ECB’s Panetta proposes digital euro with threshold of €3,000 for every citizen

Fabio Panetta, a member of the executive board of the European Central Bank, has warned that if innovations in central bank money are not well designed, they can become a source of financial disruption.

Talk of creating a digital euro has been going on for years ever since Bitcoin gave rise to the digital asset ecosystem, which is currently valued at around $1.3 trillion.

ECB’s Panetta pointed to paper banknotes as an example of innovation, which made commerce more straightforward. “But their success did not come easily. Attempts by central banks to issue banknotes in the 17th century resulted in too many being issued and even defaults, raising questions about their effects on stability and, ultimately, on the credibility of the sovereign. Yet modern banknotes eventually enhanced the benefits of central banking for society at large.”

Regarding today’s debate, “some fear that digitalization, if not properly governed, could crowd out cash over time, create instability and even threaten monetary sovereignty. Central banks are therefore considering whether they should innovate themselves, by offering sovereign money in digital form to the public at large”, said Mr. Panetta. “At the ECB we are considering whether to issue – alongside euro banknotes – a digital euro: a digital form of money that, just like cash and unlike other means of payment, would be a claim on the central bank instead of a claim on a private intermediary.”

Digitalization generates greater efficiency and lower costs, but it may also pose risks for consumers and the financial sector. As tech giants take over financial intermediation, there is a risk of personal information being misused as well as risk of big tech companies threatening competition through tying, bundling, cross-subsidization and winner-takes-all dynamics.

The ECB is concerned with the risk of tech giants crowding out traditional intermediaries and reduce competition in financial markets, limiting consumer choice. As big tech technologies are governed elsewhere, European sovereignty is at stake. Stable coins used by these companies could create systemic risks and endanger monetary sovereignty.

In order to preserve money as a public good, central banks must go digital. The digital euro would increase consumer choice, reduce transaction costs and support the digitalization of the economy, according to Mr. Panetta.

“Our objective would be to make a digital euro interoperable with private payment solutions so that it could be accessed through them. It would thus level the playing field by making it possible for all market participants – bank and non-bank intermediaries and fintechs – to offer, at a lower cost, products that allow people to pay instantly”, he continued.

“A digital euro could also act as a catalyst at the international level. By ensuring interoperability with foreign digital currencies, including other central bank digital currencies (CBDCs), it could create much-needed efficiency gains in cross-border payments.”

A too successful digital euro could, however, affect monetary and financial stability on three fronts: financial intermediation and capital allocation in normal times; second, financial stability in times of crisis; and third, the functioning of the international financial system.

“The concern is that this could lead to less stable and more costly funding, lower bank profitability, and, ultimately, lower lending, constraining the financing of the real economy. I would make two points here”, said Mr. Panetta.

A digital euro may have downsides in times of crisis because, unlike cash and in the absence of design-related constraints, it could be held in large volumes and at no cost. This could accelerate “digital runs” away from commercial banks towards the central bank, leading savers to reduce their bank deposits and amplifying volatility in normal times too.

The CBCD could also become a risk to international shocks because it may lead to foreign investors using it disproportionately, resulting in greater exchange rate fluctuations and a stronger effect on foreign financial conditions. This could force foreign central banks to become more responsive to international spillovers.

“Conversely, these dynamics mean that the absence of a digital euro could make Europe more vulnerable to international developments: widespread adoption of digital currencies by foreign central banks could make the European economy and financial system more sensitive to shocks from abroad”, Mr. Panetta continued.

To maximize the benefits and minimize the risk of becoming a form of investment, ECB’s Panetta stated that limiting the amount of digital euro individual users can hold is an option. Penalizing remuneration on individual users’ digital euro holdings above a certain threshold would be another way to go.

“As a yardstick, a threshold of €3,000 would be more than the amount of cash most citizens hold today and would be above the average monthly wage in most euro area countries. Tiered remuneration could provide a less distorting way to disincentivize large digital euro holdings […] This would stop a digital euro replacing other forms of investment and facilitating currency substitution in countries outside the euro area.”

The central bank will only make a decision about whether or not to issue the CBCD after reviewing all potential design features in the Eurosystem’s report.