Speech

Central Bank Independence and the Development of Payments and CBDCs

January 10, 2023

Independence has long been a cornerstone of central banking. This is particularly true for the monetary policy function, which is firmly entrenched in central banks’ legislative mandates and practices.

To date, numerous studies have validated the critical importance of independence for monetary policies that are aimed at low and stable inflation. And research based on the IMF’s Central Bank Legislation Database shows that most countries’ central bank laws contain “anchors” to safeguard central bank independence. These laws aim to insulate monetary policy from political interference. Such interference could undermine central banks’ goals and potentially create long-term risks to economic and financial stability. Any short-term political gains could potentially invite long-term pain in the form of higher inflation.

Independence in the era of CBDCs

It is important to note that independence reaches beyond the monetary policy function. In fact, the Basel Core Principles enshrine operational independence for the banking supervisor. Moreover, the Principles for Financial Market Infrastructures encompass independence for financial market infrastructures such as payment systems. With the rapid expansion of central bank mandates—including into central bank digital currencies, or CBDCs—there is a need to examine the extent to which the notion of central bank independence needs to be broadened.

First, the operation of CBDCs—whether wholesale or retail, and regardless for which objective the central bank intends to use CBDCs—should in no case undermine independence. It is important for central banks to clearly communicate what functions a CBDC serves, and how it interacts with monetary, payments, financial stability, and financial integrity policies. This could change over time, as experience with CBDCs grows, and central banks should aim to keep their stakeholders informed accordingly. Second, central bank independence might need additional safeguards depending on the design and intended uses of the CBDC. To this end, amendments to existing legislation or even additional legislation might be needed.

Above all, transparent and accountable arrangements are key.

In this context, I would like to mention the IMF’s Central Bank Transparency Code, which provides guidance through principles and best practices on all central banking functions. The Code can be seen as prompting central banks to use transparency to shape their accountability. The Code also facilitates more effective communication (and a dialogue) with stakeholders. Central banks need to clearly articulate the policy goals and tools around CBDCs to make sure that independence is preserved.

Challenges ahead

When it comes to exploring CBDCs, countries’ motivation and challenges vary, but there are certain common elements. The main challenge is the emerging nature of CBDCs—that is, there are no firmly established principles for how to determine whether to issue CBDCs, as well as how to design them. Related to questions around design is the technological uncertainty. Which technology is best suited for CBDC? Should a central bank go for decentralized or centralized technologies? How should data be managed? What are the main macro-financial implications of using CBDCs across borders? And how would a central bank effectively manage risks related to CBDC, including aspects of cyber security?

These are difficult questions, and dare I say no one has definite answers as of yet.

There are, however, considerable areas of consensus. For instance, there seems to be emerging consensus on the use of “tiered wallets” and “managed anonymity” design, under which small-value transactions could be made similar to cash but larger-value transactions would require fuller identity information. Such tiered wallet design could also help manage the potential effects of bank disintermediation. Most central banks are considering a so-called two-tier operational model in which private firms—for instance, commercial banks—carry out key functions as intermediaries between the central bank and the end user. But the question then arises as to how to ensure sustainable business models for these intermediaries—for example, how to ensure cost recovery and how to encourage merchants to adopt CBDCs.

Countries are struggling with this, not least because getting incentives right for the intermediaries is important to ensure sufficient CBDC adoption to promote the chosen policy goals, such as financial inclusion. Countries need to be able to learn from each other and minimize risks of repeating costly mistakes that have potentially already been made by others.

This means there is no “one size fits all.” On the contrary, there will need to be significant freedom for individual countries to design their CBDCs to promote their particular policy objectives. Countries should be able to draw on the joint knowledge, experience, and lessons of a global exploration of CBDCs when they make decisions on, for instance, whether to issue a CBDC and, if so, what design choices to make.

Role of the IMF

International organizations, such as the IMF, have an important role to play here in facilitating information-sharing, as well as in ensuring that member countries can access this information—for instance through benefiting from capacity development on CBDCs.

Indeed, many countries are currently working with the IMF to build institutional capacity for CBDCs. Digital money directly impacts the IMF’s core mandate of maintaining global monetary and financial stability, as well as the overall functioning of the international monetary system.

Developments around digital money have been integrated into our regular surveillance. Article IV and FSAP missions now consider potential effects from the development of digital money. We have also significantly stepped up our capacity development activities on digital money to member countries. We work with country authorities on risk mitigation and sound design principles, while at the same time helping to ensure that domestic decisions serve as a sound foundation for a stable global payments system.

Of course, the IMF is not alone in this work and coordinates and cooperates with other international organizations, such as the World Bank, the Bank for International Settlements, the Financial Stability Board, and domestic authorities. Such a commitment to multilateral cooperation during a particularly challenging but exciting time will help to ensure the best possible outcomes for all concerned.