Soon and very soon, the Ghanaian hard currency– the cedi will be history as digital currency is slowly and surely gaining momentum. With cash on its way out, many central banks around the world are experimenting with, or in some cases rolling out retail central bank digital currencies. Their time may have come and they have many ad- vantages over cash, but Central Bank Digital Currencies (CBDCs) also pose threats to the very institutions issuing them.
In Ghana, the Bank of Ghana (BoG) is one of the first few African Central Banks which declared its intention to pilot a CBDC within the framework of its financial sector digitization program and the overall digitization agenda of the Government of Ghana.
In the era of the globalization, it is important that domestic CBDCs are designed with the prospects of adaptation for interoperability with CBDCs of other jurisdictions. Efforts to accelerate integration of the economies of African economies, particularly under the African Continental Free Trade Area (AfCFTA) makes this a key consideration in the eCedi design.
The eCedi takes into consideration CBDC standards, making it possible for Ghana to participate in international projects on cross border CBDCs.
“Despite the overwhelming advantages of CBDCs to banking and its future prospects, it seems the banking industry in Ghana are indifferent to the threats posed by the emergence of this digital currency as manifested by lack of clear-cut policies by the Ghanaian banks regarding digital currencies”.
Crucially, digital currency creates competition on the liabilities side of banks’ balance sheets, which affects the assets side due to net worth constraints. Digital currencies de- crease the spreads on bank deposits, thus affecting the ability of banks to rebuild equity following losses and the ex-ante in vestment decisions (e.g., leverage) of banks in good times. The effect on spreads is greatest in crises, precisely when banks are in most need of being able to recapitalize quickly.
As a result, digital currencies can have significant adverse consequences for the frequency and duration of good and bad outcomes. However, according to some analysts, digital currency can significantly harm the stability of the banking sector, as some studies established that times of distress and crisis increase monotonically with the supply of digital currency, and bank valuations decrease substantially.
At the welfare-maximizing level of digital currency, the probability of crises in the benchmark calibration of banks doubled, while output losses in crises on the other hand, increased as bank valuations de- creased. These threats posed by the CBDCs are genuine and pose a great threat to the banking industry.
Meanwhile, private digital payments are working well in many countries, limiting demand for CBDCs. Central banks face the challenge of making the latter viable in retail and peer-to-peer payments but not so successful that they displace private payments altogether. Consequently, the notion of a CBDC as the digital equivalent of cash, bearing a zero-interest rate and with no special features, is giving way to the prospect of programming digital money for specific purposes.
CBDCs Possibilities Exciting
The possibilities the CBDCs are very exciting. As stipulated by the Monetary Authority of Singapore’s recent white paper that described how such Doling out money with expiry dates could incentivise consumption. Government cash transfers in times of heightened uncertainty, such as Covid-19 stimulus payments, often go into savings, reducing their impact. Such money could be targeted even more precisely, say for purchases of durable goods, sharpening the economic potency of transfers.
With cash gone, other options also come into play; imposing negative nominal interest rates to disincentivise saving and boost demand in periods of extreme economic distress. The programmable aspects of money could facilitate contractual arrangements, with funds automatically released only when conditions are met by all contracting parties. Such innovations open up new vistas of how money could improve the functioning of economies and societies. But it is worth reflecting on the darker sides of any new technology.
Cash can be used anonymously and has a stable value (in nominal, not inflation-adjusted terms) relative to an economy’s unit of account, which is usually central bank-issued fiat currency. If units of central bank money with different characteristics were put in circulation, secondary markets for trading them become conceivable. People who prefer to save rather than spend might willingly trade their “programmable” money at a discount.
Money held in CBDC digital wallets may be seen as safer than that in commercial bank deposits. After all, central banks never fail. A flight of money into CBDC wallets could decimate bank deposits and put central banks in the undesirable position of making credit allocation decisions.
These risks can be limited. New cryptographic tools could restrict the use of CBDCs by unverified persons while allowing for privacy in low-value transactions. Capping balances in CBDC digital wallets would reduce the risk of deposit flight from banks. Legislative guardrails could prevent central banks from becoming too closely tied to government operations.
Still, innovations in money do pose subtle risks. Central banks could be viewed as political agents if their visibility into payment trans- actions is used for law enforcement or surveillance purposes. “Helicopter drops” of money by the government into CBDC digital wallets are fiscal operations but in the public mind would become associated with central banks, causing these institutions to be seen as instruments of fiscal policy. In times of financial panic, caps on CBDC digital wallet balances could prove difficult to sustain, causing central banks to displace commercial ones as the main repository of an economy’s savings.
What’s worse, authoritarian or even ostensibly benevolent governments could consider central bank’s money as a means to achieve their social objectives. They could prohibit its use for purchases of ammunition, illegal drugs, pornography, or for services such as abortions.
Central banks already face threats to their in- dependence, credibility and legitimacy. The more extensive the functionality of the money they issue, the greater the political pressures they will be exposed to. At a minimum, such innovations pose risks to the integrity of central bank money.
It would be a sad irony if digitising central bank money to maintain its relevance undermines the very features that make it trustworthy.
While they have little choice, central banks may well come to rue the day they embarked on upgrading their retail money.
Ghana’s Journey to eCedi, The Delay
With some countries in the sub region expediting processes to roll out their CBDCs, spearheading their currency market, Ghana is delaying the launch of the eCedi because of the current economic difficulties the country finds itself.
As highlighted by the Bank of Ghana (BoG) Governor Dr. Ernest Addison, the digital currency is vital in the country’s plan to expand financial inclusion and enhance digitalisation. Meanwhile, the pilot phase has been completed, with selected consumers at Sefwi Asafo in the Western North Region using the currency to buy items, goods, food and ser- vices. According to Dr. Addison, the Bank of Ghana had originally planned to launch the e-Cedi in 2022.
However, the high inflation rates and loss of currency value that occurred during the eco- nomic dislocation of that year made it clear a better time would need to be found for an official introduction.
“That is not the context in which you want to launch a digital currency. So, we had to slow down the process and refocus our efforts on the macro environment, trying to bring inflation down. At a certain point, we will go back to the e-Cedi project and decide on the launch date,” Dr. Addison pointed out.
The pilot was an important step toward expanding financial inclusion and driving digitalisation in the country. It allowed the Bank of Ghana to test an offline version of the digital currency that could be used in situations where there is no connectivity infrastructure – just like cash.
The Bank of Ghana has adopted a retail to- ken-based central bank digital currency (CBDC) as the ‘e-Cedi of choice’, which enables the currency to be stored locally on a card, on a phone or a smart device, and can be passed on from one user to another. The retail CBDC is digital cash that is designed to take on most traditional attributes of physical cash, as well as have other additional functionalities depending on its final design.
Meanwhile, successful deployment of the e-Cedi could have a significant impact on the country, helping to augment government’s digitalisation agenda and foster financial inclusion. It will also position the Bank of Ghana as an active regulator and facilitator of a digital economy, helping to reinforce its role in the country’s financial landscape.
Though the delay in launching the e-Cedi may be disappointing, Dr Addison justified the delay, noting that the Bank of Ghana is taking a thoughtful approach to development of the digital currency. By prioritising stabilisation of the macro environment first, the bank is positioning itself for success when it does eventually launches the e-Cedi.
Globally, interest in Central Bank Digital Currencies (CBDC) has escalated in the past few years. According to a BIS survey in 2021 on CBDC, 86 percent of central banks were actively researching the potential for CBDCs, 60 percent were experimenting with the technology and 14 percent were deploying pilot projects.
When all is said and done, digital currencies have the potential to greatly reshape the financial sector. We provide a macroeconomic model with a financial sector in which digital currencies coexist with bank deposits and households hold both forms of liquidity. When banks face financial frictions (costly equity issuance), digital currency harms financial stability, increasing the likelihood of crises and financial distress. Digital currencies depress deposit spreads, which hinders banks’ abilities to recapitalize following losses.