Credit Manager Magazine 6/2021

50 CREDIT MANAGER MAGAZINE czerwiec / june 2021 MACROECONOMICS widely used in payments, it is difficult to un- equivocally point to benefits from the poten- tial introduction of a CBDC. Some commentators point out that an ad- ditional argument in favour of introducing a CBDC could be the potentially higher ef- fectiveness of the central bank’s interest rate transmission mechanism to the economy. Should a CBDC be introduced on a large scale, the central bank would be able to di- rectly influence the interest rate on the funds of entities holding the CBDC. Yet, while this argument is in principle true, it seems also irrelevant, primarily due to the fact that the current monetary policy transmission mech- anism works efficiently. A change in the cen- tral bank interest rate is promptly transmit- ted to the interest rates on deposits and loans in the banking sector. In this context it is often pointed out that the introduction of a CBDC would enable the central banks to curb or eliminate challeng- es resulting from the effective lower bound on nominal interest rates. The problem stems from the fact that central banks are not able to cut interest rates significantly below zero due to the possibility of deposits held in the banking sector being converted to cash (the interest rate on the latter is 0%). However, it should be noted that the elimi- nation the effective lower bound problem would only be possible if cash were to prac- tically disappear. In practice it would proba- bly require a top-down ban on its use. Oth- erwise, the introduction of a CBDC would not remove the floor for the nominal inter- est rates – non-banking entities would still have the possibility of converting deposits or CBDC bearing negative interest rates to cash. The elimination of cash from circulation by order, regardless of the assessment of such an action from the legal perspective, would in itself generate significant risks to the cred- ibility of the domestic currency, potentially even leading a flight from domestic currency and dollarisation. Hence, also in terms of the effectiveness of the monetary policy pursued, it is difficult to point out any advantages of a CBDC. The introduction of a CBDC on a large scale would, however, pose significant threats to the financial system. The introduction of a CBDC might be excepted to urge households and enterprises to convert – at least partly – deposits held at banks into the new form of money. The scale of this conversion would depend on whether the CBDC would bear interest or not, and if so, on what the differ- ence between the interest rate on deposits in the banking sector and the interest rate on the CBDC would be. Yet, regardless of the interest rate level, strong incentives for the conversion could emerge in the case of de- posits exceeding the guaranteed amount (i.e. EUR 100,000 in EU Member States) as well as in the case of strong economic shocks and heightened risk. In such a situation deposit holders could strive to transfer their funds to the safe haven that the central bank’s money constitutes. The outflow of deposits from the banking sector would pose a threat to the stability of the banking sector. Therefore the commercial banks would be forced to seek other sources to finance their lending. A possible solution would involve raising funds through a bond issues. Nevertheless, the reduced share of the deposits – perceived as a stable source of fi- nancing – in the liabilities of the commercial banks could increase the pro-cyclicality of lending. Therefore, the banks’ ability to grant loans would depend on acquiring other, less stable, sources of funding. In particular, in the case of increased risk perception, there would be an escalating outflow of deposits from the banking sector and their conver- sion to the CBDC. As a result, the risk of a procyclical credit-crunch would be higher. Such a situation would be even more likely to take place as the financing in the form of bond issues is more expensive for banks than through deposits. Hence, the costs of lending would also have to rise. Regardless of the unfolding of such an ex- treme scenario, the introduction of a CBDC would pose the risk of an increase in interest rates on loans granted by banks. Banks could be forced to raise interest rates on deposits held by households and companies for which the CBDC would offer a direct alternative. As a result, in order to keep the interest margin unchanged, the interest rates on loans would also have to increase. If the outflow of deposits from the banks failed to be offset by raising funds from the market, it would be necessary for the banks to obtain a loan from the central bank. The col- lateral for such a loan would be commercial banks’ assets, i.e. primarily the loans grant- ed. Therefore, banks’ lending would largely depend on whether the central bank would grant them refinancing, which in practise would need to be secured by the banks’ cred- it portfolios. As a result, credit risk would be transferred to the central bank (in case the risks materializes, it would result in losses for the taxpayer), and this in turn, would create a strong incentive for the government to in- terfere in the lending process. Money is created as a result of lending. Thus, theoretically, there is a choice as to whether we want money to be created through lend- ing by commercial banks or lending by the central bank, and in particular, lending to the government. It is not without reason, how- ever, that in the modern monetary system money is created by the profit-oriented com- mercial institutions, notwithstanding the fact that this may generate systemic risk related to excessive lending and an increase in financial leverage in the economy or a pro-cyclical col- lapse of lending. These risks may be at least partially mitigated by appropriate regulations and macropru- dential policy, as well as by other government and central bank measures. On the other hand, the undoubted advantage of the cur- rent system is the fact that credit decisions are decentralised and subject to very strong behavioural incentives that are in principle conducive to a high quality of loan portfoli- os. While it is true that banks’ management boards are motivated to develop lending rapidly, usually their remuneration largely depends on the banks’ financial results and – often – these results are accounted for in the long-term, e.g. by using share options. Nonetheless, the costs of credit risk can have a very strong adverse impact on the financial results. The bank may earn commission and “The introduction of a CBDC on a large scale would, however, pose significant threats to the financial system. The introduction of a CBDC might be excepted to urge households and enterprises to convert – at least partly – deposits held at banks into the new form of money.” “In this context it is also worth paying attention to two central banks that are currently carrying out CBDC pilot tests: the People’s Bank of China and the Sveriges Riksbank.”