CBDC and the operational framework of monetary policy

BISWorkingPapers No1126 CBDCandtheoperationalframeworkofmonetarypolicy byJorgeAbad,GaloNuñoandCarlosThomas MonetaryandEconomicDepartment September2023(revisedMarch2024) JELclassification:E42,E44,E52,G21. Keywords:centralbankdigitalcurrency,interbankmarket,searchandmatchingfrictions,reserves. BISWorkingPapersarewrittenbymembersoftheMonetaryandEconomicDepartmentoftheBankforInternationalSettlements,andfromtimetotimebyothereconomists,andarepublishedbytheBank.Thepapersareonsubjectsoftopicalinterestandaretechnicalincharacter.TheviewsexpressedinthemarethoseoftheirauthorsandnotnecessarilytheviewsoftheBIS. ThispublicationisavailableontheBISwebsite(www.bis.org). ©BankforInternationalSettlements2023.Allrightsreserved.Briefexcerptsmaybereproducedortranslatedprovidedthesourceisstated. ISSN1020-0959(print) ISSN1682-7678(online) CBDCandtheoperationalframeworkofmonetarypolicy∗ JorgeAbad†GaloNuño†,‡CarlosThomas† jorgeabad@bde.esgalo.nuno@bde.escarlos.thomas@bde.es †BancodeEspaña‡BankforInternationalSettlements(BIS),CEMFIandCEPR Firstversion:February2021Thisversion:March2024 Abstract Weanalyzetheimpactofcentralbankdigitalcurrency(CBDC)ontheop-erationalframeworkofmonetarypolicyandthemacroeconomy.WedevelopaNew-Keynesianmodelwithafrictionalinterbankmarket,centralbankdepositandlendingfacilities,andhouseholdpreferencesfordifferentliquidassets,calibratedtotheeuroarea.CBDCadoptionimpliesacontractioninbankdeposits,whichisabsorbedbyafallinreservesand,iflargeenough,increasedrecoursetocen-tralbankcredit.Theresultingchangesintheoperationalframework(from‘floor’to‘corridor’,andthento‘ceiling’)thusmitigatetheimpactofCBDConcredit,investmentandoutput. Keywords:centralbankdigitalcurrency,interbankmarket,monetarypolicyimple-mentation,searchandmatchingfrictions,excessreserves. JELcodes:E42,E44,E52,G21. ∗Correspondingauthor:GaloNuño(galo.nuno@bde.es;Alcalá48,28007Madrid,Spain).Apreviousversionofthispaperwascirculatedunderthetitle“Implicationsofcentralbankdigitalcurrencyfortheoperationalframeworkofmonetarypolicy”.TheviewsexpressedinthismanuscriptarethoseoftheauthorsanddonotnecessarilyrepresenttheviewsoftheBIS,theBancodeEspaña,ortheEurosystem.WewouldliketothankLeaBitter,BenHemingway,PhilipLane,JoëlMarbet,ManuelMuñoz,DirkNiepelt,FrankSmets,JavierSuarez,andAntonvanBoxtel,aswellasconferenceandseminarparticipantsatCEMFIWorkshoponCBDCs,2022CEBRAAnnualMeeting,CUNEF,6thAnnualWorkshopoftheESCBResearchCluster3,BankofEnglandBEARConference,3rdCatalanEconomicSocietyCongress,8thSEMAnnualConference,30thAEFINFinanceForum,EEA-ESEMAnnualCongress,9thResearchWorkshopoftheMPCTaskForceonBankingAnalysisforMonetaryPolicy,ECBConferenceonMoneyMarkets,BankofCanada–SverigesRiksbank2ndConferenceontheEconomicsofCBDCs,andCEPR–ECBConferenceonTheMacroeconomicImplicationsofCBDCsfortheircomments.Allremainingerrorsareours.JorgeAbadgratefullyacknowledgesfinancialsupportfromtheSpanishMinistryofScienceandInnovationgrantPID2020-114108GB-I00. 1Introduction Thepotentialintroductionofacentralbankdigitalcurrency(CBDC)hasgainedincreas-ingattentioninrecentyearsamongpolicymakersandacademics.InMarch2022,USPresidentBiden’sExecutiveOrderonEnsuringResponsibleDevelopmentofDigitalAs-setsplaced“thehighesturgencyonresearchanddevelopmenteffortsintothepotentialdesignanddeploymentoptionsofaUnitedStatesCBDC”.Similarly,inOctober2023theEuropeanCentralBank(ECB)announcedthestartofthepreparationphaseofits‘digitaleuro’project,aimedatlayingfoundationsforapotentialeuro-areaCBDC. WhiletheacademicliteraturehasthoroughlyanalyzedthepotentialimplicationsofCBDCforfinancialstabilityandmonetarypolicytransmission,muchlessattentionhasbeendevotedtoitsimpactonthemonetarypolicyimplementationframeworkandhowthisislikelytoshapethemacroeconomiceffectsofCBDC.1Nowadays,mostcentralbanksinadvancedeconomiesoperatea“floorsystem”inwhichbanks’demandforliquidityissatiatedwithanamplesupplyofcentralbankreserves(“excessreserves”),andinterbankmarketratesareeffectivelycontrolledbytheinterestrateonovernightdepositsatthecentralbank.2TheintroductionofaCBDChasthepotentialtoaffecttheoperationalframeworkofmonetarypolicyandtheconditionsininterbankmarketsifitbringsaboutasufficientlylargedecreaseinexcessreservesduetothereductioninbankdeposits.This,inturn,mayhaveimportantmacroeconomicimplications,bothinthelongrunandinthetransitionalCBDCadoptionphase. ThispaperanalyzestheimplicationsoftheintroductionofCBDCfortheoperationalframeworkofmonetarypolicyandforthemacroeconomyasawhole.Tothisend,weintroduceCBDCinatractableNewKeynesianmodelwithheterogeneousbanks,afric-tionalinterbankmarket,andcentralbankstanding(depositandlending)facilities.Ourmodelfeaturesbanksthatdifferintheinvestmentopportunitiestheyface,whichmoti-vatestheexistenceofaninterbankmarket.Bankswithgoodinvestmentopportunitiesseektoborrowintheinterbankmarketsoastofinancetheirlendingtofirms–whichusethesefundstoinvestinproductivecapital–,whilethosewithbadinvestmentopportuni-tiesseektolendinthesamemarket.Theinterbankmarketischaracterizedbysearchandmatchingfrictions.Everyperiod,lendingandborrowingbanks