Fed’s Lael Brainard: CBDC may provide important foundation for US retail payments

Lael Brainard, a member of the Federal Reserve Board of Governors, recently spoke about the Federal Reserve’s approach and thoughts on the blockchain and digital asset industries—in particular, central bank digital currencies (CBDC).

In a presentation at Consensus 2021, titled “Private Money and Central Bank Money as Payments Go Digital: An Update on CBDCs,” Brainard took a close look at the pros and cons of a government-issued digital currency. Her comments indicated that the Federal Reserve is amping up its research and public engagement around CBDC’s, noting that, “The growing role of digital private money, the migration to digital payments, plans for the use of foreign CBDCs in cross-border payments,” while the so-called “concerns about financial exclusion” are driving factors for why the Fed is giving the creation of a central bank digital currency more attention.

The benefits

Brainard’s presentation primarily revolved around the benefits that a CBDC can introduce to society as well as the obstacles that will need to be overcome before we are likely to see a CBDC rolled out.

Brainard mentioned the coronavirus pandemic, how it catalyzed the transition from cash to digital forms of payment, and how a stablecoin in the form of a CBDC could align with this trend and solve some of the problems that we realized society experiences due to the pandemic.

In the United States for instance, many residents received a stimulus check—and while most individuals had those checks direct-deposited into their bank accounts within just a few days, underbanked individuals waited several weeks to receive their stimulus by way of pre-paid debit cards and paper checks—even though they are the individuals who would have benefited the most from receiving their stimulus ASAP.

According to Brainard, “The challenges of getting relief payments to these households highlighted the benefits of delivering payments more quickly, cheaply, and seamlessly through digital means.”

This serves as a prime example of the efficiency and speed that a CBDC could bring to society versus the current payment and transaction methods. With digital currencies like BSV, transaction fees are a fraction of a penny ($0.0033 as of press time), and payments are settled almost instantaneously. A system like this is much cheaper, faster, and more efficient than the current payment methods in place.

“One expected benefit is that a CBDC would reduce or even eliminate operational and financial inefficiencies, or other frictions, in payments, clearing, and settlement. Today, the speed by which consumers and businesses can access the funds following a payment can vary significantly, up to a few days when relying on certain instruments, such as a check, to a few seconds in a real-time payments system,” Brainard said.

“Advances in technology, including the use of distributed ledgers and smart contracts, may have the potential to fundamentally change the way in which payment activities are conducted and the roles of financial intermediaries and infrastructures. The introduction of a CBDC may provide an important foundation for beneficial innovation and competition in retail payments in the United States.”

The obstacles

The problems with current payment methods and the pandemic accelerated the creation of a central bank digital currency. However, the Federal Reserve does have a few concerns about digital assets and believes there are back-end obstacles that need solutions before the government can go full steam ahead with a CBDC.

Brainard mentioned that the Federal Reserve is interested in CBDC and digital assets, but is wary of privately issued digital assets—like Tether—since they do not have to comply with the same regulations that give investors protections, which banks typically have to comply with when holding user funds.

“Although various federal and state laws establish protections for users, nonbank issuers of private money are not regulated to the same extent as banks, the value stored in these systems is not insured directly by the Federal Deposit Insurance Corporation, and consumers may be at risk that the issuer will not be able to honor its liabilities,” Brainard said.

Beyond that, the introduction of a CBDC would affect the global economy, especially if it was used to settle cross-border transactions and for government-to-government commerce. Before a CBDC is launched, these back-end global economic issues that could stem from the creation of a CBDC would need to be worked out.

“Some foreign countries have chosen to develop and, in some cases, deploy their own CBDC. Although each country will decide whether to issue a CBDC based on its unique domestic conditions, the issuance of a CBDC in one jurisdiction, along with its prominent use in cross-border payments, could have significant effects across the globe,” Brainard said.

“The introduction of a CBDC has the potential to have wide-reaching effects, and there are open questions about how CBDC could affect financial stability and monetary policy transmission. Some research indicates that the introduction of a CBDC might raise the risk of a flight out of deposits at weak banks in favor of CBDC holdings at moments of financial stress.”

“Other research indicates that the increase in competition could result in more attractive terms on transactions accounts and an overall increase in banking system deposits. Banks play a critical role in credit intermediation and monetary policy transmission, as well as in payments. Thus, the design of any CBDC would need to include safeguards to protect against disintermediation of banks and to preserve monetary policy transmission more broadly.”

What’s next for the Federal Reserve?

Brainard’s comments from her recent presentation are relatively general statements that give the audience a good idea of the Federal Reserve’s stance on the digital asset industry, the value of blockchain technology, and the benefits of a central bank digital currency.

The Federal Reserve has increased its research and development efforts in these areas because they see that blockchain technologies and digital currencies have the ability to increase efficiency by reducing costs, increasing transaction speeds, and drastically decreasing payment settlement times, but before the Federal Reserve or the United States government move forward and launch a CBDC, there are issues regarding how a CBDC interacts with and affects our domestic and global economies that need to be worked out.

To learn more about central bank digital currencies and some of the design decisions that need to be considered when creating and launching it, read nChain’s CBDC playbook.

See also: CoinGeek Live panel, The Future of Banking, Financial Products & Blockchain