Is there a case for Central Bank Digital Currency?

People walking in front of the Reserve Bank

25 November 2020

By Zann Maxwell, AusPayNet Policy Analyst

The Reserve Bank of Australia (RBA) has announced a collaborative project with a number of commercial partners to explore the potential use and implications of a wholesale form of central bank digital currency (CBDC) using distributed ledger technology (DLT).

Some see CBDC as the potential next milestone in the evolution of money. So what is CBDC and are we likely to see one introduced in Australia?

The trajectory of digitalisation and cashlessness is prompting 80% of central banks to conduct research into the introduction of CBDC.

There are a range of different potential models for it, but most would provide for CBDC to be a digital form of fiat money issued by the central bank as legal tender.

It would be compatible with a variety of technologies and widely available for all types of payments, including person-to-person, person-to-business, and business-to-business transactions of any amount. By contrast, central banks currently only tend to issue two types of money: physical cash and reserve balances, with the latter only being used to settle wholesale interbank payments.

Technologically, it is likely that CBDCs would use either a distributed ledger, as the RBA is exploring, or the issuing authority could issue electronic currency in the form of files or ‘tokens’ stored in digital wallets provided by financial institutions.

The Case for CBDC

Key questions in assessing CBDC’s potential to create value are:

  1. Would CBDC meet what consumers need from money as well as, or better than, other forms of money?
  2. Would CBDC allow central banks and other financial regulators to more fully achieve their public policy goals?

From a consumer’s point of view, CBDC would be largely indistinguishable from commercial bank deposits and likely circulate alongside them; thus CBDC is unlikely to generate much interest among consumers as it offers very little in the way of noticeable advantages to them in their everyday economic activities. Further, in a developed economy like Australia where default risk has not recently been a major concern, the distinction of being backed by the central bank is unlikely to give CBDC a clear edge.

There are, however, many reasons why central banks and governments may consider the adoption of CBDCs.

In emerging market economies, improving financial inclusion is often the key driver. This was the case for the Central Bank of the Bahamas, the first national central bank to actually launch a CBDC. With the ‘Sand Dollar’, the Bank is seeking to “… advance more inclusive access to regulated payments and other financial services for under-serviced communities and socio-economic groups as well as to reduce service delivery costs and increase transactional efficiency for financial services across the Bahamas.”

Advanced economies on the other hand often explore the potential for CBDC to assist with the pursuit of the policy objectives of government and the central bank, such as financial integrity, stability, and monetary policy.

For example, CBDCs could incorporate ‘smart contracts’ which would make the money programmable. Smart contracts are built from code and would enable the currency to execute a function when certain conditions are met. This would give the central bank the ability to adjust the value of the currency under certain predetermined conditions.

This ability could be used for any number of purposes such as imbedding penalties or incentives into the CBDC which could help to disrupt the financing of illegal activities.

In a time of COVID-19 and recession, it is important to note that CBDC could also assist with the implementation of monetary policy by enabling the central bank to more efficiently and effectively issue stimulus funds to individuals and break through the zero lower bound to institute negative interest rates.

The Potential Wider Repercussions for the Financial System

The history of money suggests that, while its basic functions may remain constant (in so far as it provides a unit of account, a means of payment, and a store of value), the form that money takes evolves in response to user needs. The rise of digital payments and efforts to build new forms of money itself are manifestations of this. However, what CBDC could mean for what money is, where it comes from, and the wider repercussions that these questions could have for the financial system, is rarely foregrounded in the discussion.

The International Monetary Fund (IMF) considers the main rationale for exploring CBDC in advanced economies to be ‘countering the growth of private forms of money’ as the trend towards digitisation reduces the use of central bank-backed cash currency in the economy.

Reserve Bank of Australia Governor, Philip Lowe, has pointed out that there are significant difficulties and dangers associated with privately issued fiat money, saying:

“The history of private issuance is one of periodic panic and instability. In times of uncertainty and stress, people don't want to hold privately issued fiat money. This is one reason why today physical banknotes are backed by central banks”.

In this way, the discussion around CBDC fits into that larger and wider debate about the nature of money and its role in the financial system that has been ongoing for many years.

A report by the European Parliament's Committee on Economic and Monetary Affairs has considered whether private sector entities should be allowed to control the supply of money at all or whether provision of a universal means of exchange is an activity most efficiently provided by a sovereign, much like the legal system or national security.

But the report also raises the question of whether the business models of modern financial institutions are crucially dependent on the deposit creation privilege, which implies extremely elastic credit expansion and destruction.

Whether this deposit creation privilege and the elasticity in the growth of private forms of money is an enabler for economic growth or rather an economic destabiliser is something that the economics editor of the Financial Times, Martin Wolf, once attempted to answer.

Pointing to a study by the IMF, he argued that the state should be given a monopoly on all money creation, just as it creates cash today:

“Our financial system is so unstable because the state first allowed it to create almost all the money in the economy and was then forced to insure it when performing that function. This is a giant hole at the heart of our market economies. It could be closed by separating the provision of money, rightly a function of the state, from the provision of finance, a function of the private sector”.

The introduction of a CBDC may not immediately be an especially appealing development as far as its utility to consumers is concerned. However, to the extent that broader concerns exist around the growth of private forms of money and the nature of money itself, it remains an option available to reformers.

The report by the European Parliament's Committee on Economic and Monetary Affairs concluded that:

“A digital currency could also be issued by the central bank and potentially substitute for bank deposits as the main form of money holding of households and businesses. This would challenge the present fractional reserve system at its core. Increased instability of monetary aggregates and credit supply would be a possible outcome, if market participants shifted liquidity pro-cyclically between digital money and bank deposits. Commercial banks would increasingly have to rely on other funding sources than deposits, so that this disruptive change to the fractional reserve system could finally pave the way for a more stable financial system.”

Other Countries

Several national central banks, are in the advanced stages of their work towards issuing central bank digital currencies, notable examples include:


Sweden is going cashless so quickly that some banks and business have decided no longer to accept cash.

A 2018 Riksbank survey showed that only 13% of Swedes paid for their most recent purchase in cash, down from 39% in 2010. The Riksbank has also expressed the concern that this rapid shift creates a risk that Swedes will no longer have access to a form of payment that is guaranteed by the state and not entirely in the hands of the private sector:

“If the marginalisation of cash continues a digital krona, an e-krona, could ensure that the general public still has access to a state-guaranteed means of payment […] Alternatively, not to act in the face of current developments and completely leave the payment market to private agents, will ultimately leave the general public entirely dependent on private payment solutions, which may make it more difficult for the Riksbank to promote a safe and efficient payment system.”


China has been working on a digital currency since at least 2014 and has been trialling it in the major city of Shenzhen.

The People’s Bank of China Deputy Governor has outlined how under their proposed CBDC, private intermediaries such as banks would manage all customer-facing activity while the dynamic currency would be controlled by the central bank.

Though the consumer would notice very little difference in their daily lives and transactions, there could be serious implications for issues of privacy, data, and the dynamic of the citizen-government relationship. As the Deputy Governor stated: “[The acquisition of data] would allow the central bank to keep track of necessary data to implement prudent regulation and crack down on money laundering and other criminal offences.”

So what about Australia?

Back home, RBA Governor Philip Lowe said to AusPayNet’s 2017 Australian Payments Summit that the central bank had no immediate plans to issue an electronic form of Australian dollar banknotes on the basis that the case for one has not yet been established here.

Mr Lowe noted that this was largely because most of the potential advantages offered by CBDC can be satisfied in other ways. In particular because the development of the New Payments Platform (NPP) has the potential to be transformational in that it will allow many transactions that today are conducted with banknotes to be conducted electronically. He also added that:

“It provides this, while at the same time allowing funds to be held in deposit accounts at financial institutions subject to strong prudential regulation and that pay interest. This combination of attributes is not easy to replicate, including by closed-loop systems outside the banking system”.

However, the RBA has still continued to research the pros and cons of a CBDC.

The RBA’s September 2020 Bulletin provided an update on the Bank’s first assessment of the issues around CBDC in late 2017 with an article by Head of Payments Policy, Tony Richards on ‘Retail Central Bank Digital Currency: Design Considerations, Rationales and Implications’. The article considered some issues around a CBDC’s possible design, the possible rationales for issuance, and their implications.

The RBA’s subsequent November 2nd announcement of their collaborative project to explore the potential use and implications of a wholesale form of CBDC using distributed ledger technology was described as being part of this ongoing research.

The RBA’s announcement of the project explained that:

“[It will] will involve the development of a proof-of-concept (POC) for the issuance of a tokenised form of CBDC that can be used by wholesale market participants for the funding, settlement and repayment of a tokenised syndicated loan on an Ethereum-based DLT platform. The POC will be used to explore the implications of ‘atomic’ delivery-versus-payment settlement on a DLT platform as well as other potential programmability and automation features of tokenised CBDC and financial assets.”

Assistant Governor (Financial System) Michele Bullock added:

“With this project we are aiming to explore the implications of a CBDC for efficiency, risk management and innovation in wholesale financial market transactions. While the case for the use of a CBDC in these markets remains an open question, we are pleased to be collaborating with industry partners to explore if there is a future role for a wholesale CBDC in the Australian payments system.”

The project is expected to be completed around the end of 2020 and the parties plan to publish a report outlining the project’s main findings during the first half next year.