to the rights and protections for the Federal Reserve notes in the current system, it is largely untested for new instruments such as CBDCs, and of course for digital currencies in general.

She feels that a different approach may be necessary to ensure holders of CBDC have appropriate protections, including privacy rights, fraud protection, digital identity safeguards and data protection. She concluded her remarks on a neutral note.

“The digitization of currencies and payments is being driven by technology players that are bringing new business models to this space and fresh attention to age-old questions…while the potential for seamlessly integrated and lower-cost transactions brings important benefits, digitization also brings risks…in the United States no less than in other major economies, the public sector needs to engage actively with the private sector and the research community to consider whether new guardrails need to be established, whether existing regulatory perimeters need to be redrawn, and whether a CBDC would deliver important benefits on net.”

This is indeed much food for thought.

Source: The U.S. Federal Reserve

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About the author

Anil Prabha

Editor In Chief

Anil started his career in journalism all the way back in 2003. After traversing the sphere of editorial, corporate communications and advertising, he has now come full circle and is back in the world of journalism. He believes in the power of the written word, and its ability to enthrall, delight and inform the reader.