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Bank of England Staff Working Paper No C CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD C CO C CO CO CO C CO COD Staff Working Paper No. 605 The macroeconomics of central bank issued digital currencies John Barrdear and Michael Kumhof July 2016 Staff Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. Any views expressed are solely those of the author(s) and so cannot be taken to represent those of the Bank of England or to state Bank of England policy. This paper should therefore not be reported as representing the views of the Bank of England or members of the Monetary Policy Committee, Financial Policy Committee or Prudential Regulation Authority Board. Staff Working Paper No. 605 The macroeconomics of central bank issued digital currencies John Barrdear (1) and Michael Kumhof (2) Abstract We study the macroeconomic consequences of issuing central bank digital currency (CBDC) — a universally accessible and interest-bearing central bank liability, implemented via distributed ledgers, that competes with bank deposits as medium of exchange. In a DSGE model calibrated to match the pre-crisis United States, we find that CBDC issuance of 30% of GDP, against government bonds, could permanently raise GDP by as much as 3%, due to reductions in real interest rates, distortionary taxes, and monetary transaction costs. Countercyclical CBDC price or quantity rules, as a second monetary policy instrument, could substantially improve the central bank’s ability to stabilise the business cycle. Key words: Distributed ledgers, blockchain, banks, financial intermediation, bank lending, money creation, money demand, endogenous money, countercyclical policy. JEL classification: E41, E42, E44, E51, E52, E58, G21. (1) Bank of England. Email: [email protected] (2) Bank of England. Email: [email protected] The views expressed in this paper are those of the authors, and not necessarily those of the Bank of England or its committees. Information on the Bank’s working paper series can be found at www.bankofengland.co.uk/research/Pages/workingpapers/default.aspx Publications Team, Bank of England, Threadneedle Street, London, EC2R 8AH Telephone +44 (0)20 7601 4030 Fax +44 (0)20 7601 3298 email [email protected] © Bank of England 2016 ISSN 1749-9135 (on-line) . Contents I. Introduction .......................................... 3 II. Electronic Money, Digital Currencies, Distributed Ledgers . 4 A.Cryptocurrencies .................................... 6 B. Central-Bank-Issued Digital Currencies . 7 III. TheProsandConsofCBDC................................. 9 A.StructuralIssues..................................... 9 B. Price and Output Stability Issues . 12 C. Financial Stability Issues . 13 IV. TheModel ........................................... 17 A.Banks........................................... 18 1. BankBalanceSheets ............................... 18 2. RiskandRegulation ............................... 19 3. Wholesale Lending Rates and Net Worth . 20 4. Retail Lending Rates and Loans, Deposit Rates and Deposits . 21 5. Bank Net Worth Ownership and Dividends . 22 B.Households........................................ 22 1. OptimizationProblem .............................. 22 2. LendingTechnologies............................... 26 3. TransactionCostTechnologies. 30 C.FinancialInvestors ................................... 33 D.Unions .......................................... 35 E.FiscalPolicy....................................... 36 1. Government Budget Constraint . 36 2. FiscalPolicyRule................................. 37 3. Determination of Individual Fiscal Instruments . 38 F.MonetaryPolicy..................................... 38 1. ThePolicyInterestRate ............................. 39 2. The Second Monetary Policy Instrument under CBDC . 39 G.EquilibriumandMarketClearing . 41 1. IndividualOptimality............................... 41 2. PolicyRules.................................... 41 3. MarketClearing.................................. 41 H.Shocks .......................................... 42 V. Calibration........................................... 42 A.Pre-CBDCEconomy .................................. 43 B. CBDC Parameters - Transition Simulations . 48 C. CBDC Parameters - Business Cycle Simulations . 49 1 Staff Working Paper No. 605 July 2016 VI. Results ............................................. 50 A. Steady State Effects of the Transition to CBDC . 50 B. Quantity Rules or Price Rules for CBDC? . 55 1. CreditCycleShocks ............................... 55 2. DemandShocksandTechnologyShocks . 56 3. Shocks to the Demand for Total Liquidity and for CBDC Liquidity . 56 4. The Role of Substitutability Between CBDC and Bank Deposits . 58 5. The Role of Uncertainty about CBDC Demand . 60 C. Countercyclical CBDC Policy Rules . 60 1. CreditCycleShocks ............................... 60 2. DemandShocksandTechnologyShocks . 62 3. Shocks to the Demand for Total Liquidity . 62 4. The Role of Substitutability between CBDC and Bank Deposits . 62 D. Discretionary Monetary Stimulus Through CBDC . 63 E. Fiscal Policy Interactions with CBDC . 64 VII. Conclusions........................................... 65 References............................................... 67 Tables 1. DirectlyCalibratedParameters. 71 2. Calibrated Steady State Moments and Implied Parameters: Real Variables . 71 3. Calibrated Steady State Moments and Implied Parameters: Financial Variables . 72 4. Calibrated Steady State Moments and Implied Parameters: CBDC Variables . 73 5. Steady State Output Gains of Transition to CBDC . 73 Figures 1. Transition to New Steady State with CBDC at 30 Percent of GDP . 74 2. Quantity versus Price Rules for CBDC - Credit Cyle Shocks . 75 3. Quantity versus Price Rules for CBDC - Higher Demand for Total Liquidity . 76 4. Quantity versus Price Rules for CBDC - Higher Demand for CBDC Liquidity . 77 5. Low EoS versus High EoS - Quantity Rule for CBDC - Credit Cycle Shocks . 78 6. Low EoS - Quantity versus Price Rules - Higher Demand for Total Liquidity . 79 7. Countercyclical CBDC Quantity Rules - Credit Cycle Shocks . 80 8. Countercyclical CBDC Price Rules - Credit Cycle Shocks . 81 9. Countercyclical CBDC Price Rules - Credit Cycle Shocks - Policy Rate Corridor . 82 10. Countercyclical CBDC Price Rules - Lower Investment Demand . 83 11. Countercyclical CBDC Price Rules - Higher Demand for Total Liquidity . 84 12. Countercyclical CBDC Quantity Rules - Higher Demand for Total Liquidity . 85 13. Low EoS - Countercyclical CBDC Price Rules - Higher Demand for Total Liquidity . 86 14. Low EoS - Countercyclical CBDC Quantity Rules - Higher Demand for Total Liquidity 87 15. CBDC-Based Discretionary Stimulus in Response to a Credit Risk Shock . 88 16. Low EoS - CBDC-Based Discretionary Stimulus in Response to a Credit Risk Shock . 89 17. Distortionary Taxes - Countercyclical CBDC Quantity Rules - Credit Cycle Shocks . 90 2 Staff Working Paper No. 605 July 2016 I. Introduction This paper studies the macroeconomic consequences of a central bank granting universal, electronic, 24x7, national-currency-denominated and interest-bearing access to its balance sheet via the issuance, according to well-specified policy rules, of a central bank digital currency (CBDC). To study this issue we use a monetary-financial DSGE model, calibrated to match the United States in the pre-crisis period, that models CBDC as an imperfect substitute for bank deposits in the provision of monetary transaction services, and that models bank deposits as being created through loans or asset purchases as in Jakab and Kumhof (2015). A monetary regime with CBDC has never existed anywhere, a major reason being that the technology to make it feasible and resilient has until now not been available. There is therefore very little historical or empirical material that could help us to understand the costs and benefits of transitioning to such a regime, or to evaluate the different ways in which monetary policy could be conducted under it. We therefore choose the alternative approach of using a theoretical model as a laboratory where we can systematically study these issues. The model we present is detailed rather than stylised, both in order to make the exercise credible for policymakers and in order to avoid prejudging what are the most important economic mechanisms to determine the effectiveness of CBDC. Nevertheless, the modifications needed to introduce CBDC into this model are kept to a minimum in order to understand the key transmission channels more clearly. We have made considerable progress using this strategy, but much more work needs to be done. As a baseline, we consider a setting in which an initial stock of CBDC equal to 30% of GDP is issued against an equal amount of government debt, and is then, subject to countercyclical variations over the business
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