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The one trillion euro digital currency: How to issue a digital euro without threatening monetary policy transmission and financial stability?

Paolo Fegatelli ()

No 155, BCL working papers from Central Bank of Luxembourg

Abstract: The introduction of a general-purpose central bank digital currency (CBDC) carries the risk of bank disintermediation, potentially jeopardizing financial stability and monetary policy transmission through the bank lending channel. By adapting the theoretical framework of Dutkowsky and VanHoose (2018b, 2020) to the euro area, this study clarifies the conditions under which a digital euro could be introduced on a large scale without leading to bank disintermediation or a credit crunch. First, the central bank would need to set up proper mechanisms to manage the volume and the user cost of CBDC in circulation. Second, since some bank deposits will be converted into CBDC, the central bank should continue to facilitate access to its long-term lending facilities in order to provide banks with an alternative funding source at an equivalent cost. Depending on its design, a digital euro could improve bank profitability by absorbing large amounts of idle (and expensive) excess reserves without penalizing lending. A digital euro could also improve banks’ competitive position relative to non-bank lenders and encourage bank digitalization.

Keywords: Central bank digital currency; cash; central bank; monetary policy; excess reserves; reserve requirements; universal central bank reserves; bank deposits; bank profitability; bank credit; inside money; collateral (search for similar items in EconPapers)
JEL-codes: E41 E42 E51 E52 E58 G21 (search for similar items in EconPapers)
Pages: 62 pages
Date: 2021-08
New Economics Papers: this item is included in nep-cba, nep-cwa, nep-eec, nep-fdg, nep-mac, nep-mon and nep-pay
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