The case for convenience: how CBDC design choices impact monetary policy pass-through

BISWorkingPapers No1046 Thecaseforconvenience:howCBDCdesignchoicesimpactmonetarypolicypass-through byRodneyGarratt,JiahengYuandHaoxiangZhu MonetaryandEconomicDepartment November2022 JELclassification:E42,G21,G28,L11,L15. Keywords:centralbankdigitalcurrency,interestonreserves,paymentconvenience,depositrates,banklending BISWorkingPapersarewrittenbymembersoftheMonetaryandEconomicDepartmentoftheBankforInternationalSettlements,andfromtimetotimebyothereconomists,andarepublishedbytheBank.Thepapersareonsubjectsoftopicalinterestandaretechnicalincharacter.TheviewsexpressedinthemarethoseoftheirauthorsandnotnecessarilytheviewsoftheBIS. ThispublicationisavailableontheBISwebsite(www.bis.org). ©BankforInternationalSettlements2022.Allrightsreserved.Briefexcerptsmaybereproducedortranslatedprovidedthesourceisstated. ISSN1020-0959(print) ISSN1682-7678(online) TheCaseforConvenience:HowCBDCDesignChoicesImpactMonetaryPolicyPass-Through∗ RodneyGarratt†JiahengYu‡HaoxiangZhu§ Abstract Banksofdifferentsizesresponddifferentlytointerestonreserves(IOR)policy.ForlowIORrates,largebanksarenon-responsivetoIORratechanges,leadingtoweakpass-throughofIORratechangestodepositrates.Inthesecircumstances,acentralbankdigitalcurrency(CBDC)maybeusedtoprovidecompetitivepressuretodriveupdepositratesandimprovemonetarypolicytransmission.Weexploretheimplicationsoftwodesignfeatures:interestrateandconveniencevalue.IncreasingtheCBDCinterestratepastapointwhereitbecomesabindingfloor,increasesdepositratesbutleadstogreaterinequalityofmarketsharesinbothdepositandlendingmarketsandcanreducetheresponsivenessofdepositratestochangesintheIORrate.Incontrast,increasingconvenience,fromsufficientlyhighlevels,increasesdepositrates,causesmarketsharestoconvergeandcanincreasetheresponsivenessofdepositratestochangesintheIORrate. Keywords:centralbankdigitalcurrency,interestonreserves,paymentconvenience,depositrates,banklending JELClassification:E42,G21,G28,L11,L15 ∗TheviewsexpressedarethoseoftheauthorsanddonotnecessarilyreflectthoseoftheBIS.WethankToddKeisterformultiplediscussionsintheearlystagesofthiswork.WealsothankYuAn,DavidAndol- fatto,BenBernanke,DarrellDuffie,ZhiguoHe,MichaelKumhof,JiaqiLi,DebbieLucas,MonikaPiazzesi,AlessandroRebucci,DanielSanches,AntoinetteSchoar,HaraldUhlig,YuZhu,andFengZhu,aswellasseminarparticipantsattheBankofCanada,LuohanAcademy,MITSloan,NovaSBE,MicrostructureOn-lineSeminarsAsiaPacific,theUniversityofHongKong,theCanadianEconomicsAssociation,theJHUCareyFinanceConference,thePhiladelphiaWorkshopontheEconomicsofDigitalCurrencies,theCB&DCOnlineSeminar,BostonUniversity,theFederalReserveBankofNewYork,ShanghaiAdvancedInstituteofFinance,MITComputerScienceandArtificialIntelligenceLab,the2021ECBMoneyMarketConference,AFA2022andtheFuture(s)ofMoneyConference,Paris2022. †BankforInternationalSettlements.Email:rodney.garratt@bis.org ‡MITSloanSchoolofManagement.Email:yujh@mit.edu. §MITSloanSchoolofManagementandNBER.Email:zhuh@mit.edu.HaoxiangZhu’sworkonthispaperwascompletedpriortoDecember10,2021,whenhejoinedtheU.S.SecuritiesandExchangeCommission. “IfallaCBDCdidwastosubstituteforcash–ifitborenointerestandcamewithoutanyoftheextraserviceswegetwithbankaccounts–peoplewouldprobablystillwanttokeepmostoftheirmoneyincommercialbanks.” —BenBroadbent,DeputyGovernoroftheBankofEngland,ina2016speech 1Introduction Acentralbankdigitalcurrency(CBDC)“isadigitalpaymentinstrument,denominatedinthenationalunitofaccount,thatisadirectliabilityofthecentralbank”(BIS,2020).Overthelastfewyears,interestinCBDChasgrowntothepointwhereatpresent90percentofcentralbanksareinvestigatingoptionsforintroducingCBDCs(BIS,2021).AsindicatedinBroadbent’sremarks(intheepigraph),policymakersinitiallycontemplatedaCBDCthatduplicatedfeaturesofcash,withoutaddingdesigncharacteristicsthatwouldmakeitmorelikelytocompetewithmoneyissuedbycommercialbanks–thesocalleddisintermediationproblem.However,morerecentlycentralbankshavetakenabroaderview,andhavebeenmoreopentothepossibilitythatCBDCscanhelpthemtofulfilltheirmandates,eitherinthepresentorthefuture.CentralbanksareincreasinglyviewingCBDCsasawaytoimprovethepaymentsystem,promotefinancialinclusion,enhancemonetarypolicytransmission,andreducesystemicrisk(BIS,2020). ThelikelihoodthataCBDCwillachieveanyofthedesiredcentralbankobjectivesdependsuponitsdesignfeaturesandhowtheyinteract.CBDCscanofferbothpecuniarybenefits,intheformofinterestpayments,andnonpecuniarybenefits.ThesecanincludeahostoffeaturesthatenhancetheperformanceofCBDCasamediumofexchange.Examplesincludethequalityoftheuserinterface,processingspeed,privacyandaccesstomarkets.1 1ApubliclyprovidedCBDCcouldbelessexpensivetouseandmorewidelyaccessiblethanexisting, privatelyofferedpaymentmethods,anditcouldofferaccesstonewplatformsandservices.See,forexample, theBankofEnglanddiscussionpaperonCBDC(BankofEngland,2020)whichdescribesthepotentialforthird-partypaymentinterfaceproviderstoprovideoverlayservicesontopofCBDCbalances.ACBDCcouldalsoprovideprivacy.Policymakershavearguedthatthecentralbankisspeciallypositionedtoprovideprivacyinpayments