The hype around central banks, digital currencies, and blockchains

Central banks and blockchain

There has been a lot of hype around central banks, interbank payments, blockchains, and central bank digital currencies (CBDCs), but the narrative has become confusing and often misses the point.  What’s going on?  Actually two independent things are being actively explored:

  1. Decentralisation of interbank payment systems
  2. Wider access to digital central bank money (Central Bank Digital Currencies – CBDCs)

I aim to explain them both in this post.

Decentralisation of interbank payment systems

Interbank payment systems, both real time gross settled (RTGS), and deferred net settled (DNS), are centrally run and managed by a central bank or a delegate.  For a primer on these, please see a gentle introduction to interbank payment systems.

These crucial systems are very efficient – they should be, as economies rely on them to run smoothly.  In general they work well, so why on earth would you want to decentralise them?  Why not leave them alone?

Because things can, and do, go wrong.  Centralised systems are also single points of control and potential failure.

Pub quiz: What do the Reserve Bank of Zimbabwe and the Bank of England have in common?  Both have both suffered RTGS failures in the past decade.

In January 2008, Zimbabwe’s RTGS system (with data centres in South Africa!) failed, leaving electronic payments in limbo:

Zimbabwe money concerns shock. Source

More famously in October 2014, the Bank of England CHAPS system failed for a day causing slight chaos: people couldn’t buy houses, large invoices couldn’t be settled.

Alan Greenspan, Chairman of the US Federal Reserve 1987-2006, wrote in his 2007 book The Age of Turbulence:

“We had always thought that if you wanted to cripple the U.S. economy, you would take out the payment systems. Banks would be forced to fall back on inefficient physical transfer of money. Businesses would resort to barter and IOUs; the level of economic activity across the country would drop like a rock.”

I have previously argued that state sponsored cyberattack is also a threat to any centralised system, and the level of sophistication is increasing.

Risk reduction.  So you can understand why central banks are now exploring how banks might pay each other electronically and efficiently without there being a central risk or choke point.  It’s potentially less risky, and if you’re not running the system, it’s definitely less embarrassing if things go wrong.

Projects.  Some projects have been described in public, some haven’t.  Here’s the report I coauthored from Phase 1 of a project named Ubin that the Monetary Authority of Singapore is working on with R3:

Project Ubin.  Full report.

In the following phase of this project, R3’s Corda is one of the DLT platforms being evaluated for this use case. (Note: I work at R3)

In March 2017, Hong Kong’s monetary authority started a research and a proof-of-concept work with R3 and others to explore the potential of Distributed Ledger Technology (DLT).  The interesting thing about Hong Kong is that most banknotes are printed by 3 local banks (HSBC, Bank of China (HK), and Standard Chartered), which provides a different context to many other countries.

Other central banks have also stated an interest in decentralised technology for their RTGS systems.

What’s next?  In the coming months and years we will find out more about the pros and cons of DLT replacing centralised payments systems, in terms of resilience, reduced risks, and any tradeoffs that might exist.

Wider access to digital central bank money

Currently everyone has access to physical central bank money in the form of physical banknotes and coins.  However in most countries, only banks and financial institutions have access to digital central bank money, by having accounts at the central bank for participating of RTGS and DNS systems.

Why is this important?  Surely a pound is a pound and a dollar is a dollar whether it’s physical or in my bank account?  Incorrect.  Central bank money is safer than a deposit at a commercial bank.  A deposit at a bank isn’t even really proper money!  It’s an agreement between a bank and you, where the bank says they will let you make payments from your account (within certain limits) and withdraw physical central bank banknotes from a cash machine (within certain limits) at a 1:1 ratio with your deposit balance, and you agree to let the bank gamble with your money in return for a very, very small amount of interest!

Banks can go bankrupt, but as individuals and businesses, we are forced to use bank deposits if we want to participate in the digital economy.  This is not right: people should not be forced to put their digital assets into something risky.  There should be another way.

I discuss more about the forms of money in a gentle introduction to money.

So – currently access to digital central bank money is limited to those lucky participants of the interbank payments systems.

But what if the central bank allowed wider access?  Maybe big companies, maybe even households?  This is where the concept of a Central Bank Digital Currency (CBDC) comes in, and this is the second item that is being explored by central banks.

What is a CBDC?

In July 2016, in a Bank of England Staff Working Paper entitled “The macroeconomics of central bank issued digital currencies“, John Barrdear and Michael Kumhof describe a Central Bank Digital Currency (CBDC) as:

“A universally accessible and interest-bearing central bank liability, implemented via distributed ledgers, that competes with bank deposits as medium of exchange.”

Let’s break this down:

  • A universally accessible
    • This means that the woman in the street can own this digital asset, just like she can own a physical banknote or coins.
  • and interest-bearing
    • This means that the currency can attract positive and negative interest rates, just by sitting in an account.  This is unlike physical cash, where a £10 banknote remains £10 and doesn’t become a £10.50 or £9.50 banknote at the end of the year. (This is unrelated to price inflation, purchasing power, or the interest someone returns you when you lend them money).
  • central bank liability
    • This means that like a banknote, it’s a direct relationship between you the holder, and the central bank, rather than a relationship between you and a commercial bank, in the case of a current account deposit.
  • implemented via distributed ledgers
    • This is a technology choice: a CBDC can run on a centralised ledger solution or a distributed ledger solution.  The authors decided to define their CBDC thought experiment running on a distributed ledger.
  • that competes with bank deposits as medium of exchange.
    • This helps the readers to understand how this money would be used.  In this case it’s envisaged that it would be used as a payment mechanism, as an alternative to paying with bank deposits – both are digital manifestations of money.

But that’s not the only definition

IMF.  In an International Monetary Fund (IMF) staff discussion note entitled Fintech and Financial Services : Initial Considerations by Dong He et al, they note:

A central bank digital currency (CBDC) would not be a parallel currency, but merely a widely available DLT-based representation of fiat money. The idea is not to introduce a new unit of account, but a new means of payment and store of value. The CBDC would presumably be exchanged at par with the central bank’s other liabilities (cash and reserves), through banks or directly at the central bank, and would not be interest bearing, at least as a starting point.

Note that as opposed to the Bank of England piece, in this case the CBDC would not be interest bearing – making it closer to physical cash.

ECB.  In a speech given in Helsinki on 16 January 2017, Yves Mersch, Member of the Executive Board of the ECB, notes:

This is money that is characterised by two features: (1) like banknotes in circulation, DBM is a claim on the central bank; (2) in contrast to banknotes, it is digital.

[…]  there has been more recent discussion about whether central banks should provide DBM to a wider range of counterparties, allowing non-banks, including households, to hold accounts at the central bank.

PBOC.  An English translation of a People’s Bank of China (PBOC) article discusses a model where commercial banks would hold CBDC on behalf of customers.

So what is common across all CBDCs?

  • It’s a direct liability of the central bank (not of a commercial bank)
  • It’s digital, not physical (but the technical implementations differ, whether it’s a DLT or not)
  • It has wider accessibility than today

So just because a central bank is exploring CBDC it doesn’t necessarily mean it is a cryptocurrency or “token“, and it doesn’t mean that it will be recorded on a blockchain or a distributed ledger, and it doesn’t mean there is mining, and it doesn’t mean that the central bank will cede control over the creation and destruction of the currency.  Even if they are exploring blockchain technology, that certainly doesn’t mean that bitcoin’s price should be affected!

What questions need to be answered?

We are still in exploratory phase for CBDCs, and the economic implications could be significant.  There are many questions that need to be answered, for example:

Accessibility.  How accessible will this be?  Will it be a whitelist of corporates, or any company, or individuals?

Cash-like properties.  How cash-like should it be?  Should accounts be anonymous and permissionless?  Should the ownership history be obfuscated?  Should settlement be instant without a 3rd party able to censor it?

Interest.  Should interest accumulate?  Should the interest rate change?  Who should pay the interest, who should control the interest rate?

Account based?  Should coins/balancces sit in accounts, which need opening by a 3rd party?  With bitcoin and cryptocurrencies where your public key is your account, you don’t go to a third party to open an account, you simply wiggle your mouse, throw some dice, or generate some random numbers, then do some maths, and claim your public key as your account number.

Technology?  Based on the desired properties, what is the most appropriate technology choice for this CBDC?

Pros and Cons.  What are the benefits and tradeoffs for government, central banks, commercial banks, companies, and households?


There is interest in exploring new technology for critical infrastructure, as a risk reduction play, and also interest in exploring letting businesses and households have digital access to real central bank money, which has economic implications.

When reading the breathless announcements about central banks and blockchains, it’s worth taking a critical view and trying to figure out what’s really going on.  A central bank using a modified private fork of Bitcoin or Ethereum’s protocol software doesn’t mean the price of BTC or ETH will go to the moon, nor does it mean that the central bank endorses the public cryptocurrencies.  It does mean, though, that institutions are taking interest in distributed ledger technologies to find out what these new tools can do for their operations.

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1 Response

  1. Rafael says:

    Great post. We are actively researching this topic at Central Bank of Brazil and we have recently published our technical findings so far in applying DLT to create a back-up RTGS. It is available at

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