Central Bank Digital Currency and Financial Stability

44 Pages Posted: 8 Feb 2019

See all articles by Young Sik Kim

Young Sik Kim

Seoul National University - School of Economics

Ohik Kwon

Bank of Korea - Economic Research Institute

Date Written: February 8, 2019

Abstract

We examine the implications of central bank digital currency (CBDC) for financial stability using a monetary general equilibrium model in which (i) banks provide liquidity in the form of fiat currency, and (ii) commercial bank deposits compete with the central bank deposits in CBDC account. CBDC is a national currency-denominated, interest-bearing and account-based claim on the central bank. People have access to CBDC via direct deposit at the central bank. Claims on specific agents cannot be traded across locations due to limited communication and hence in the event of relocation an agent needs to withdraw deposits in the form of universally verified paper currency. Claims on interest-bearing CBDC is not subject to limited communication problem in the sense that it is also universally verified across locations as an account-based legal tender. The introduction of deposits in CBDC account essentially decreases supply of private credit by commercial banks, which raises the nominal interest rate and hence lowers a commercial bank's reserve-deposit ratio. This has negative effects on financial stability by increasing the likelihood of bank panic in which commercial banks are short of cash reserves to pay out to depositors. However, once the central bank can lend all the deposits in CBDC account to commercial banks, an increase in the quantity of CBDC which does not require reserve holdings can enhance financial stability by essentially increasing supply of private credit and hence lowering nominal interest rate.

Keywords: Banking, Central bank, Digital currency, Liquidity

JEL Classification: E31, E42, F33

Suggested Citation

Kim, Young Sik and Kwon, Ohik, Central Bank Digital Currency and Financial Stability (February 8, 2019). Bank of Korea WP 2019-6. Available at SSRN: https://ssrn.com/abstract=3330914 or http://dx.doi.org/10.2139/ssrn.3330914

Young Sik Kim (Contact Author)

Seoul National University - School of Economics ( email )

San 56-1, Silim-dong, Kwanak-ku
Seoul 151-742

Ohik Kwon

Bank of Korea - Economic Research Institute ( email )

110, 3-Ga, Namdaemunno, Jung-Gu
Seoul 100-794
Korea, Republic of (South Korea)

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