Countries hoping to issue a central bank backed digital currency (CBDC) should give it a second thought according to a new report published by the Bank of Korea (BoK).
The banking authority proved in it's study that issuing a CBDC could have a drastic consequence on a nation's economy and as such is not recommended for any sovereign government.
Primarily, the BoK report disclosed an area where a CBDC can negatively affect financial stability.
Commercial banks rely on customers deposits to complement its reserves. In the case where a CBDC exists, the public will have direct access to the national currency, thus reducing the need for commercial banks to serve as an intermediary or reservoir.
The study argues that if such a situation were to arise, then commercial “bank panic” will follow because there will be a shortfall in operational cash.
As a response to the shortfall, banks will likely raise interest rates on consumer loans to fill its reserve, which will, in turn, make it difficult for individuals and businesses to secure loans from the banks.
The CBDC Divide
While the recent BoK study has warned against the negative effects of issuing a CBDC, other adopters of the new currency model have their reasons.
The costs of issuing a CBDC is less when compared to what is incurred in printing fiat currency from time to time. Also, it is easier to manage the central bank’s supply if cash in circulation is accessed from a single point on the CBDC blockchain-based system.
The question would now be whether the advantages of issuing a CBDC outweighs its disadvantages both in the short and long term.
Meanwhile, the obscurity around the potentials of a digital national currency has not stopped Iran and the Marshall Islands from pursuing that course in recent times. The Marshall Islands have even gone a step further to announce that it would release physical versions of its central banked backed digital currency (CBDC).
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