The payment system in the United States is efficient and coupled with deposit insurance provided by the extremely secure Federal Insurance Deposit Corporation. Nevertheless, our payment system is facing challenges. According to the Federal Reserve, more than seven million, or 5% of households, are still unbanked. Nearly 20% have bank accounts, but still rely on more expensive financial services such as money orders, check cashing services and payday loans.
Reasons for being unbanked vary, for some it is not enough funds to meet minimum deposit requirements or high fees, for others it is distrust of the system banking or privacy issues. For whatever reason, a quarter of Americans do not benefit from our current payment system. For these and other reasons, the Fed is considering creating a digital currency that would be publicly available.
One of the functions of the Federal Reserve is to provide a payment and settlement system for the banking community and the US government. In the United States we have three forms of money, central bank money (money issued by the Fed), commercial bank money (checking accounts at financial institutions) and, to a much lesser extent, non-bank money (for example, PayPal and Apple Pay). What we don’t have is a federally issued, publicly available digital currency. A digital currency is a means of payment that exists only in electronic form. Digital currencies enable instant transactions and international transactions. Digital currencies could come with restrictions, unlike physical currencies which do not.
Currently, only commercial banks and certain other entities such as foreign central banks have a digital currency account with the Fed. By law, the public is not allowed to have accounts at the Fed, but there is a growing sense that the time may be right to start offering digital currency to the public. China has been offering its citizens a digital currency since 2014. In early January, two small private Chinese banks announced that they would no longer provide services involving banknotes or coins, the latest sign that China is accelerating its march towards a completely cashless society.
Creating a publicly available digital currency would be a risk-free account from which consumers could make purchases, pay bills, with the government using the digital currency to collect taxes or pay benefits directly to families. Digital accounts could have no minimum balance requirements, no fee structure and no credit or liquidity risk, a digital currency would be the safest form of money possible.
A digital currency could also be used to provide assistance in times of economic need. Pandemic stimulus checks were quickly distributed to families who had filed their taxes electronically, for others there were significant delays. But other social programs that worked through third parties, such as commercial banks or state governments, had serious distribution problems. Pandemic unemployment assistance, the emergency rental assistance program and the PPP loan program have all failed to reach large numbers of unemployed workers, renters and small business employees, issues that would not have existed if government agencies could make deposits directly with individuals. digital accounts.
While a digital currency would benefit consumers, there are serious policy issues and risks that need to be assessed. A digital currency would radically change the structure of the US financial system. Banks rely on customer deposits to fund consumer and business loans. A massive shift of deposits from commercial banks to digital accounts could disrupt lending activity.
If a digital account bears interest, it could drain funds from lower-risk assets such as money market mutual fund stocks and treasury bills, again reducing credit availability and increasing borrowing costs for businesses and governments. These problems could be alleviated if the Fed paid no interest on digital accounts or limited the size of digital accounts.
A final issue for those advocating a digital currency is where to host the accounts, by law they cannot reside at a Federal Reserve Bank. They could reside in commercial banks, but that brings us back to the issue of public trust. One suggestion that has been put forward is to allow the Post to engage in postal banking, the original proposal was to allow the Post to offer savings accounts but allowing them to offer digital accounts could be a workable solution.
The bottom line here is that the world is going digital. China is making a big push to go digital and have the e-yuan replace the dollar as the world’s reserve currency. This threat along with the benefits for low-income families should prompt us to quickly and seriously consider issuing a digital currency.
Gary Latanich, Ph.D., is professor emeritus of economics at Arkansas State University. He can be contacted by email at [email protected]