By Neil Johnson Members What a digital pound would look like 3 May 2023 The Government is mulling over introducing a digital currency pegged to the pound. We look at how it would work, and what good, if any, it would do. The Bank of England (BoE) and the Treasury are consulting on a central bank digital currency (CBDC), or digital pound, which, were it approved, may be in place at the tail-end of the decade. To all intents and purposes, a digital pound would be like a physical one in that it would be issued by the BoE and pegged to sterling. It would not be a cryptocurrency or a stablecoin, but a cash alternative that the consultation paper envisages being used for day-to-day online and in-shop payments. Deputy governor of the BoE Jon Cunliffe said “it’s more likely than not” that a digital pound would go ahead; indeed, it already has a nickname – Britcoin. Negotiate the best deal possible Avoid leaving money behind with our Black belt negotiation masterclass. Find out more Why digital currency is being considered For many, it all raises a fundamental question: why? In many ways, it’s a solution to a problem that does not yet exist. The BoE is exploring this as it looks ahead to how the monetary system might develop. There are questions around the data digital currencies would generate. Imagine if Amazon or Facebook, or maybe Chinese-owned Alibaba or TikTok, had their own version of sterling. Would it create walled gardens, fragmenting the currency system? Would it signal the death of cash? And are we doing it just to keep up with the Joneses? To answer the last two questions in order: no, yes; and that’s not necessarily a bad thing. Money evolves and this is likely to be one step in its long history. And while no one is 100% sure of how meaningful a step a CBDC will be in this timeline, no country wants to be left behind. Indeed, the UK isn’t alone in its CBDC curiosity. The EU, the US and China are all looking into it, while a few countries have already launched a CBDC – including The Bahamas, the Eastern Caribbean, Nigeria, Jamaica and India. “There is a tendency to think of CBDCs purely in terms of what they can do for payment infrastructure, but we should really be looking at it because all these other countries are. What will they be able to do with their digital native CBDC in five or 10 years’ time that we won’t be able to do because we thought our payment systems were fine?” asks Jannah Patchay, policy lead at the Digital Pound Foundation. Consumer power Nevertheless, it remains a tough sell to consumers who are increasingly adept at managing their financial lives online and without any cash. But there is a scenario in which a CBDC could have clear benefits. In line with the huge decline in the use of cash over the last 20 to 30 years has been the equally huge switch to digital money issued by commercial banks. This has increased the public’s exposure to the credit risk inherent to commercial banking. CBDCs, like good old cash, would be protected from risk by the central bank. This may be tempting. Why not put money in a risk-free CBDC that has all the functionality of a modern bank account, and not in a commercial bank that makes profit from taking risks with your money? But what about the risk to commercial banks if an exodus to CBDCs were to take place? There are two ways to manage such risk, says Patchay: “Making the digital pound non-interest bearing would incentivise commercial banks to offer accounts with higher interest rates, so people hold more of their savings with them. Secondly, through introducing limits on holdings. The BoE is proposing consumer limits of between £10,000 and £20,000, which for most people would cover wages and transactional usage, again encouraging savings to sit with commercial banks.” Access for all The consultation paper also mentions greater financial inclusion, with the needs of vulnerable people being considered in the design process, ensuring it would be simple to use, understand and trust. Joe David, founder and group CEO at Nephos Group, says: “It could open up financial inclusion for those who currently cannot get banked and also provide financial institutions with access to data that can allow them to open up loans or other financial products that may have previously been unavailable. Also, Government payments to individuals such as child benefits or even payments like the Covid-19 support could be much quicker and cheaper.” Wholesale, tax and policy Jon Wedge, a partner at BKL, sees the scope for greater transparency and efficiencies around tax. Wholesale and B2B transactions could be taxed at source, immediately deducted, and paid to HMRC – the same for PAYE. “You could argue this is a good or a bad thing. It may give the Government too much control over what we’re doing, but it could also facilitate correct tax policy enforcement and prevent people breaking rules and laws. I like the fact that, in theory, the technology should allow for the traceability of tax spending; however, should the Government wish to give us that transparency and level of information is another question.” Wedge also sees a CBDC making sense where institutions are moving large amounts of money or borrowing from each other. “If you can capture all the data live, in theory it would be great for monetary policy setting, because you’d know exactly at any point in time where money’s going, which industries are investing.” Can we trust the technology? The consultation paper calls the infrastructure a “core ledger”, which could be blockchain, or distributed ledger technology (DLT), or neither. “There are definite pros to blockchain and DLT, programmability [in-built rules] being one, also the fact that you can have resilience out of the box by having a simple point of failure. But some CBDC implementations, like China’s, are not on blockchain,” says Patchay. And while blockchain is, in theory, an immutable, single source of the truth, databases can still be prone to corruption and manipulation, says Wedge. “If you look at blockchain in its purest form, say with bitcoin, the ledger is completely open – anyone can get a copy of it. If a CBDC was operating on DLT, you wouldn’t necessarily want everyone in the whole world knowing what’s going in and out of individual accounts.” Privacy and trust For many, privacy and trust are key concerns, especially given a mix of Government and private sector involvement. “My view is that a digital pound is a difficult concept to comprehend when we are living in a society of free speech and movement,” says Nephos’ Joe David. “Any programmable currency would concern me from a privacy perspective, given that, in principle, Government institutions could then monitor or even block payments or activities at will. The current policy paper states that this is not the plan, but opening the door is a risk.” In the case of the digital pound, the BoE would be the issuer and maintain the ledger, but distribution and services would be provided by regulated payment interface providers. “Payment interface providers would provide CBDC services such as client onboarding, client data holding, transaction and account monitoring etc, much in the same way commercial banks work today. In fact, commercial banks would be some of these payment interface providers,” says Patchay. “If you look at that kind of model, the question is, what additional data would a payment interface provider have that a commercial bank doesn’t have today?” Negotiate the best deal possible Avoid leaving money behind with our Black belt negotiation masterclass. Find out more Neil Johnson is a freelance business journalist who contributes regularly to trade publications and member organisations, covering employability, recruitment, business trends and industrial analysis.