A Central Bank Digital Currency in the UK: the exploration continues

Central Bank Digital Currencies (CBDCs) have received increasing attention in recent times:

  • 7 countries[1] have already deployed CBDC programs;
  • another 17[2] countries are currently conducting pilot programmes; and
  • a further 63 countries[2] are currently considering the use of CBDC programmes.

These 87 countries make up over 90% of global GDP[2].

On 23 November 2021, Andrew Bailey, the Governor of the Bank of England, reaffirmed the Bank’s ambition to create a CBDC in the UK, although he suggested he would prefer to create a regulated CBDC, rather than creating an anonymous form of digital currency.

What are CBDCs?

CBDCs combine the blockchain technology used in crypto-assets with more traditional forms of money, creating an electronic record or digital token of a country’s official currency. This differs from other cryptocurrencies as the currency is still a fiat currency[3] that is backed by the central bank itself.

Why are Central Banks interested in CBDCs?

A Central Bank’s main goal is to protect the stability of the wider financial system, primarily through the use of monetary policy. Central Banks control the money supply by manipulating the distribution of money in order to achieve their macroeconomic objectives. This system relies on the use of intermediaries to pass on the central bank’s monetary policy decisions to consumers.

The growing use of cryptocurrencies removes large amounts of value from the traditional economy, and thus out of the control of Central Banks’ monetary policy reach. Further, cryptocurrencies are highly volatile and could lead to significant losses in value for both retail and institutional investors. Should this volatility continue as the cryptocurrency market grows, it could cause significant problems to the stability of the financial system. Another major concern for Central Banks is the use of cryptocurrencies outside of the traditional money system for illicit activities. Cryptocurrencies can be used to make anonymous, untraceable transactions and have received a lot of negative attention as a result.

The creation of a CBDC would retain the Central Banks’ ability to control the money supply, as the digital currency is simply an extension of the existing fiat currency but it presents an alternative payment mechanism to other cryptocurrencies that keeps value in the traditional money system.

By creating a currency on an open ledger and regulated by a central bank, the need for third parties and intermediaries in the transaction of currency would also be removed, allowing households and businesses to make transactions directly between one another, backed by the issuing central bank. In theory, this increases the transparency in the monetary system, removes third party risk and the associated cost of intermediaries in transactions, and increases the ability of regulators to monitor illegal transactions and activity.

The other side of the coin

Many who support the emergence of crypto assets argue that the involvement of Central Banks in the monetary system is the reason that alternative money forms are required. Despite their nominal independence from government decision-making, Central Banks are ultimately held to account by the government and should act in the public interest. For many, this blurs the lines of independence and results in the centralisation of a large amount of decision-making power that can have huge consequences on households. The limited supply, or known growth rate of money supply in cryptocurrencies, removes the need for a centralised institution to control large amounts of any given currency.

The creation of a CBDC does not address this centralisation problem and leaves Central Banks ultimately responsible for transactions and the monetary policy relating to that currency. The idea of using blockchain ledgers also raises issues surrounding privacy and removes the anonymity of traditional cash transactions.

Another concern is that a strong CBDC issued by a currency backed by a larger economy, such as the Bank of England or the Federal Reserve, could overtake local currency in developing economies, especially in cases where the local currency is not stable in value. The end result would be similar to those countries that have suffered hyperinflation in the past and adopted foreign currency to stabilise their economies. For example, during the height of hyperinflation in Zimbabwe around 2008/09, estimates put month-to-month inflation at nearly 80 billion per cent.

This resulted in Zimbabwe stopping the printing of domestic currency and starting to use foreign currency, eventually transitioning entirely to the American Dollar by the end of 2015. Other recent examples of hyperinflation include Venezuela, Bolivia and Vietnam. In the longer term, this could lead back to the centralisation issue on a much larger scale and raise problems with monetary policy and potential contagion effects from systemic issues in one economy to the global financial system.

The small matter of regulation

As with most financial innovations, there is the question of regulation. The creation of a CBDC would lead to complex regulation and undoubtedly require significant changes for banks who will look to hold it on their books. There could be implications on Capital, Liquidity, Operational capabilities and SMF considerations. Although, as CBDCs could essentially be viewed as cash, the extent and impact of regulatory change are debatable.

Despite the issues raised, Central Banks around the world are committed to the creation of CBDCs, with the digital yuan confirmed and expected to launch in 2022 amongst those in later stages. Therefore, it seems almost certain that the Bank of England will follow suit here and the CBDC task force at the Bank continues to explore how a CBDC could be used in the UK. 


[1] The Bahamas, Antigua and Barbuda, Saint Lucia, Saint Kitts and Nevis, Grenada, Saint Vincent and the Grenadines and most recently Nigeria (launching the e-Naira on October 25, 2021)

[2] Atlantic Council: https://www.atlanticcouncil.org/cbdctracker/ 

[3] A fiat currency is a currency that’s value is not backed by any commodity, like gold, and instead has value due to the trust its users have in its use as a median of exchange.