Cbdcs, Stablecoins and Crypto-Assets

Category/Catégorie: Non-Sensitive/Non-Délicat

MAY 17 2021

CBDCs, Stablecoins and Crypto-Assets

What are the implications for payments and settlements? James Chapman DEPUTY MANAGING DIRECTOR, BANK OF CANADA Category/Catégorie: Non-Sensitive/Non-Délicat

The views expressed here are mine and do not necessarily reflect those of the Bank of Canada Category/Catégorie: Non-Sensitive/Non-Délicat

Crypto-Assets Category/Catégorie: Non-Sensitive/Non-Délicat

Bitcoin the original crypto-asset • Satoshi Nakamoto started the crypto- asset market on 3 January 2009 • Stated goal: “What is needed is an electronic payment system based on cryptographic proof instead of trust” • Too volatile for payments? Category/Catégorie: Non-Sensitive/Non-Délicat cryptoassets

• Bitcoin still the primary crypto-asset • Ethereum (and others) caused a huge increase in interest • Programmability • Smart contracts

• Lots of innovation Category/Catégorie: Non-Sensitive/Non-Délicat

Lots of churn in the crypto-asset space • Lots of entry and exit of crypto-assets • Many assets are coupled with a small handful of exchanges • 75 exchanges closed in 2020 Category/Catégorie: Non-Sensitive/Non-Délicat

The marketplace is stabilizing • ICO boom of 2019 • Shake-out of 2020 of crypto-assets Category/Catégorie: Non-Sensitive/Non-Délicat Implications for payments, settlement, and regulation . G20 MoF & CBG 2018: crypto-assets are not a material risk to financial stability BUT “raise issues with respect to consumer and investor protection, market integrity, tax evasion, money laundering and terrorist financing” . Important regulatory areas around crypto-assets › Operation risk › “Quadriga risk” › AML/KYC/ATF concerns › Ransomware › Market Integrity › Wash trades Category/Catégorie: Non-Sensitive/Non-Délicat

Stablecoins Category/Catégorie: Non-Sensitive/Non-Délicat

What is a stablecoin? . A crypto-asset that aims to maintain a stable value relative to a specified asset, or a pool or basket of assets. › NOTE: still may not be valuable or have a stable value

. Increasingly important in the crypto-asset world. . Acts as the “safe asset” in the crypto-world Category/Catégorie: Non-Sensitive/Non-Délicat

Stablecoins: becoming dominant • Crypto-asset trading is increasingly stablecoin trading • With a stable value one criteria of “money” is attained Category/Catégorie: Non-Sensitive/Non-Délicat

Different types of stablecoins . Algorithm-Based Stablecoins › A smart contract based stablecoin › Algorithm issues the coin if it’s price is above the peg › Algorithm buys coin on the market for some asset (typically a “bond”) › Small segment prone to a doom loop . Asset-Backed Stablecoins › Fiat-backed stablecoins › Tether (BTC blockchain based) and USDC (Ethereum blockchain based) › Backed by real-world financial assets › Crypto-backed stablecoins › Backed by some other crypto-asset › Dai is a prime example › Automated and transparent Category/Catégorie: Non-Sensitive/Non-Délicat Implications of stablecoins for payments and settlement and oversight . Stablecoins have similar implications as other crypto- assets › Operational risks › AML/KYC/ATF › Market integrity . In addition › Legal basis (who owns the collateral?) › Governance (how is the peg defended?) . If the stablecoin is a global stablecoin then also › Financial stability implications › Monetary policy implications Category/Catégorie: Non-Sensitive/Non-Délicat

Central Bank Digital Currencies Category/Catégorie: Non-Sensitive/Non-Délicat

What is a central bank digital currency (CBDC)?

. A widely-accessible (e.g. retail) direct liability of the central bank in digital form 1. Widely-accessible (vs. reserves) 2. Direct liability (vs. bank deposits or PayPal balances, etc.) 3. Digital form (vs. cash)

Bech & Garratt (2017) Category/Catégorie: Non-Sensitive/Non-Délicat

BoC motivations to explore issuing a CBDC

1. Cash at the point of sale is in decline › Risk of not being useful for a wide range of transactions › COVID-19 likely accelerated this trend

› ↑ market power of incumbents 33% 15%

Source: Henry et al. 2019 2. Threat of alternative digital currencies (Bitcoin, Diem, eCNY) – Loss of monetary sovereignty and/or loss of seigniorage – Privacy concerns Category/Catégorie: Non-Sensitive/Non-Délicat

More proactive motivations have been gaining ground…

. Financial inclusion, seen as ≈ to universal access › Canada has many remote communities with little connectivity › Marginalized communities

. Spur innovation of financial services (e.g. IoT, programmability) › Is a CBDC necessary for smart contracts or are stablecoins good enough? Category/Catégorie: Non-Sensitive/Non-Délicat

More proactive motivations have been gaining ground… (ctd)

. Promote the digital economy and/or enhance competition › Economic activity is rapidly moving online › Lack of public payment option could increase market power of incumbents

. Provide privacy in payments › Big Tech entry to payments could intensify privacy problems › Externalities in use of data analytics Category/Catégorie: Non-Sensitive/Non-Délicat

Alternative policies . For each motivation, impediments and alternative policies should be discussed. Examples: › Financial inclusion › Open up the wholesale payments system to new FinTechs › Develop new Fast Payments Systems › Programmability › Help coordinate standards › Apply PFMIs to the new crypto world Category/Catégorie: Non-Sensitive/Non-Délicat

How should central banks approach the issuance of CBDC? Central Banks and BIS Report on CBDC . Principles › Do no harm: do not endanger monetary and financial stability › Ensure coexistence and complementarity of public/private money › Promote innovation and efficiency . Features › Instrument: convertible, accepted, convenient, low cost › System: secure, resilient, › Institutional: compliance with applicable rules Category/Catégorie: Non-Sensitive/Non-Délicat

Potential implications of a CBDC for banks and card networks

. As a safe store of value and efficient means of payment, CBDC would compete with bank deposits and card networks

› CBDC could force banks to increase deposit rates, increase fees, take more risk › CBDC could force card networks to increase/decrease fees, block interoperability Category/Catégorie: Non-Sensitive/Non-Délicat

Banks, competition and financial stability Banks/networks have market power in deposit and payment markets . Desintermediation does matter › How to balance the stability provided by current funding structure with issues of competition? › Uncertain/complicated effects in lending and payment markets . Cooperation of incumbents (for interoperability) will matter to achieve adoption › How to incentivize participation of incumbents? Category/Catégorie: Non-Sensitive/Non-Délicat

Thank you!