A metaphor for the future monetary system
The metaphor for the future monetary system is a tree whose solid trunk is the
central bank (Graph 7). As well as exemplifying the solid support provided by
central bank money, the tree metaphor expresses the principle of the monetary
system being rooted (figuratively speaking) in payment finality through ultimate
settlement on the central bank’s balance sheet.
The monetary system based on central bank money supports a diverse and
multi-layered vibrant ecosystem of participants and functions in which competing
private sector PSPs can give full play to their creativity and ingenuity to serve users
better. Underlying these benefits is the virtuous circle set off by network effects
arising from the data architecture, consisting of digital identity and APIs, that
enables interoperability both domestically and across borders.
A metaphor: central bank as tree trunk supporting a diverse ecosystem Graph 7
API = application programming interface; PSP = payment service provider.
Source: BIS.
BIS Annual Economic Report 2022 93
Zooming out, the global monetary system can then be compared with a forest,
whose canopy facilitates cross-border and cross-currency activity (Graph 8). In the
canopy, infrastructures such as multi-CBDC platforms serve as important new
elements of the system, as discussed in detail below. The functionality of new
platforms in the canopy is ultimately rooted in the domestic settlement layers
underneath.
Innovation is not only about the latest fashion or buzzword. Just as a tree
cannot sustain a vibrant ecosystem without a solid trunk, getting the basics right is
a prerequisite for private innovation that serves the public interest. Ongoing work
at central banks is showcasing how public infrastructures can improve the payment
system, taking advantage of many of the supposed benefits of crypto without the
drawbacks. Wholesale and retail CBDCs, FPS and further reforms in open banking
show how central banks can support interoperability and data governance. In
fulfilling their public interest mandates, central banks are not working alone but
collaborating closely with other public authorities and innovators in the private
sector. The following subsections fill in the details of how the system functions,
together with concrete examples of the functionalities.
Wholesale CBDCs and tokenised money
A CBDC is a digital payment instrument, denominated in the national unit of
account, which is a direct liability of the central bank.28 Much attention has recently
focused on retail CBDCs that are accessible by households and businesses (discussed
below). Yet wholesale CBDCs also offer new functions for payment and settlement,
and to a much wider range of intermediaries than domestic commercial banks. They
could unlock significant private sector innovation across a range of financial services.
Wholesale CBDCs can allow intermediaries to access new capabilities that are
not provided by the reserves held by commercial banks with the central bank.
These are particularly relevant in permissioned DLT networks, where a decentralised
See technical annex for details.
Sources: Aramonte et al (2021); Auer et al (2022b); Bloomberg; Coinbase.
A strong canopy supports the global monetary (eco)system Graph 8
API = application programming interface; CBDC = central bank digital currency; PSP = payment service provider.
Source: BIS.
94 BIS Annual Economic Report 2022
network of trusted participants accesses a shared ledger. As discussed below,
decentralised governance is a useful feature of multi-CBDC systems involving
multiple central banks and currencies. Yet the functions could in principle be
offered in more centralised payment systems. Key are self-executing smart contracts
that let participants make their transactions programmable. Transactions thus settle
only when certain pre-specified conditions are met. In security trading, such
automation can allow payment vs payment (PvP) and delivery vs payment (DvP)
mechanisms, meaning that payments and delivery of a security are made only all
together or not at all. Such atomic settlement can significantly speed up settlement
and mitigate counterparty risk.29
One benefit of wholesale CBDCs is that they could be available to a much
wider range of intermediaries than just domestic commercial banks. Allowing nonbank PSPs to transact in CBDC could make for much greater competition and
vibrancy
. New protocols built on wholesale CBDCs could be open source, making
the source code freely available for a community of developers to develop and
scrutinise. This feature would allow for libraries of protocols that can be used to
combine functions, thus facilitating the composability of different functions and
enabling new services to be built on top of the programmability function of CBDCs.
By construction, wholesale CBDCs would allow for finality in payments. The
mechanics of how finality is attained in permissioned DLT platforms are described
in more detail in Box C, but their essence can be explained through the simple
analogy with a physical banknote. The recipient of a physical banknote wants to be
assured that the note is genuine, not counterfeit. Ensuring that payment is in
genuine money in a digital system is accomplished by proving the origin or
“provenance” of the money transferred. Crypto proves its provenance by publicly
posting the full history of all transactions by everyone. When real names are used,
such public posting would violate privacy and would be unsuitable as a payment
system. This is where cryptographic techniques such as zero-knowledge proofs
(ZKPs) provide a solution. As the name signifies, “proof” denotes that a statement is
true, and “zero-knowledge” means that no additional information is exposed
beyond the validity of the assertion. Cryptographic techniques allow the payer to
prove that the money was obtained from valid past transactions without having to
post the full history of all transactions. Depending on the detailed implementation,
a “notary” may be needed to prevent the same digital token being spent twice; in
many cases, the central bank can play this role. The common theme is that
decentralisation can be achieved without the structural flaws of crypto.
As issuers of the settlement currency, central banks can support the tokenisation
of regulated financial instruments such as retail deposits.30 Tokenised deposits are a
digital representation of commercial bank deposits on a DLT platform.
They would
represent a claim on the depositor’s commercial bank, just as a regular deposit
does, and be convertible into central bank money (either cash or retail CBDC) at
par value. Depositors would be able to convert their deposits into and out of
tokens, and to exchange them for goods, services or other assets. Tokenised
deposits would also be protected by deposit insurance but, unlike traditional
deposits, they would also be programmable and “always on” (24/7), thus lending
themselves to broader uses in retail payments – eg in autonomous ecosystems. This
way, they could facilitate tokenisation of other financial assets, such as stocks or
bonds. This functionality could allow for fractional ownership of assets and for the
ability to exchange these on a 24/7 basis. Crucially, this could be done in a regulated
system, with settlements in wholesale CBDC.
One possible system with tokenised deposits could feature a permissioned DLT
platform. This platform records all transactions in tokens issued by the participating
institutions, eg commercial banks (representing deposits), non-bank PSPs
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