Bitcoin and other cryptocurrencies threaten the authority of central banks. Central banks will respond by issuing their own digital currency.
The Federal Reserve System (Fed) controls the nation’s banking system. It uses monetary policy to control the growth of the money supply.
Controlling the money supply drives interest rates up or down.
A surge of money in the economy means lower interest rates and consequently an increase in spending by consumers and more investment by businesses. The downside is inflation.
The high inflation that we are experiencing right now is the hangover from years of low interest partying.
The Fed controls the money supply in three ways:
1. Adjusts the reserve requirements for banks. Reserve requirements are the percentage of deposits that a bank must retain. The lower the reserves, the more money the banks have to loan out.
2. Changes the discount rate (interest rate) that member banks pay when they borrow money. The lower the bank's interest rate, the lower the rate they can offer its customers.
3. Buys and sells treasury securities (bonds). Buying bonds increases the money supply.
If the Fed had a CBDC, it could issue money directly to people.
Some countries are testing their CBDCs - China, Sweden, and Australia.
On January 20, 2022, the Federal Reserve Board published a report on the Fed issuing a CBDC.
The report cites benefits and risks. Some benefits include:
▸ Supports the US dollar’s international role as the world’s reserve currency.
▸ Improves cross-border payments, making it easier to send money to other countries.
▸ Reduces barriers to banking that some lower-income households experience.
The primary risk is that a CBDC could “fundamentally change the structure of the US financial system by altering the roles of private sector banks and the central bank.”