Central Bank Digital Currencies (CBDC) is a digital currency issued by and a liability of a country’s central bank. To the general public, CBDC is the digital form of physical cash. From the perspective of banks, CBDC can be used to settle interbank payments and transactions, like electronic bank reserves held at the central bank.
What are the considerations when designing CBDC?
• Token or Account-based
• Interest bearing
• Accessibility – Wholesale or Retail
• Single-tier or Two-tier model
Token or account based
An account-based CBDC model maintains a record of all accounts and corresponding balances, which are each tied to holders with known identities. A token-based CBDC model keeps a record of objects of value (“tokens”), each of which are controlled by holders whose identities could be known or unknown.
Between the two, a token-based model offers greater anonymity, though still less than physical cash because there would still be an electronic trail. The less stringent user-identity requirements, in the case of token-based model, also make it easier to achieve wider accessibility, potentially including foreign entities (e.g. tourists, foreign banks) to own and use.
Interest bearing
Unlike physical cash, there is the option of applying an interest rate to CBDCs. By extension, this gives the central bank the ability to influence monetary policy transmission, including reducing the lower bound on policy rates to below zero.
Accessibility – Wholesale or Retail
Central banks need to decide if usage of CBDCs would be limited to banks and other financial institutions (“Wholesale”) or be made available to the general public, including individuals (“Retail”). Central banks also need to decide if they want to extend usage to non-residents and foreigners (e.g. tourist, foreign banks).
Single-tier or Two-tier model
Central banks need to decide on the level of operational involvement of the private sector.
In a single-tier model, the central bank would be responsible for all tasks, from start to end. In our view, a single-tier model would be challenging for many countries as central banks may lack the capacity or expertise in customer-facing functions such as screening customers, servicing accounts and providing important complementary services such as e-commerce.
A two-tier model is likely to be more common. In a two-tier model, the central bank outsources some of the tasks to commercial banks who essentially functions as payment interface providers. It is likely that central banks would want to control the issuance and redemption of CBDCs.
Distribution, payment services and managing of user accounts/wallets could then be handled by commercial banks. Compared to the single-tier model, the two-tier model entails lower risks of bank disintermediation and allows commercial banks to continue to leverage on their competitive advantages in customer-facing functions.
The following illustration shows the difference between a single-tier and two-tier design model for CBDC.