Speech

New Framework for the Digital Economy

April 20, 2022

Good afternoon. It is my pleasure to be with you today for a discussion on the new digital economy and the future of money. My remarks today will focus on the current and future landscape of digital currencies, in particular, central bank digital currencies, or CBDCs, as well as crypto assets including stablecoins.

I will also touch on some of the opportunities that exist for global standards and coordination to narrow some of the current regulatory gaps, so that these new instruments can better support a growing digital economy.

The changing nature of money—CBDCs

Digitalization is changing our understanding of what “money” is and how it operates. On the public-sector side, we now see a movement toward Central Bank Digital Currencies, or “CBDC.”

Currently, only two countries have officially launched CBDCs: the Bahamas and Nigeria. But many more are actively running trials, including China and the countries of the Eastern Caribbean Currency Union. More than 100 countries are exploring the idea. In the United States, the Federal Reserve issued a paper in January on the pros and cons of CBDCs as a first step of a public discussion among stakeholders.

Naturally, approaches differ according to each country’s particular circumstances. Some are still cautiously analyzing the policy motive for issuance, while a few are actively prototyping various options in safe “sandbox” environments or launching live pilot programs.

There is so much interest in CBDCs because they offer so many potential benefits. Just to name a few of these:

•         CBDCs could enhance payment systems, making them more cost-effective due to the digital nature; more competitive by disciplining often highly concentrated payment markets; and more resilient with an alternative decentralized platform.

•         CBDCs could help increase financial inclusion. Access to payments is often the first step toward greater participation in the financial system, and the digital availability of micro-payment data could lead to access to credit and other financial services for people who currently lack access.

•         CBDCs can be used to improve cross-border payments. Currently, these are often slow, costly, opaque, and not easily accessible. By sharing common technical standards and data and compliance requirements, CBDCs could allow for cross-border trading between intermediaries or end-users directly.

Notwithstanding these benefits, it’s important that we recognize likely risks and consider how they can be reduced. Here, I’d like to highlight three in particular:

•         Banking-sector disintermediation. If people decide to hold a CBDC in significant volume, it could lead to a compression of bank margins or to an increase in lending rates, resulting in contraction in credit to the economy.

•         Reputational risks for central banks. If problems occur—whether it is due to technological glitches, cyber-attacks, or simply human error—it could undermine public faith in the central bank’s operations.

•         Macrofinancial risks. With the cross-border use of CBDCs, countries with weak institutions, high inflation, and volatile exchange rates could see an increase in currency substitution (so-called “dollarization”).

These risks can be mitigated through appropriate design. For instance, offering a lower interest rate on CBDC holdings, or distributing CBDC through existing financial institutions.

Cooperation among central banks will also be pivotal in building CBDCs with features that help contain spillovers and help facilitate backstops. For example:

•         To curb currency substitution, countries could explore the option of limiting transactions and holdings for foreigners. Or, they could allow foreign countries to introduce such limits on their own territory.

•         Capital-flow-management measures, which might involve restrictions on certain cross-border transactions, could be built directly into the CBDC specification.

•         The programmability of CBDC could also be used to facilitate a more efficient exchange of currencies across borders.

Alternative forms of digital assets—cryptoassets including stablecoins

So where do the private-sector-led innovations of cryptoassets including stablecoins fit in?

Recent years have seen a boom in cryptoassets like Bitcoin. These are privately issued and secured by cryptography—a decentralized asset that allows peer-to-peer transactions without an intermediary like a bank. Since Bitcoin’s launch in 2009, over 14,000 different types of cryptoassets have been issued, holding an estimated market value of US$2.6 trillion at the end of 2021. They are highly volatile, infrequently accepted, and carry a high transaction cost.

The huge volatility of unbacked crypto has created interest in stablecoins, which attempt to offer price stability by linking their value to a fixed asset such as US dollars or gold. Still, there are many stablecoins with various shades of stability. Unlike unbacked cryptoassets, stablecoins have the potential to become global payments instruments.

Along with CBDCs, both unbacked crypto and stablecoins are eventually likely to come to exist side-by-side on a new continuum, competing with today’s two most common forms of money, namely cash and bank deposits.

Unbacked crypto and stablecoin use is still relatively small, but both are growing rapidly and could soon start having significant implications for the international monetary system.

If they become widely adopted, they could introduce a wide range of concerns. Let me highlight some of these:

•         Widespread currency substitution, or what we have called “cryptoization,” could potentially undermine governments’ control of monetary policy and have an impact on domestic financial conditions.

•         Capital flow measures could be more easily circumvented and independent exchange-rate regimes could be harder to maintain.

•         Capital-flow volatility could increase, as could gross foreign-asset positions, potentially triggering balance-of-payments problems.

•         Global stablecoins in their own denomination raise significant new risks, including the lack of available safe assets and a credible safety net.

•         Finally, there is risk of fragmentation of payment systems, and of global “digital divide”—stemming from differences in countries’ access to new payment technologies and their capacity to leverage and regulate it. 

Such risks underscore why we now need comprehensive international standards that more fully address risks to the financial system from crypto assets, their associated ecosystem, and their related transactions, while allowing for an enabling environment for useful crypto asset products and applications.

Closing the regulatory gaps

How could monetary and regulatory authorities approach different types of crypto including stablecoins to ensure that the international monetary system remains stable and efficient?

Policymakers struggle to monitor risks from this evolving sector, in which many activities are unregulated. In fact, we think these financial stability risks could soon become systemic in some countries.

Crypto’s cross-sector and cross-border remit limits the effectiveness of national approaches. Countries are taking very different strategies, and existing laws and regulations may not allow for national approaches that comprehensively cover all elements of these assets. Importantly, many crypto service providers operate across borders, making the task for supervision and enforcement more difficult. Uncoordinated regulatory measures may facilitate potentially destabilizing capital flows.

Let us remember that most of the money that we use today is issued by the private sector—in the form of commercial bank deposits. It is safe, because issuers are very closely supervised; they benefit from government backstops; and they are required to adhere to clear legal and regulatory frameworks.

Those same factors must also hold firm for private issuers of digital money such as certain types of stablecoins. Clear regulations must be enacted so these forms of money fully address risks to financial stability, financial integrity, consumer protection, and market contestability. Clear legal frameworks must be developed to determine whether these stablecoins are (for example) deposits, securities or commodities. More broadly, entities that carry out core functions across the crypto asset ecosystem such as wallets and exchanges should be authorized and licensed. Where regulated institutions like banks are exposed to crypto assets, there should be appropriate prudential treatment of those exposures. Regulation should be globally comprehensive, consistent, and coordinated.

Stablecoins have the potential to change the international monetary and financial system in profound ways. It is important that digital money like CBDC and certain types of stablecoins are designed and provided so that countries maintain control over monetary policy, financial conditions, capital-account openness, and foreign-exchange regimes. The IMF has developed a strategy in order to continue to deliver on its mandate in the digital age. The Fund will work closely with the Financial Stability Board and other members of the international regulatory community to develop an effective regulatory approach to crypto assets.

We’re at an exciting moment in the evolution of currencies—and indeed, in the evolution of our very concept of what “money” is, and what benefits “money” should deliver. If we design digital currencies with caution and with precision, and if we frame their adoption within legal and regulatory systems that maximize their benefits and minimize their risks—then we could be on the verge of an era that fulfills the promise of transformation.