ECB Starts Next Digital-Euro Stage With Investigation Phase

A euro currency symbol sits on a digital banking exhibition. (Photographer: Krisztian Bocsi/Bloomberg)

ECB Starts Next Digital-Euro Stage With Investigation Phase

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The European Central Bank took a major step toward a digital euro on Wednesday, approving an “investigation phase” that could ultimately lead to a virtual currency being implemented around the middle of the decade.

The next stage will last 24 months and aims to address key issues on design and distribution, the ECB said in a statement.

It also said the decision “will not prejudge any future decision on the possible issuance of a digital euro, which will come only later. In any event, a digital euro would complement cash, not replace it.” Executive Board member Fabio Panetta said the next phase would be implementation, which would take about three years.

President Christine Lagarde has been enthusiastic about a central bank digital currency, and the ECB has warned that failing to implement one could undermine the bloc’s monetary autonomy as payment providers such as foreign technology giants gain ground.

If the ECB eventually adopts a virtual currency, it’ll likely follow in the footsteps of China, where trials have started in several cities. Eastern Caribbean islands that share a central bank, including Grenada and St. Kitts and Nevis, have already launched their own versions. The U.S. Federal Reserve and Bank of England are looking into the possibilities for their economies.

ECB Starts Next Digital-Euro Stage With Investigation Phase

The likely features of a digital euro are already crystallizing, with research and official remarks portraying a payment system that is fast, easy to use, and secure. Crucially for Lagarde, who has lambasted private crypto-assets, it would also offer an alternative to Bitcoin and its peers.

“It has been nine months since we published our report on a digital euro. In that time, we have carried out further analysis, sought input from citizens and professionals, and conducted some experiments, with encouraging results,” Lagarde said in a statement. “All of this has led us to decide to move up a gear and start the digital euro project.”

Not Quite Cash

The ECB’s website says a digital euro would be “like banknotes but digital.” In reality, a key characteristic of notes and coins -- the ability to make payments that are simultaneously anonymous and offline -- will be challenging to replicate.

Sweden’s Riksbank noted in a report this year that digital currencies will need to be verified by a remote ledger to avoid counterfeiting, compromising anonymity.

The ECB appears to have recognized that, saying in a report last year that “the Eurosystem would be best placed to win the trust of European citizens in an offline payment tool,” and that “anonymity may have to be ruled out.”

It did see room for a “selective” approach to privacy though. The system could allow certain types of transaction to be executed without registering the identity of the payer and payee.

Cleaner and Greener

On Wednesday, the ECB said experiments so far show that a digital euro core infrastructure would be environmentally friendly -- using “negligible” power compared to crypto-assets such as Bitcoin, which Executive Board member Fabio Panetta said consumes more electricity than Greece or Portugal alone.

Bitcoin has attracted heavy criticism for the voracious energy use needed to power the computers that run the complex calculations to maintain its network.

Traditional money also requires resources though -- copper and tin for coins, fossil fuels for transport, electricity for ATMs. A 2018 study by the Dutch central bank showed the energy consumed to enable a typical purchase with notes and coins could light an 8-watt bulb for two hours. For a debit-card transaction, that falls to 90 minutes.

Banking Angst

Commercial banks are fretting about what the innovation would mean for them. One risk scenario is that customers shift their deposits to the perceived safety of the ECB in a crisis -- effectively a digital bank run.

To reduce that risk, Panetta has suggested either a limit of about 3,000 digital euros ($3,550) that can be held by any individual, or deeply negative interest rates above that level to discourage large holdings.

Banks will still have plenty to do though. The ECB doesn’t want to deal directly with hundreds of millions of account holders -- while it would take charge of the technological infrastructure and supervision, it has signaled a preference for having intermediaries provide access to the digital euro.

Blockchain Alternative

Central bank digital currencies are inspired by the rise of crypto-assets, though they don’t have to adopt the same technology. The ECB is concerned that so-called distributed ledger technologies such as a blockchain, which underlies Bitcoin, rely on a decentralized verification process that could compromise oversight.

The central bank already has another system called TARGET Instant Payment Settlement, or TIPS, which it launched in 2018 and which could be more suitable. It could also consider a hybrid system that uses both TIPS and DLT.

Experiments showed that both systems could be scaled up to process the roughly 300 billion retail transactions carried out in the euro area each year, the ECB said Wednesday.

Monetary Policy

The ECB’s web page on the digital euro has little to say on monetary policy, but last year’s report showed that it could be a “powerful tool” and that a role “could materialize in the future.”

It could remove some of the hurdles to cutting interest rates even further below zero to stimulate the economy, as digital euros can’t easily be hoarded.

It would also make helicopter money -- transferring cash directly to consumers to boost consumption -- easier to implement. Lagarde and her predecessor Mario Draghi have labeled that last-resort policy as one for governments rather than central banks to decide.

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