Central bank digital currencies: The digital pound

Central bank digital currencies (CBDCs) are an electronic form of money that consumers and businesses hold with their country’s central bank, such as the Bank of England. In March 2023, four CBDCs were operating and 114 other countries were exploring the concept.

The UK Government and the Bank of England have been exploring the idea of introducing a CBDC – a “digital pound”. In February 2023 they announced that although they hadn’t decided to launch a digital pound, they believed it was “likely” that it would be needed in future. So they are consulting on principles and plans for developing it.

What’s different about CBDCs?

Most money is held electronically, but currently only large financial institutions hold deposits with the Bank of England. A CBDC would extend this facility to businesses and consumers.

Deposits held with banks are at some risk because the bank could collapse. Customers are also subject to banks’ commercial policies and charges. A CBDC would overcome this risk.

How do CBDCs differ from cryptocurrencies?

A CBDC would be managed by a central bank and have the same security as cash. It would not be a cryptocurrency. Cryptocurrencies are typically not managed by any central authority and their value can fluctuate. One type of cryptocurrency – the stablecoin – often attempts to manage that problem by backing the ‘currency’ with assets.

What are the benefits and challenges of CBDCs?

In some ways CBDCs respond to the challenges posed by stablecoins. They would aim to promote reliability and stability while allowing more competition and innovation. They could enable allow new entrants to introduce more flexible approaches to payment systems. For instance, making it easier for readers to pay a few pence to read an article than to take out a subscription.

But implementing CBDCs also poses technical and security challenges. It would rely on giving millions of customers access to a country’s central bank. This could create serious risks of, for instance, cyber-attack. The approach also raises concerns about data privacy.

Furthermore, large-scale transfer of deposits from commercial banks to a central bank Such deposits are an important part of banks’ finances – and indeed their reserves. This could have knock-on effects, such as a reduction in the availability of credit.

What plans are there to introduce a digital pound?

The Bank of England says that it has no plans as yet to introduce a digital pound. But as other forms of payment develop and other countries may introduce CBDCs, it argues that it’s essential to have plans in place.

Together with the Treasury, the Bank launched a consultation on its assessment of the potential need for a digital pound and its design ideas in February 2023. It says that there won’t be a decision on introducing a digital pound for several years.