FTT+ Expert John Collins: What the BIS Thinks About CBDCs

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Hello everyone, John here.

Congrats again to Julie and Jordan on their semi-recent nuptials, and condolences that they had to come back from their honeymoon. I’ll be in NYC this weekend and part of next week, where I will be Harry Styles-adjacent. TPWK and all of that. Hit me up if you want to get together and talk about fintech.

In this episode, we’re going to talk about CBDCs (Central Bank Digital Currencies). Much like CBD, this topic often makes people sleepy, but bear with me for a moment. I promise this will be somewhat interesting :)

Today (Thursday September 30th), the Bank for International Settlements put out several papers on CBDCs. They are a follow up to a CBDC report they issued last year and it summarizes the work they’ve done since.

There’s a lot of conflating of crypto and CBDCs. That’s sort of understandable, I guess. Crypto accelerated attention to the idea of native digital dollars and other national currencies, and it sped up their research and development. But, if there ever is a CBDC, it won’t really be like crypto at all. It’s not really crypto vs. CBDCs in real terms, that’s more of an ideological battle and increasingly totally different sets of use cases.

What it *is* about is an opening up of payments in a manner that *could* disintermediate or at the very least significantly alter how we use and operate traditional payment networks. AKA, tradpayments. (Did I do that right?)

The BIS put out four papers today. I’m going to focus primarily on the Executive Summary because Julie only gives me so many words to write here and because I’m more of a “book review” guy than a “book” guy. If you don’t like reading, I don’t know why you are here, but there’s a Youtube video and podcast. And if you want extra credit, take a look at the “system design and interoperability” paper because it’s probably the most relevant to payments nerds like you.

Anyway, here are the highlights:

• The BIS notes that use of cash is falling and use of, “new forms of digital money from the non-bank private sector” are picking up. They note, as others have before, this was accelerated by the COVID-19 pandemic. The BIS says it wants to make sure central banks and governments are well positioned to deal with “a future system that appears to be changing rapidly.”
• It’s not going to just be about individual governments. The BIS contends that you’ll need international cooperation if we are to improve cross-border payments, which they think we should. You probably do too. So, we’re talking about government run payments networks that connect to other government run payment networks.

OK. Nerd-out time. They don’t spell it out *exactly* like this, but there are echoes of an idea that former Governor of the Bank of England, Mark Carney, threw out in a speech at the Jackson Hole Symposium (as one does) in 2019, shortly before his departure from that post.

In his speech, Carney offered the concept of a “Synthetic Hegemonic Currency” (SHC), which would be provided “through a network of CentralBank Digital Currencies.” This is sort of what the BIS is talking about in their paper. The key difference is that the BIS is talking about individual networks interoperating. Carney, on the other hand, proposed a distinct, international currency network that would serve as a global settlement layer and individual token to facilitate cross-border payments. Instead of USD→ EUR, it would be USD-->SHC-->EUR. He thought it was an intriguing idea for a bunch of reasons, but primarily he thought it would hinder a China CBDC from becoming the world’s reserve currency and also “dampen the domineering influence of the US dollar on global trade.” Anyway, galaxy brain stuff and also Synthetic Hegemonic Currency is a cool name for an emo band. (Hot Topic is hiring an NFT analyst.)

• Moving on, the BIS does call out the need for private sector involvement and cooperation. They note there would be “multiple considerations involved in allocating roles individually collectively” and the biggest thing that a CBDC would need to be successful is “interoperability” with other “national payment systems.” Specifically, a need to “create incentives for diverse intermediaries to offer services” and ensure a CBDC could “interoperate with traditional systems that require detailed account and transaction information.” While they don’t mention them specifically, ACH and SWIFT would be likely candidates for this designation, debit and credit networks also come to mind. They lay out in greater detail how this might work and what considerations would need to be given to make it work in the longer interoperability paper. (Sorry, no YouTube videos for this but if you’ve made it this far, you probably don’t hate reading.)
• Speaking of the private sector, they float the idea of the network being designed in such a way that “innovators” could build features on top of it. This, in their vision, would allow fintech innovators to “combine innovative payment features into a single product in a new and unique way.” Of course in this scheme, the innovator wouldn’t necessarily own the customer and closed loop payment networks as we know them would need to dramatically change, if they aren’t disintermediated entirely by the shift. For example, I sort of get how a VISA or Paypal or Square could evolve, create, and make this work. But, an international, interoperable payments and messaging network? That sounds a lot like SWIFT, no?
• But, hey, wait, don’t worry - there are some other arguably bad (or at least concerning) things too. The BIS floats ideas to “influence or control CBDC adoption or use.” I think they want control and influence generally but also to cool the uptake and mitigate potential damage a CBDC could cause (more on that below). You know, allowing for cool things like, “access criteria for permitted users, limits on individuals’ CBDC holdings or transactions, and particular choices around CBDC remuneration.” To be clear, they don’t endorse these ideas necessarily, and note the weaknesses and problems they could present to financial inclusion, but they do mention them. So, someone wants to do them. They do think these ideas could be viewed, uh, poorly, by admitting there could be policy and legal challenges and “some measures... may face obstacles to public understanding and acceptance.” Uhm, yes.

This is all cool stuff to think about at Davos and other such places but, it’s a long way away. Don’t get me wrong, it’s great that smart people like those at the BIS are thinking about this stuff, if even at a high level. But even if a CBDC or a number of CBDCs were to happen tomorrow, the BIS thinks the only way to avoid threats to the global financial system is to take it super slow anyway. They don’t want little ol’ things to happen like, oh, disintermediating bank deposits and lending, increasing the chance of systemic bank runs, and generally making the financial system more unstable. In my personal and courageous opinion (and, to their credit, in the opinion of the BIS) these things are, uh, not ideal. But, they believe they could be avoided by pumping the brakes and ensuring the uptake of any CBDC is slow moving. Maybe they do it by slow rollouts, or beta testing, or maybe they do it by some of the control mechanisms mentioned in the prior paragraph. I guess we’ll see!

The Federal Reserve has promised to come out with a paper detailing their views on CBDCs and it’s expected in a few weeks according to Fed Chair Jay “Dangerous” Powell. Along with a number of other central banks, the Fed was involved in this paper, so it likely gives us some early signals as to where our central bank may land on CBDCs.

In the meantime, I need a drummer, guitarist, bass player, and backup vocalist for this band I’m forming. Emo personalities preferred.

See ya in two weeks!

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John Collins is a Founding Partner at FS Vector, a fintech regulatory advisory firm based out of Washington, DC, where he leads the firm’s public affairs and regulatory strategy group. Prior to that he was a senior staffer in the U.S. Senate and helped lead the American Bankers' Assocation international fintech policy work. He was early employee of Coinbase, where he served as Head of Policy, explaining the company (and bitcoin) to policymakers around the world.