The president of the European Central Bank Christine Lagarde revealed last week that she thinks the ECB will go ahead with the digital euro, an electronic form of central-bank money accessible to all. "Banknotes are still to stay," Lagarde said in an online interview at the Reuters Next conference, "but I think we will have a digital euro."
This opinion was published earlier on euobserver.com. Author: Leo Van Hove, professor of Economics at the VUB.
The final decision is expected sometime this summer, based upon, amongst other input, a public consultation that the ECB concluded also last week, and which received more than 8,000 responses – a record level of feedback. Exactly which form the new payment instrument will take is thus as yet unknown. But a number of general principles have been set out. In her speeches, Lagarde has repeatedly stated that a digital euro would be a supplement to, not a substitute for, physical cash. And the Eurosystem report published in October last year highlighted that the digital currency would also be complementary to private sector endeavours such as the European Payments Initiative launched by a group of major banks.
This stance has been echoed by the European Commission. Eric Ducoulombier, head of the Retail Financial Services and Payments Unit, has been quoted saying that "there is no intention by EU institutions to throw banana skins in the way of creating private sector solutions" and that this may require public and private solutions occupying different parts of the market. With physical central-bank money, such 'cohabitation' has come into being quite naturally – because of inherent characteristics of both cash and its competitors. For example, barring cash on delivery, physical cash cannot be used for e-commerce. Also, given the risk of loss and theft, it is not wise to use cash for larger-value retail transactions as it would require walking around with too big a wallet. Conversely, banknotes are ideally suited for person-to-person transactions: hands suffice as acceptance infrastructure.
Niche product?
All this is different for the digital euro. Hence, unless it is tweaked, it may well prove harder to confine it to specific niches. In other words, an overly attractive digital euro risks supplanting private initiatives. The main attraction of the digital euro, if and when it happens, lies in its risk-free nature. As emphasised by Lagarde, a core role of the ECB is to secure trust in money. Unlike commercial banks, a central bank cannot go bust, as it can create money out of thin air. A recent ECB press release promises that "a digital euro would combine the efficiency of a digital payment instrument with the safety of central bank money."
Another distinctive characteristic of the digital currency might be its privacy. In the public consultation conducted by the ECB, privacy of payments ranked highest among the requested features of the new currency (41 percent of responses), followed by security (17 percent) and pan-European reach (10 percent). It remains to be seen what the ECB will decide, but the same press release quoted above pledges that "the protection of privacy would be a key priority, so that the digital euro can help maintain trust in payments in the digital age." If the ECB wants to make sure that the digital euro "does not adversely affect competition", it could temper its lure by placing an upper limit on the value that can be held in any account or electronic wallet, or by setting a (low) maximum transaction amount.
This could ensure that the new instrument is predominantly used for low-value transactions – as is the case for physical cash today. However, such limits would restrict the usefulness of the digital euro for the other potential objectives that the ECB envisages – besides merely responding to the declining use of cash. If the digital euro is to become an effective new monetary policy instrument – a purpose for which it would have to be made interest-bearing – then the holding limits cannot be too tight. Similarly, an overly 'clipped' digital euro would not be much of a safe haven in times of bank runs and would thus not contribute to financial stability.
The ECB has announced that the decision to launch the digital euro, if it so decides, will be followed by an investigation phase. If the ECB really only wants to be a 'payment service provider of last resort' and, in this way, maintain the intermediation function of banks, Eurosystem officials clearly face a difficult – and strange – balancing act.