New money: Central banks lay out operating manual for digital cash

LONDON - A group of central banks sketched out a potential operating manual for digital cash on Thursday as they aim to strike a balance between keeping up with cryptocurrencies and concerns that the new technology could upend commercial lenders.

Worried that the explosion of bitcoin and its ilk could weaken their control of money, policymakers from Beijing to Washington are exploring central bank digital currencies, known as CBDCs.

And while a widely-used digital dollar or euro may still be years away, work by central banks is gathering pace as consumers increasingly ditch coins and notes in favor of digital payments on debit or credit cards and mobile phones.

The seven central banks - including those in the United States, Britain and the ECB in the euro zone, but not China - said publicly-used "retail" CBDC must harness both public and private players to mesh with existing payment systems.

The tech should be useable with existing domestic payments systems, with strategies for adoption tailored to on-the-ground economic conditions, said the central banks, working alongside the Bank for International Settlements.

The existing financial system must be given time to adjust to the introduction of CBDC, they said, flagging risks of what could amount to slow-motion bank runs if commercial bank customers suddenly shifted savings to the new tech.

"Regardless of the design, developing and running a CBDC system would be a major undertaking for a central bank," they said, stressing the involvement of private operators must be closely monitored to ensure public trust in the tech.

STABILITY RISKS

Unlike cryptocurrencies like bitcoin that are usually run by private actors, CBDCs would be equivalent to cash, issued and backed by central banks. They differ from the electronic money used in billions of transactions daily that is mostly funnelled via commercial banks.

The People's Bank of China is the most advanced among major economies on CBDCs, and is planning its biggest digital yuan trial at the 2022 Beijing Winter Olympics.

Meanwhile, the US Federal Reserve will "soon" release research examining the costs and benefits of a CBDC, Fed Chair Jerome Powell said last week.

Commercial banks, fretting that a retail-focused CBDC could cannibalize their deposit bases, are trying to exert influence on their design.

The central banks sought to downplay the threat of retail-focused CBDC to lenders' business models.

"Our analysis suggests the impacts on bank disintermediation and lending could be manageable for the banking sector," they said, with any impact likely limited in "plausible" levels of adoption.

-reuters-

Keep calm and carry on with rate hikes, central banks urged

LONDON - The recent volatility in global financial markets should not deter top central banks from lifting interest rates or ending years of unprecedented stimulus, the Bank for International Settlements said on Sunday.

The latest report from the Switzerland-based group said that after such a long period of calm there were bound to be more market wobbles and that trade war worries were making the "delicate task" of trying to normalize policy more complicated.

Nevertheless, the move toward higher interest rates, which started in the United States and is gradually gaining traction elsewhere, should continue.

"Treading the path (of policy normalisation) will call for a great deal of skill, judgment and, yes, also a measure of good fortune," said Claudio Borio, the head of the BIS' monetary and economic department.

"But policymakers need not fear volatility as such. Along the normalisation path, some volatility can be their friend."

The BIS is an umbrella group for the world's central banks so its reports are seen as an indicator of the thinking that goes on behind the closed doors of its quarterly meetings.

It dissected the recent market correction which wiped trillions of dollars off the value of global stocks. It put it down to strong US growth and wage inflation data which triggered anxiety about faster interest rate rises.

It added that the rout also showed how much risk investors and traders had taken on in the run-up to the sell-off.

"The market wobble may well not be the last. Financial markets and the global economy are sailing in uncharted waters," Borio said, referring to coming out of years of near-constant stimulus and record-low interest rates.

BIS staff also looked at the role volatility-focused Exchange Traded Funds, which buy and sell things such as VIX US stock volatility futures, played in last month's turbulence which saw world equities shed 10 percent.

They found some market participants began 'bidding up' VIX futures prices as a certain point in the afternoon in anticipation of a usual end-of-day asset 'rebalancing' by these types of exchange-traded products (ETP).

"Due to the mechanical nature of the rebalancing, a higher VIX futures price necessitated even greater VIX futures purchases by the ETPs, creating a feedback loop," the report said.

There was a separate section of the report too which showed the rapid growth of 'passive funds' like ETFs that invest in assets tracking the return of a benchmark or an index.

These type of funds now constitute 20 percent of investment fund assets and 43 percent of US equity fund assets it found. Exchange-traded funds are 40 percent of passive fund assets.

A concern is that a further rapid growth in these funds could change how markets react in times of stress, with the potential for more correlated and therefore dramatic moves if they shift on common factors rather than asset-specific ones.

NARROW PATH

The report pointed out, however, that the recent market turbulence had not altered the broader economic and financial picture.

"Financial conditions remain unusually accommodative," it said. "Credit markets have hardly budged: credit spreads have continued to tighten to multi-decade lows"

"What’s more, in the background, the US dollar, after a persistent depreciation, has continued to stay weak – a tell-tale sign of easing financial conditions, especially for emerging market economies."

Researchers also looked at whether combining household debt and international credit with aggregate credit would create better early warning indicator of banking crises.

Central bankers failed to spot the 2007-09 global meltdown in banking and have since looked at ways to spot future crises earlier and take preventive action.

Combining indicators with movements in property prices improves the performance of indicators and, when applied to economies today, they point to the build-up of risks in a number of countries, the BIS review said.

The study looked at the credit-to-GDP gap, the debt service ratio, household debt service ratio, and cross-border claims to GDP.

Australia flashed amber in three of the four areas, while Canada flashed red in two and amber in the other two. China and Russia flashed red in two areas.

Hyun Song Shin, the BIS' head of research, cautioned however that tougher bank capital rules introduced since the crisis should be taken into account, and that amber or red warnings were only a starting point for a closer look at vulnerabilities.

"The path (to policy normalisation) is a narrow one. And it requires the active support of other policies. The most recent protectionist rhetoric complicates matters further," Borio also said.

source: news.abs-cbn.com