CBDC Needs a Plan B in Global Crises and Uncertainties

Posted on Feb 23, 2024 by Antti Heinonen, External Advisor, Bank of Finland

Central bank digital currency (CBDC) is a hot topic currently. Most central banks and their service providers are putting significant time and resources into the theme. And indeed, there are many justified reasons for that, whether it is the preservation of public money, financial inclusion, sovereignty, regeneration of competition, a platform for innovations or a backup system for resilience.[1]

The recent launches of CBDC have already shown that there are two challenging behavioral questions related to its successful rollout: 1) why would citizens start to use digital currencies issued by a central bank if they are satisfied with their current digital payment media issued by the private sector and 2) what is the business case for the banking sector in case a central bank would like to delegate the intermediation of CBDC to banks, as many central banks are doing or considering to do. These challenges are not new, they were also the lessons learnt by the Bank of Finland in the course of its digital currency project in the early 1990s.[2]

The focus of this article is, however, not to elaborate on these two questions, but to consider the relevance of another concern often raised in the context of the development of CBDC, namely the potential bank run scenario. This scenario is one of the justifications for the central bank preference to set limits to the funds that can be loaded onto a CBDC account.

Instead of moving their commercial bank money in a crisis into another digital form, depositors may prefer to have it in cash. This is at least the conclusion of the following three case studies, which show that in a crisis or during a great uncertainty, whatever its reason, the general public prefer cash. Cash is tangible and controlled by the owner, and its use doesn’t require the functioning of other systems.

There is a big question mark as to whether this trust in the physical cash issued by a central bank can be transferred during a crisis to a digital currency issued by a central bank. Therefore, besides developing a CBDC, central banks need a plan B: a well-functioning cash infrastructure.

Banknote Circulation in Global Crises and Uncertainties

The behavior of the general public in a crisis or under severe uncertainty is studied in the following sections, using data from more than 100 currencies. The accompanying charts analyze what happened to the demand for banknotes around three different periods of uncertainty: 1) Y2K, 2) the 2008 global financial crisis and 3) the Covid-19 pandemic in 2020. For consistency, these three case studies are based on data from 105 currencies, from which statistics were available on all three occasions.

When addressing banknote demand globally, the information that is most widely available to the public is the value of banknotes in circulation. Besides “banknotes in circulation,” the only publicly available figure in some cases is “cash in circulation.” This figure also includes coins, which are generally just a few percentages of the total cash in circulation, or “currency outside banks.” Currency outside banks excludes the banks´ vault cash, however, its use in the following is very limited and not relevant in the case of currencies, which have had negative or zero interest rates. Therefore, using slightly differing concepts will have only a minor, if any, impact on the results of this study.

The developments are analyzed on the basis of the following charts, the structure of which are all similar. The horizontal axis of the charts depicts the annual growth rates of banknotes in circulation divided in brackets ranging from the smallest growth rate of less than –10% up to the highest growth rate of more than 25%. Correspondingly, the vertical axis tells how many currencies had the growth rate of the respective bracket during a certain year.

Let us first study the developments around Y2K. At the end of 1999, the global uncertainty was related to the functioning of the bank data systems and their ability to address the new millennium. The concerns of the general public led them to withdraw their bank deposits, which suddenly ...

[1] External advisor, Bank of Finland. I would like to thank Päivi Heikkinen for comments on an earlier draft of the article. The views expressed don’t necessarily reflect those of the organizations I’m advising.

Read more in the CBPN Members' Library with your annual subscription.

No part of Central Bank Payments News may be reproduced, copied, republished, or distributed in any form or by any means, in whole or in part, without the express and prior written permission of the publisher, Currency Research Malta, Ltd.