The Digital Dollar's Difficulties

The case for a central bank digital currency has many shortcomings.

Readers of our columns will be familiar with my dislike of cryptocurrencies. (Rants can be found here and here.) Just to reiterate: cryptocurrencies have wildly unstable values, are used extensively for illicit activity, and are easily stolen from virtual wallets. Oh, and the networks they run on take immense amounts of electricity, which enlarges their carbon footprints. Other than that, they are fine.

Another reason I have been down on cryptocurrencies is the possibility that leading central banks would go virtual. A digital pound, euro, yen, or dollar would have a range of natural advantages, including a level of credibility and control that cannot be achieved by private sector alternatives. The International Monetary Fund has come out in favor of the concept, and many nations are moving steadily down this track. But while central bank digital currencies (CBDCs) have a number of benefits, I don’t think that we will see a digital dollar anytime soon.

At the outset, some of you are probably wondering whether a digital dollar is already here. Electronic transactions dominate commerce, to the point where an increasing number of businesses have gone cashless. But your payments at points of sale still have to pass through an interchange process that adds an average of 2% to the cost of transactions in the U.S. The interbank settlement process operates overnight, relying on decades-old protocols designed for checks.

A successful digital currency that operates on a single electronic ledger would reduce those costs and could make settlement instantaneous. Central banks are in an ideal position to provide that digital currency, given their existing role in national payments systems and their responsibility for maintaining financial stability. As monitors and managers of macroeconomic trends, access to the data produced by a CBDC would aid in setting monetary policy.

The electronic ledger that supports a digital dollar would be hosted by the Federal Reserve. Under one CBDC model, individuals could have their own accounts with the Fed, bypassing private institutions. This could expand access to banking services (the FDIC estimates that nearly 6 million Americans do not have a checking or savings account) and reduce the concentrations of deposits held by the biggest banks.