In a recent IMF article, Tobias Adrian and Tommaso Mancini-Griffoli, argue that digital money has the potential to transform the financial sector, and that emerging markets and lower-income countries stand to gain the most from this dramatic shift.
Broad and inexpensive access to digital money and phone-based transactions could open the door to financial services for 1.7 billion people without traditional bank accounts. And countries may become increasing connected, facilitating trade and market integration. The real-world impact is significant.
But with any opportunity comes risk. The passage to this new world could exclude those on the other side of the digital divide. It also opens the door to fragmentation, currency substitution, and loss of policy effectiveness. The transition must be well managed, coordinated and soundly regulated.
First, what is digital money? Digital money is the digital representation of value. The public sector can issue digital money called central bank digital currency – essentially a digital version of that can be stored and transferred using an internet or mobile application. The private sector can also issue digital money. Some forms can be redeemed for cash at a fixed face value. These are fully backed with very safe and liquid assets and are usually referred to as e-money.
Stablecoins can be a form of e-money, but also come in other designs whose value is more volatile. Crypto assets, such as Bitcoin, are issued in their own denominations and are especially volatile – too much to be considered a form of digital money (they are usually considered an investment asset).
Consider a worker in the US. In the near future, an employer could deposit her paycheck in a digital wallet, allowing her to send money to relatives in Uganda or in any other country more cheaply and efficiently. Fees for wiring money often take up to 7 percent of the value of a transaction, and the World Bank estimates that cutting fees to 2 percent could give a $16 billion a year boost to remittances to low-income countries.
This future is not distant. Private sector innovation in emerging markets has already made a mark in the area of mobile money. The M-pesa mobile money transfer service, which started in Kenya, is being replicated in a dozen countries in Africa and Asia. It has brought payments to many without bank accounts – but with a flip phone in their pocket – and has opened the door to other financial services like savings and credit products.
Today, there are a billion registered mobile money accounts across 95 countries, with close to $2 billion transacted through these accounts daily! Sub-Saharan Africa is a leader in mobile money, accounting for almost half of mobile money accounts globally. The widespread use of mobile phones has made this possible.
Digital identities, which many countries have rolled out, are another important innovation. These digital versions of passports allow mobile money providers to onboard customers at low cost while complying with local regulations.
The public sector too is taking steps to provide a digital payment infrastructure in emerging markets. For instance, the Bahamas is the first country in the world with a central bank digital currency, called ‘sand dollar’. This will increase financial inclusion for inhabitants spread out across the country’s 700 islands, where banking services such as cash machines are not always available.
However, many of these potential benefits require careful and farsighted policy support. To start, new infrastructure is essential to allow poorer households in isolated areas to connect to new digital payment services. Global satellite networks are expected to provide widely accessible broadband services, including to lower-income countries, as soon as 2022. But financial inclusion strategy cannot rely on a signal simply falling from the sky!
Therefore, a synchronised infrastructure investment push is needed including to broaden internet access to poorer and remote areas. In fact, when many countries act at the same time, public infrastructure investment can help lift growth domestically and abroad through trade linkages. These investments are necessary to support a viable digital payment strategy.
In many countries, financial inclusion may mean trade-offs when it comes to privacy and competition policy. Digital payment companies are increasingly capturing and monetising consumer data. Without collateral to offer, poorer households and microenterprises can offer their data, but at the cost of their privacy. Regulation will have to strike just the right balance, including to incentivize market entry of new payment companies while limiting their market dominance.
In fact, countries still need to ramp up regulatory and supervisory capacity more generally before innovations hit the market. Regulation and careful supervision are key to anchoring trust in new digital money. However, questions still abound. Payment providers may well be required to fully back coin issuance with safe and liquid assets, but which assets?
Should these be kept in commercial banks or perhaps even in central banks? What backstops might the state be prepared to offer? And what if the digital money is being offered by a foreign firm – how should regulators cooperate across borders? These questions are new and need to be pondered carefully.
Clear legal frameworks are also essential. Central bank-issued digital currencies will likely require adaptation to central bank law and monetary law. And public law must clarify the legal status of privately issued money. Should new arrangements be treated as electronic money, bank deposits, securities, commodities, or something else?
Answers to these questions will have enormous bearing on the development of digital money. For instance, classifying a form of digital money as a security will significantly complicate its exchange, given the complexity of securities regulation…
~ Finance & Development, IMF
Thanks for reading, until next time…
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