Central Bank Digital Currency (CBDC) is no longer a speculative concept—it's an emerging reality being actively explored by central banks worldwide. A recent report from the International Monetary Fund (IMF), Implications of Central Bank Digital Currency for Monetary Operations, provides a comprehensive analysis of how CBDC could reshape monetary policy frameworks, influence short-term interest rates, alter liquidity dynamics, and challenge traditional market operations. This article unpacks the IMF’s findings, explores real-world case studies, and examines the strategic adjustments central banks may need to make in a CBDC-enabled future.
What Is CBDC?
Central Bank Digital Currency (CBDC) refers to a digital form of a country’s fiat currency, issued and regulated by its central bank. Unlike decentralized cryptocurrencies such as Bitcoin, CBDCs are centralized, legal tender backed by national monetary authorities. They exist in digital form but carry the same value and trust as physical cash.
CBDCs can be structured in two primary models:
- Retail CBDC: Accessible to individuals and businesses for everyday transactions.
- Wholesale CBDC: Restricted to financial institutions for interbank settlements.
Importantly, while distributed ledger technology (DLT) is often associated with digital currencies, CBDCs do not necessarily rely on it. A trusted central authority—the central bank—can manage the system through conventional infrastructure, ensuring control over issuance, distribution, and monetary stability.
Key Benefits of CBDC
- Faster and cheaper payments, especially cross-border transactions.
- Enhanced financial inclusion, enabling unbanked populations to access digital financial services.
- Greater payment system resilience and real-time settlement capabilities.
- Improved monetary policy transmission due to more direct control over money supply.
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How CBDC Could Replace Cash, Bank Deposits, and Reserves
The IMF outlines three potential scenarios in which CBDC could displace existing monetary instruments—each with distinct implications for liquidity, interest rates, and central bank operations.
1. Replacing Physical Cash
In economies where cash remains dominant, particularly in rural or underbanked regions, retail CBDC could serve as a digital alternative. Designed with features like zero interest rates, limited transaction caps, and universal accessibility, such CBDCs mirror cash in function but offer superior traceability and efficiency.
While cash itself has minimal impact on interest rate dynamics, replacing it with CBDC introduces new variables:
- Increased transaction volatility, complicating liquidity forecasting.
- Shifts in currency demand patterns, requiring central banks to refine reserve management strategies.
Case Study: Cambodia’s Bakong System
Although not a full-fledged CBDC, Cambodia’s Bakong system, developed by the National Bank of Cambodia (NBC), offers valuable insights. It functions as a digital payment platform integrating mobile wallets, QR code transfers, and interbank settlements—all denominated in Cambodian riel (KHR).
Key features:
- Enables instant peer-to-peer and merchant payments.
- Supports financial inclusion by connecting underserved communities.
- Promotes a cashless economy through seamless cross-institutional transactions.
However, IMF research highlights that Bakong exhibits higher transaction volatility compared to cash, posing challenges for liquidity prediction—a critical consideration for central banks planning CBDC rollouts.
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2. Substituting Commercial Bank Deposits
When CBDC becomes a viable alternative to commercial bank deposits, it can significantly disrupt the financial ecosystem. Households and firms may shift funds from interest-bearing accounts into risk-free CBDC holdings—especially during periods of financial stress.
This shift impacts:
- Bank funding structures: Reduced deposit bases may force banks to rely more on wholesale funding.
- Monetary transmission: If large-scale deposit substitution occurs, central banks may lose indirect influence over credit creation.
- Short-term interest rates: As demand for reserves fluctuates, interbank lending rates could become more volatile, particularly in reserve-scarce environments.
To mitigate these risks, central banks might consider:
- Imposing holding limits on CBDC balances.
- Introducing tiered remuneration systems where higher CBDC balances earn lower or negative interest.
- Enhancing coordination with commercial banks to maintain financial stability.
3. Augmenting or Replacing Reserve Systems
In the wholesale context, CBDC could modernize real-time gross settlement (RTGS) systems. Rather than fully replacing reserves, a hybrid model may emerge where CBDC coexists with traditional reserve accounts, offering enhanced functionality for high-value transactions.
Potential use cases include:
- Atomic settlement of tokenized securities (delivery versus payment).
- 24/7 interbank settlements, removing time constraints of current RTGS systems.
- Serving as a backup settlement layer during system outages.
However, if access to wholesale CBDC is limited to central bank operating hours, financial institutions may need to pre-position large CBDC balances to meet after-hours demands—potentially tying up capital inefficiently.
Case Study: Bank of England’s Omnibus Account
The UK’s central bank introduced the Omnibus Account in 2021, allowing non-bank payment service providers direct access to its RTGS system. This innovation supports broader financial inclusion in wholesale markets while preserving monetary policy integrity.
Notable design elements:
- Funds held in omnibus accounts earn the Bank Rate overnight.
- Operators must pass on the full interest rate to participants.
- Ensures parity between omnibus and traditional settlement accounts—preventing distortions in money markets.
This model demonstrates how institutional design can support innovation without undermining central bank control over liquidity and interest rate corridors.
IMF Recommendations for Central Banks
The IMF emphasizes that launching a CBDC requires more than technological readiness—it demands a rethinking of core monetary operations. Based on its analysis, the fund recommends several strategic adjustments:
Refine Liquidity Forecasting Models
With CBDC introducing new sources of demand volatility, traditional forecasting tools may prove inadequate. Central banks should integrate behavioral data, transaction patterns, and scenario modeling into their liquidity projections.
Adjust Reserve Provision Mechanisms
To stabilize short-term rates amid fluctuating CBDC demand, central banks may need to:
- Conduct more frequent open market operations.
- Expand asset purchase programs temporarily during high demand spikes.
- Develop standing facilities specifically for CBDC-related liquidity absorption or injection.
Ensure Interoperability Between CBDC and Reserves
A seamless interface between CBDC and existing reserve systems is crucial for smooth monetary policy implementation. This includes technical compatibility, consistent pricing mechanisms, and clear rules for convertibility.
Adopt the REDI Framework
In prior guidance, the IMF proposed the REDI strategy—a four-pillar approach to boost CBDC adoption:
- Regulation: Establish clear legal and supervisory frameworks.
- Education: Increase public awareness and trust in digital currency.
- Design: Prioritize usability, accessibility, and privacy.
- Incentives: Explore targeted rewards or fee reductions to encourage early usage.
Frequently Asked Questions (FAQ)
Q: Can CBDC replace physical cash entirely?
A: Yes, in theory. However, many central banks aim for coexistence rather than full replacement, preserving cash as a backup and safeguarding financial inclusion for offline populations.
Q: Will CBDC affect my bank savings?
A: Not directly—but if many people move money from banks to CBDC, banks may face higher funding costs, potentially affecting interest rates on deposits and loans.
Q: Is CBDC the same as cryptocurrency?
A: No. CBDC is issued by a central bank, has fixed value (like USD or EUR), and is not volatile. Cryptocurrencies are typically decentralized and price-unstable.
Q: How does CBDC impact monetary policy?
A: It can enhance policy precision by providing direct channels for money supply control but may complicate liquidity management if adoption is rapid or uneven.
Q: Can I earn interest on CBDC?
A: Possibly. Retail CBDC might offer zero or low interest to avoid competing with banks. Wholesale versions could be remunerated similarly to reserves.
Q: Are there privacy concerns with CBDC?
A: Yes. While pseudonymous designs exist, most CBDCs will likely allow some level of transaction monitoring to prevent illicit activities—balancing privacy with regulatory compliance.
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Conclusion
The IMF’s analysis underscores that while CBDC holds transformative potential for payment systems and financial inclusion, it also presents significant challenges for monetary operations. From reshaping liquidity landscapes to redefining the role of commercial banks, central banks must proactively adapt their tools and frameworks. Thoughtful design, robust infrastructure, and strategic policy adjustments—guided by insights from early adopters like Cambodia and the UK—will be key to a successful transition into the digital currency era.