The suggestion that central banks in particular have ‘backed themselves into a corner‘ on monetary policy is often where attention is focused. But there is a great deal more to central banks than just their stance on interest rates and stimulus measures.
Following on from a series of articles I published over the summer, the Bank of England and the Federal Reserve are quietly progressing with plans to radically reform their payment systems, primarily to make them compatible with Fintech providers and lay the foundations for the introduction of central bank digital currency (CBDC).
First let’s look at some recent developments from the Bank of England.
Bank of England
Whilst Mark Carney is the man that analysts and the media pay closest attention to at the bank, it is Victoria Cleland – the BOE’s Executive Director for Banking, Payments and Innovation – that has the most to say right now on the subject of the future of money.
In a speech given on September 24th (Payments: A platform for innovation), Cleland reiterated a key message from the BOE motivated by a Future of Finance report published in June this year: ‘a new economy and new demographics demand a new financial system‘.
Cleland breaks this down into five areas: the enhancement of payment systems for the digital age; endorsing a platform to improve access to finance for small firms; supporting transition to a carbon-neutral economy; developing a regtech (regulatory technology) and data strategy; facilitating businesses use of technology. The latter is a generalised term that when broken down encompasses distributed ledger technology.
The UK’s Real-Time Gross Settlement payment system was earmarked for reform back in January 2016, and is a system which Cleland admits ‘not much business can be done without it, and most consumers are ultimately reliant on it.’ Quite clearly, though, this is not sufficient for the Bank of England. Hence why they are in the process of ‘renewing‘ the service amidst the growth of digital technology.
The pace of this renewal has gathered significant momentum over the past twelve months. In her speech Cleland confirmed that a consultation paper will be published in 2020 that will focus on ‘the appropriate level of access for payment service providers to the bank’s infrastructure and balance sheet.’
As I have made mention of previously, the ‘renewal‘ of RTGS is being undertaken, in Cleland’s own words, through choice rather than necessity. Here she reaffirmed that overhauling RTGS is a ‘challenging but necessary programme.’
Within central banks and global economic institutions, there is a fixation on the need for the ‘financial architecture‘ to be reformed in the face of geopolitical disorder. The architecture they have in mind includes the adoption of technology such as distributed ledger, an essential component in the quest to introduce CBDC’s.
Whilst the BOE’s position is that the renewed RTGS will not be built on DLT, it will nevertheless have the required functionality so that firms using the technology can connect to the service. Cleland was adamant that the next generation of RTGS will be ‘future-proof”, meaning it will be sufficiently advanced so that companies yet to exist will be able to ‘interface‘ with it.
Non-bank payment service providers already hold accounts in the current RTGS. According to Cleland, ‘many more firms are exploring the possibility of joining.’
As for when the new service can be expected to launch, the timetable is beginning to look more clear. The onset of 2022 will see the first phase of technology changes, with 2023 being targeted as the moment when the core RTGS service will be replaced. By 2024, ‘additional functionality will be delivered, to further drive innovation and change.’ 2025 is when the BOE expect to close the programme. If Cleland is to be believed, the bank are ‘on track against our plan.’
Important to appreciate is that the BOE’s work in the field of payment systems is not in isolation. As Cleland points out, ‘close collaboration is a crucial part of how we can collectively transform the payments landscape‘.
Which brings us onto the Federal Reserve.
The Fed’s equivalent to Victoria Cleland is Lael Brainard, who is chair of the Committee on Payments, Clearing, and Settlement as well as being a member of the board of governors.
On August 5th Brainard gave a speech at the Federal Reserve Bank of Kansas about the Fed’s decision to develop a new round the clock real-time payment system called FedNow. I wrote an article about this at the time, but since then the conversation has advanced somewhat.
Two months after the FedNow announcement, Brainard followed up with another speech (‘Digital Currencies, Stablecoins, and the Evolving Payments Landscape‘) at ‘The Future of Money in the Digital Age‘, an event held in Washington D.C. and sponsored by the Peterson Institute for International Economics. Also in attendance was Hyun Song Shin, the head of research at the Bank for International Settlements.
To substantiate the intrigue around digital currencies, Brainard cited Facebook’s planned Libra project as giving ‘urgency to the debate over what form money can take‘, chiefly because of its ‘potential global reach.’ Ten years ago it was Bitcoin that first introduced to the public the concept of digital currency, a fact that Brainard recognised when she said that its ‘emergence created an entirely new payment instrument supported by distributed ledger technology.’
When the initial plans for FedNow were released, Brainard made no specific mention of distributed ledger technology. At the time she said that ‘engagement between the Fed and the industry’ would determine the final make-up of the payment system.
As discussed in August, my position remains that when the final design of FedNow is ratified, it will almost certainty have the ability to interact with systems that operate distributed ledgers. This appears logical when you consider that the Bank of England are moving in this direction. In 2018 they announced that their new RTGS service would enable systems that use DLT to achieve settlement in central bank money.
On DLT, Brainard stated in her speech that the advantages it could offer to central banks include ‘operational resilience, increasing transparency, and simplifying recordkeeping.’ This is one of the reasons why commercial banks are actively incorporating the technology that underpins digital currencies, either by going into partnership with Fintech companies or by issuing their own variants. Hence the rise of what are known as Stablecoins.
Brainard made the point that if consumers came to depend on ‘Stablecoins‘ – which she characterised as being assets that seek to ‘maintain stable value by tying the digital currency to an asset or basket of assets‘, then this could ‘shrink demand for physical cash.’ It is no secret that endeavours now underway at central banks are rooted in attaining the necessary mix of technological advancement and knowledge in order to position the global monetary system to becoming cashless. Which is why introducing digital currency through the likes of Bitcoin and Facebook’s Libra has been of importance to banking elites. They are already gaining large scale public acceptance of cashless technology by marketing digital payments as being more convenient and secure. But in terms of managing to fully ostracising cash as a relic, they are not there yet.
We get a sense through Brainard’s words of how central bank plans for a digital currency future have taken shape. She spoke of how ‘the rapid migration of payments to digital systems prompted interest in the issuance of central bank digital currencies‘, and how the ‘potential for global stablecoin systems has intensified the interest in CBDC’s.’ This is not surprising given that CBDC’s are the long term objective of internationalists.
Even so, a continued narrative has been how access to CBDC’s by consumers would raise ‘profound legal, policy and operational questions.’ Were CBDC’s issued to consumers, Brainard believes it could ‘conceivably require the central bank to keep a running record of all payment data using the digital currency – a stark difference from cash.’ Again, this is part of the plan. The abolition of cash would result in the abolition of anonymity, meaning no citizen could interact with money without being permanently monitored. Monetary surveillance if you will.
Already Brainard is openly asking if the Federal Reserve could acquire the authority to ‘issue currency in digital form and, if necessary, to establish digital wallets for the public.’ China have been the pioneers in the field of digital wallets through Alibaba and WeChat. Now this technology is gearing up to become commonplace in the West at the expense of cash.
But the Fed may not stop there. Due to ‘the operational risks of central bank digital currency,’ Brainard revealed that this could require the Fed to ‘develop the operating capacity to access or manage individual accounts, which could number in the hundreds of millions.’
The greatest deception around the whole topic of digital currency is how under the auspices of central banks it would function within a decentralised structure. The point of FedNow, and the Bank of England’s RTGS renewal, is that payments will continue to go through them. Introducing CBDC’s would further tighten their grip over the financial system. The set up that central bankers favour is of a permissioned blockchain network, as opposed to a permissionless network. The former would require permission to access, whereas the latter theoretically has no such restrictions.
DLT is often lauded as decentralised technology, but should it become part of the next generation of payment systems then it will in part be controlled through regulation. The BOE and the Fed form part of their country’s regulatory authorities.
According to Brainard, U.S regulators are ‘closely examining the specific functions of particular stablecoins and cryptocurrencies more broadly to determine whether and where they fit in the existing regulatory structure and whether additional authorities or guidance is necessary.’
Meanwhile, in ‘supporting payments innovation‘, the Fed are ‘actively investing in our payments infrastructure‘, at a point in time when the central bank ‘potentially enters another phase in the evolution of money and payments.’
We will likely see far-reaching innovation in payments in the coming years, with a plethora of new and emerging options, including stablecoins.
Does this sound like a central bank that is losing control? Just as the technology necessary for digital currencies is progressing to the stage of its imminent introduction, the central banking community is redefining their payment systems to accommodate it. Rather than their power base diminishing, they are instead working hand in hand with private developers to ensure that they remain the arbiters of the global financial system. So far, they are succeeding.