Washington policymakers are angling for roles in the possible development of a digital dollar as individual and institutional interest in digital assets swells.
A Friday speech by Federal Reserve Gov. Lael Brainard, who President Joe Biden nominated to serve as vice chair of the Fed board, and a Feb. 7 report from the Congressional Research Service underscores the federal government’s rising interest in a U.S. central bank digital currency that could act as a digital dollar.
While the Fed contemplates the possibility of issuing a CBDC, with a public comment period on the topic currently underway, members of Congress are also lining up to offer their legislative views of how such a digital dollar might be rolled out. The actions they take, and the speed with which they take them, could have significant consequences for America’s place in the global financial system.
In her Feb. 18 speech before the U.S. Monetary Policy Forum in New York, Brainard said new "digitalization and decentralization" trends offer potential benefits in reducing money transfer transaction costs, increasing financial inclusion and boosting competition, but also present risks.
"With technology driving profound change, it is important we prepare for the financial system of the future and not limit our thinking to the financial system of today," she said.
A CBDC could potentially address two trouble points in banking and payments, specifically some Americans' lack of access to digital banking and payment services, and secondly, the inefficiency of cross-border payments, which are currently expensive and slow, Brainard said.
Rising interest in CBDC
Brainard presented clear proof of rising interest in digital assets, including crypto and stablecoins, which are digital assets tied to a stable fiat currency. The market value of all cryptocurrencies has surged to about $2 trillion, from $100 billion five years ago, she said. Also, the supply of stablecoins climbed nearly sixfold throughout last year to about $165 billion in January, up from $29 billion a year earlier, she said, noting a concentration in four stablecoins.
Brainard also pointed to a Pew Research Center study last year in which 16% of survey respondents said they had personally invested in, traded or used a cryptocurrency, compared to less than 1% of respondents in 2015. That mirrors rising institutional interest, she said.
"If the past year is any guide, the crypto financial system is likely to continue to grow and evolve in ways that increase interconnectedness with the traditional financial system," Brainard said.
As a result, it’s not surprising that countries worldwide are trying to adapt to the new digital asset trend and contemplating statutory responses as well as the possibility of issuing their own central bank digital currencies. She suggested the U.S. government and private sector should work together on such a possibility.
"It is prudent to explore whether there is a role for a CBDC to preserve some of the safe and effective elements of the financial system of the present in a way that is complementary to the private sector innovations transforming the financial landscape of the future," Brainard said.
Specifically, with respect to stablecoins, she noted three potential risks, including "run risk," where there might be a sudden demand for redemption, "settlement risk," where there is the uncertainty of transactions being completed, and "systemic risk," where the troubles with a stablecoin could ripple through to the broader financial system.
Given the increasing popularity of stablecoins and the fact that the market is dominated by two providers, it could be all the more important that the Fed develop a government alternative that could lend stability in the digital financial ecosystem, she said.
On the international front, Brainard also stressed the need for understanding what repercussions there might be for the U.S. as other countries advance central bank digital currencies. She noted, in particular, China’s progress in creating the digital yuan and the influence it could have on the global financial system.
"A U.S. CBDC may be one potential way to ensure that people around the world who use the dollar can continue to rely on the strength and safety of U.S. currency to transact and conduct business in the digital financial system," she said.
She detailed the steps the Fed has taken so far, including issuing a report on the consideration of a CBDC, and its Federal Reserve Bank of Boston research with the Massachusetts Institute of Technology. Still, Federal Reserve Chairman Jerome Powell has been clear he’s unlikely to make a move on the effort without clear direction from Congress and the president.
To that point, the Congressional Research Service on Feb. 7 provided its own overview of how a CBDC might unfold, noting "Congress might choose to legislate in order to either explicitly authorize or mandate the Fed create a CBDC and shape its features and uses, or to prevent one from being introduced."
Congressional considerations of a CBDC
That nonpartisan research arm of Congress laid out a laundry list of questions policymakers must grapple with before making a decision. The queries included consideration of what a U.S. CBDC would compete with, how it would promote financial inclusion, how it could affect privacy, whether it would make monetary policy more effective and how it might improve cross-border payments.
The report detailed the strides that other countries are making in studying CBDCs, noting that 86% of 65 central banks surveyed in 2020 by the Bank of International Settlements were in some way actively engaged in CBDC work, though only 14% have taken concrete steps, like launching a pilot program.
Specifically, the report called out China’s progress, with about 140 million people opening digital wallets that allowed them to use the new currency and the country’s collaboration with two big digital payment companies, WeChat Pay and AliPay, on the project.
The report also noted that the chairs of the Senate Banking, Housing and Urban Affairs Committee and the House Financial Services Committee each introduced legislation in the 116th Congress that would have created a CBDC and digital wallets at the Fed, and that in the current 117th Congress, four additional House bills related to a CBDC have been introduced, with varying approaches to the innovation.
As Congress considers what specific policy goals might be met by a CBDC and how it might be designed to accomplish those objectives, it’s also likely to consider the "costs, benefits and uncertainties" of a digital dollar, the report said. It will also have to weigh whether to pursue the idea in conjunction with international efforts by the Bank of International Settlements, the Committee on Payments and Market Infrastructures and the Group of 20, among others working on such research.
"In light of other countries’ efforts, Congress may consider whether there is a first-mover advantage to creating a CBDC in terms of usage and standard-setting, or whether there are advantages from taking a wait-and-see or lessons-learned approach," the CRS report said.