Should we really be surprised that the Treasury and Bank of England are exploring whether to launch a state-issued digital pound? Sunak, after all, was the chancellor who first floated the idea of backing a central bank digital currency (CBDC) — already dubbed “Britcoin”. Nor was he alone: 11 countries, including China, Nigeria, The Bahamas and Jamaica, have already launched their own digital currencies, while more than 100 others, representing over 95% of global GDP, are deciding whether to follow suit. In the United States, the Federal Reserve Bank of New York has launched a pilot programme; the European Central Bank hopes to make a decision about the creation of a digital euro this autumn.
One might think that, amid a global cost-of-living crisis, these bodies would have other, more pressing concerns. But central bankers are never ones to miss an opportunity — and in fractious times like these, uncertainty is the most profitable opportunity in the business.
To understand the sudden rush towards digital currencies, let’s begin with the notion of “digital money”: as flashy as this may sound, it’s nothing new. In fact, fiat currencies are already digital and have been for a long time: in the UK, for example, 95% of all the money in circulation is electronic (the ones and zeroes that make up the money in our bank accounts), and 85% of transactions are made electronically. Online-only banks are also becoming increasingly common. CBDCs are therefore clearly not about making money digital — it already is.
Where a CBDC would change things, however, is that the digital money would be created directly by the central bank, as opposed to commercial banks. Indeed, when people hear the words “money creation” or “money printing” they tend to think of central banks and quantitative easing, but most of the digital money held in our bank accounts is actually created by commercial banks. We tend to assume that banks collect deposits from savers and lend them to borrowers. But that is not how today’s system works. In reality, when a bank makes a new loan, it simply taps some numbers into a computer and “creates” brand new money, which it then deposits into the borrower’s account. The bank’s pre-existing deposits are not even touched; the money is effectively created out of thin air. Instead of deposits leading to loans, it actually works the opposite way: it’s the loans that lead to newly created deposits. In other words, the banks lend money that they don’t own, at a rate of interest.
This creates a number of problems. First and foremost, privately created digital money is always accompanied by debt (since the new money is created in the form of loans). Moreover, it means that to a large degree, private banks — not central banks — control the supply of money in the economy. This gives them the power to create a potentially infinite supply of money, especially through the process of securitisation, fuelling massive credit bubbles (which inevitably go bust). It also hands them control over where this money goes, which is usually to those who are already well-off and can therefore provide the necessary collateral.
There are several reasons, then, why the current system of privatised money creation is problematic, and needs to be radically reformed. But central bank digital currencies will not solve the problem, unless they were associated with a move towards a full-reserve banking system, whereby commercial banks could only lend deposits created by the central bank, thus giving the latter full control of the money supply. This, however, is not currently under discussion. As the Bank of England has made clear: “The digital pound would not fundamentally alter the traditional channels of money creation”.
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