CENTRAL BANK DIGITAL CURRENCIES AND THE BUSINESS MODEL: REVIEW AND ANALYSIS.

• Author: Neuby, Barbara L.

INTRODUCTION

Money is foundational to society: change the currency and you change the nature of the society and culture. Our lives revolve around the effort to gain it, the means to spend it, the purposes of spending, and avenues for investing and saving. Society is built around payment systems: credit, debit, cash, and now, crypto, and ledger-based currencies. Central banks, or the private sector cartel of mega-banks, manage the money supply, set interest rates, lend to the sovereign, and serve the remaining bulk of the private banking network for businesses and individuals (The Federal Reserve, n.d.).

In the United States (U.S.) as in most nations, money is created through a central bank operation in which a sovereign government offers the bank a debt instrument (such as Treasury Bonds or T-Bills) in return for authorization to print an amount of money equal to the value of the debt. This description is greatly simplified but works for the present cause (Federal Reserve, n.d.). The Federal Reserve (affectionately known as "The Fed") is the central bank of the U. S. although it is important to note that it is not a government agency. Nearly all nations operate a central bank in similar fashion. The Fed also operates the Automated Clearing House (ACH) facility that manages checks, credits, and debits daily. A Board of Governors, appointed by the president and confirmed by the senate, serve as the policy-making arm of the Federal Reserve system but, neither congress nor the president controls The Fed (Federal Reserve, n. d.). It is independent from government oversight (Fischer, 2015).

Central banks are part of a larger system that is loosely managed by the Bank for International Settlements (BIS). Founded in 1930 to process German war reparations and located in Basel, Switzerland, the BIS is the policy setting arm of the global financial system, making rules and policies for the world's central banks. This bank of banks is independent of sovereign governments, permits no external review of its authority and duties, nor allows audit of its accounts (Egli & Hirter, 2018).

This study uses the "systems theory" to investigate the impact of implementing the central bank digital currency (CBDC) on the typical business model. As global central banks develop their own electronic currency unit, businesses will be forced to adapt not only to the eunit, but to the system as a whole.

BACKGROUND OF THIS STUDY

The Central Bank Digital Currency Movement

Currently, about ninety central banks are engaged with private financial parties and researchers in creating a new system of digital currency to replace the current system of money and cash (BIS, 2021; Brainard, 2020; 2018). The BIS' Innovation Hub coordinates countries' efforts by offering workshops, seminars, and by maintaining a database of information on country progress. In 2020, the collaborative documented that settlement of tokenized assets in central bank money using distributed ledger technology can work (Carstens, 2021). Figure 1 below shows the growth in sovereign /central bank interest in CBDCs.

The central bank digital currency (CBDC) may not be a cryptocurrency per se but could take one of three forms: (1) an electronic sovereign unit, (2) a crypto unit on a distributed ledger, and (3) a non-sovereign central bank-fashioned unit controlled by that bank. The initial U.S. Federal Reserve currency is planned to parallel the dollar in the near term and to supplant the dollar in the longer term and will be programmable (Federal Reserve Bank of Boston, 2022a; Digital Dollar Foundation, 2020). This study uses a systems theory perspective to assess the impact of a CBDC on business. As the dollar is presently the world's reserve currency, this project has global implications.

The claimed advantages for the CBDC are: (1) faster payments, (2) support innovation for the dollar as the world's reserve currency, (3) improvement in cross-border settlements, (4) a reduction in financial crime, and (5) inclusion of the under-banked population. A digital currency is said to be more resilient than cash or credit, without credit risk or need for deposit insurance, and a good vehicle for distribution of government benefits. Privacy is said to be assured (Federal Reserve, 2022a; Digital Dollar Foundation, 2020). In 2021, the BIS published a set of core principles for a CBDC. Any digital currency must be:

1. Acceptable

2. Available

3. Convertible

4. Convenient

5. Flexible

6. Instant

7. Interoperable

8. Low-Cost

9. Secure

10. Scalable

    Of course, all the above must come with appropriate regulations (BIS, 2021; Soderberg, 2021). Use of cash has declined precipitously since 2016. As of 2021, more than eight trillion dollars are moved digitally each day with seventy-eight percent (78%) settled in real time by the major global banks (Morgan, 2021). Seventy-nine percent (79%) of business surveyed by Salesforce noted they would move to digital payments permanently (Salesforce, 2020). As of 2019, fifty-nine percent (59%) of consumers adopted mobile banking and seventy-five percent (75%) banked online. Half of all consumers adopted at least one online payment method, such as PayPal, Venmo, or Zelle, and three-quarters of consumers paid from a bank account. An average of thirty percent (30%) of retail customers used cash in a typical month and half noted they also made electronic payments to a friend or family member (Foster, Greene, & Stavins, 2020). Major commercial banks like J.P. Morgan and Citibank asserted that creation of a CBDC will prompt the outdated banking industry to update its networks and promote innovation (Morgan, 2021; McLaughlin, 2021).

    The Federal Reserve began research on the CBDC construct after the advent of bitcoin and the financial crisis of 2008-2009 (Price, 2021; DiCamillo, 2019). The Fed is actively planning for other improvements in transactions. Their soon to be FedNow service will connect businesses and individuals in real time payments using the technology available today and will eliminate a daily cache of interbank obligations and credit risks (Buttecali, Proom, & Wong, 2021; Federal Reserve, 2021). In The Fed's January 2022 whitepaper, Money and Payments, the Fed claims not to advocate a CBDC but, in the next forty pages, discusses the fifty-seven reasons why they need to do so (Federal Reserve, 2022a).

    Apparently, The Fed is at least considering launching a CBDC because a full-blown model, Project Hamilton, released the results of its first phase in February of 2022. The Federal Reserve Bank of Boston (2022b) reported that this project is a pilot program and a partnership between the Federal Reserve Bank of Boston and Massachusetts Institute of Technology (MIT). The pilot system claims to be able to run one hundred thousand transactions per second and be resistant to fault and error. From the Hamilton project, a glance at its scope:

    "The transaction processor, run by a trusted operator (such as the central bank), stores cryptographic hashes representing unspent central bank funds. Each hash commits to a public key and value. Wallets issue signed transactions which destroy the funds being spent and create an equivalent amount of new funds owned by the receiver. The transaction processor validates transactions and atomically and durably applies changes to the set of unspent funds. In this version of our work, there are no intermediaries, fees, or identities outside of public keys. However, our design supports adding these roles and other features in the future."

    Aspects of the first phase are worth noting. Although the currency unit will be stored using cryptology, it is not a distributed ledger unit. Transactions will be atomic (instant) through digital wallets, and all transactions will create a history, much like a distributed ledger. There are no intermediaries, meaning that no banks or savings and loans are participants at this stage of experimentation.

    Systems Theory

    Systems theory combines several perspectives on organizational, or systems' change. Norbert Weiner's self-regulating, "cybernetic" unit was capable of steering its own course (Weiner, 1948), while Kurt Lewin's (1947) three step approach included an organization that "unfroze" at one level, moved to a new level, and refroze there before the next stage of change. According to Lewin, change could be planned, and could proceed through distinct steps to the end goal, punctuated each step by an equilibrium. Von Bertalanffy's organic organization added a "living" component to the debate...