Question: 15. Should a CBDC pay interest? If so, why and how? If not, why not?

Return to CBDC Benefits, Risks, and Policy Considerations

Question

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Should a CBDC pay interest?If so, why and how?If not, why not?

Answer

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The answer depends on the architecture, design and implementation. (See: 15_common).

If it is a replacement for cash: NOIf it is a replacement for a bank accounts or equivalent such as Payment Cards savings, checking, investment, direct pay, credit, debit cards, etc. ): YES

Overview

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Before an answer can be provided about paying interest on CBDC, it is essential to clearly state the purpose and goals of the CBDC. Based upon the information in the White Paper, it is not clear if the CBDC should be a replacement for Physical Money, a replacement for bank accounts, or a hybrid combination of the two. Currently, there is no interest paid on cash. In fact, that is a motivation for not hoarding cash, but to put it into an account. The interest paid on the account, depends on the kind of account (i.e., checking, savings, certificate of deposit, money market, etc.).

1. Is the CBDC suppose to be an alternative to existing physical dollar bills? If so:

What denominations are to be created (\$1, \$2, \$5, \$10, \$20, \$50, \$100)?What about coins? (i.e., penny, nickel, dime, quarter, half-dollar)Will it be able to be used everywhere physical money is used?Can transaction be made using a combination of CBDC and Physical Money?Can CBDC and Physical Money be interchanged? Where? Fees? 2. Is it supposed to be the equivalent of a financial account (i.e, savings, checking, investment, direct pay, credit, debit cards, etc. ) ? If so:

How many accounts can an individual have?Is there a cost for maintaining the accounts?How will rules such as Know-Your-Customer(KYC) be applied?Can the accounts be garnered for taxes? Child support? Student debt? Other debt?Does it require a court order or warrant to review the account activity?Is there an age limit on who can have an account?Do you have to be a US Resident to have an account?What IDs need to be associated with the account?Do you need a taxpayer ID?Do you need to have a current street address? 3. Has a trade study been conducted to determine the best solution?

Examples

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There are three categories of requirements alluded to in the White Paper as identified by the identified by the Object Management Group White Paper Analysis:

There are three Currency Models that are applicable to the CBDC.

10_cash - is a model representing the CBDC using cash (i.e., coins, \$1, \$2, \$5, \$10, \$20, \$50 and \$100 bills)) as the basis of the CBDC15_accounts - is a model that represents the CBDC in using digital accounts (i.e, Savings, Checking, Investment, Direct Pay, Credit Cards, Debit Cards, etc.)30_stablecoins - is a currency model tying a cryptocurrency to a real world asset such as a fiat currency, gold, indexed funds. etc. Table provides a list of requirements associated with each of the CBDC model taxonomy.

Example of mapping a subset of requirements identified during the White Paper Analysis conducted by the OMG

Topic	Requirements
Digital Cash Model	B: B0003, B0004, B0007, B0009, B0013, B0018, B0020, B0022-1, B0022-2, B0022-3, B0024, B0028, B0029, B0034, B0036, B0040, B0042P: P0004, P0027, P0029R: R0013D: D0001, D0006, D0007, D0009
Digital Account Model	B: B0005, B0010, B0022-4, B0038, B0047, B0048, B0049, B0051, B0054P: P0002, P0012, P0013, P0017, P0018, P0019, P0020, P0021, P0023, P0024, P0025, P0017, P0028, P0030R: R0002, R0009, R0012, R0015, R0020, R0023D: D0001, D0002, D0003, D0005, D0008, D0010, D0012, D0013,
Stablecoin / Research	B: B0016, B0017, B0021P: P0008, P0015, P0016R: R0010, R0017, R0019, R0020, R0021, R0022

Discussion of Examples

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The following discussion of the three models identified in the requirements. Each section is independent of the other sections and can be read as-is.

Digital Cash Model

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Many of the OMG-identified “desirements” found in the Money, and Payments: The U.S. Dollar in the Age of Digital Transformation White Paper during the White Paper Analysis appear to be appropriate of a CBDC “Cash Model”. The “Cash Model” uses Digital Money in an analogous model as Cash for CBDC. For example, the requirements B0004 which is a requirement to “Protect consumer privacy” is more closely related to a “cash mode” rather than a bank account model. There are no bank accounts required in order to complete a transaction, just “cash” in exchange for goods and services. This is in contrast to checkbooks, debit or credit card transactions, which are associated with an account offered by intermediary commercial banks and directly tied to an Identity.

List of requirements (i.e., desirements) identified in the White Paper indicating a Cash Model.

Requirement	Statement	Comment
B0003	Complement, rather than replace, current forms of money and methods for providing financial services	A “digital cash” is complementary to the existing cash money, just without the need for physical money.
B0004	Protect consumer privacy	There are no identities required for cash transactions.
B0007	Provide households and businesses a: 1. convenient2. an electronic form of central bank money witha. safetyb. liquidity	1. Cash probably represents the epitome of liquidity, that is, unless the size of the transaction gets too big, then US Federal law requires a person to report cash transactions of more than \$10,000 by filing IRS Form 8300 PDF, Report of Cash Payments Over \$10,000 received in a Trade or Business. 1) Internal Revenue Service, Cash payment report helps government combat money laundering, Accessed 2 March 2022, https://www.irs.gov/newsroom/cash-payment-report-helps-government-combat-money-laundering 2. With cash, your spending is straightforward and there is less risk of identity theft. Ultimately, it's up to each individual to make the best decisions based on their financial health, what they are purchasing, and the risks they are willing to incur2) Andrew Beattie, Investopedia, 21 August 2021, Accessed 2 March 2022, https://www.investopedia.com/articles/pf/08/pay-in-cash.asp .
B0009	Provide faster and cheaper payments (including cross-border payments)	US Dollars in the form of cash are used in many parts of the world. As of 2018, the U.S. had $1,671 billion in circulation. As much as half that value is estimated to be in circulation abroad. 3) U.S. Currency Education Program. U.S. Currency in Circulation. Accessed 2 March 2022. https://www.uscurrency.gov/life-cycle/data/circulation Many of these bills are in the former Soviet Union countries and in Latin America. They are often used as hard currency in day-to-day transactions. https://www.thebalance.com/world-currency-3305931#citation-12
B0013	Provide immediate access to transferred funds	Sine the digital cash is for all intents and purposes cash, the same accessibility as cash should apply
B0018	Allow the general public to make digital payments	Digital cash should be immediately transferrable to traditional cash, and therefore, it should be at least as usable for digital payments as actual cash, but can also be used online just like Direct Pay, Credit, or Debit Cards.
B0019	Provide the safest digital asset available to the general public, with no: 1. associated credit2. liquidity risk	With cash, there is no need for credit and by definition it is liquid. See Liquidity Risk
B0020	Maintain public confidence by not requiring mechanisms, such as deposit insurance	The only need for https://www.omgwiki.org/dido/doku.php?id=dido:public:ra:xapend:xapend.a_glossary:d:deposit_insurance is when there is not enough cash in hand to pay for liabilities. By definition, a cash-based CBDC would have enough cash.
B0022	Provide a CBDC that is:1. Privacy-Protected 2. NOT Intermediated3. Widely Transferable4. NOT Identity-Verified	By definition, cash is considered private and is widely transferable unless the quantity of cash makes it too onerous.
B0024	Provide transactions finalized and completed in real-time	Since there is no need to do a background check on the participants in a cash transaction, the transaction is real-time.
B0028	Offer the general public broad access to digital money: 1. free from credit risk2. liquidity risk	Cash is by definition does not require credit and inherently no Liquidity Risk.
B0029	Support basic purchases of: 1. goods2. services3. pay bills4. pay taxes	There is no federal statute mandating that a private business, a person, or an organization must accept currency or coins as payment for goods or services. Private businesses are free to develop their own policies on whether to accept cash unless there is a state law that says otherwise. https://www.federalreserve.gov/faqs/currency_12772.htm, Therefore, the same can be applied to Digital Cash. Although it is currently possible to pay Federal taxes in cash, it is more difficult than paying online with Direct Pay, Credit or Debit Cards.
B0034	Generate new capabilities to meet the speed and efficiency requirements of the digital economy	Although cash is quick and efficient during face-to-face transactions, it is difficult ver long distances or when the payments become large.
B0036	Preserve the dominant international role of the U.S. dollar	See: B0009
B0040	Provide micropayment support	As long as the micropayment is larger than the cost of conducting the transaction, micropayments are feasible. However, if the cost of the micropayment is very small, then there is probably a need for an account for accumulating the micropayments until it becomes financially viable to process the micropayment.
B0042	Preserve the dominant international role of the U.S. dollar	See: B0009
P0004	Protect consumer privacy	Since there is no need for an account or identification with cash, consumers' privacy is protected.
P0027	CBDC a risk-free asset	As long as the CBDC is tied to the US Dollar, it will have the same risk as to the US Dollar.
P0029	The Federal Reserve is committed to ensuring the continued safety and availability of cash	The Cash Model for CBDC treats the CBDC as a form of cash when the cash model is used.
R0013	CBDC offers no associated credit or Liquidity Risk	In the cash model of the CBDC, this is definitely true.
D0001	Design should be for a non-interest-bearing CBDC, for example, would be less attractive as a substitute for commercial bank money	CBDC using the cash model would be just another form of cash, and therefore should not offer interest
D0006	Design should allow an increase in CBDC supply to provide an adequate buffer, so there is little effect on the federal funds rate	The same rules would apply as used with traditional cash
D0007	Design should allow the Federal Reserve to increase the level of reserves on average, in order to provide an adequate buffer against unanticipated increases in CBDC	Under the CBDC cash model, the Federal Reserve would treat CBDC reserves similarly to cash reserves
D0009	Design should allow for significant foreign demand for CBDC, furthering complicate monetary policy implementation	See: B0009
B = Benefit Considerations
P = Policy Considerations
R = Risk Considerations
D = Design Considerations

Digital Account Model

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Many of the OMG identified requirements found in the Money, and Payments: The U.S. Dollar in the Age of Digital Transformation White Paper during the White Paper Analysis appear to be appropriate of a CBDC “Account Model”. The “Account Model” uses Digital Money in an analogous model as Accounts for CBDC. For example, the requirement B0005 is a requirement to “Protect against criminal activity| In this context, criminal activity is either Money Laundering or Fraud. Fraud is an intentionally deceptive action designed to provide the perpetrator with an unlawful gain or to deny a right to a victim. Types of fraud include tax fraud, credit card fraud, wire fraud, securities fraud, and bankruptcy fraud. Fraudulent activity can be carried out by one individual, multiple individuals, or a business firm as a whole” is easily associated with Accounts.

List of requirements (i.e., desirements) identified in the White Paper indicating a Account Model.

Requirement	Statement	Comment
B0005	Protect against criminal activity	In this context, criminal activity is either Money Laundering or Fraud. Fraud is an intentionally deceptive action designed to provide the perpetrator with an unlawful gain or to deny a right to a victim. Types of fraud include tax fraud, credit card fraud, wire fraud, securities fraud, and bankruptcy fraud. Fraudulent activity can be carried out by one individual, multiple individuals, or a business firm as a whole.
B0010	Expand consumer access to the financial system	A financial system is the entire set of non-cash-based institutions (i.e., banks, thrifts, insurance companies, stock exchanges, etc.) permitting and facilitating the exchange of funds. The expansion would entail adding people to these institutions
B0022	Provide a CBDC that is:1. NOT Privacy-Protected 2. Intermediated3. NOT Widely Transferable4. Identity-Verified	Intermediated generally implies accounts or digital wallets. Identity-Verified generally implies validating and verifying a person's identity to gain access to their accounts
B0038	Allow private-sector innovators to focus on: 1. new access services2. distribution methods3. related service offerings	These innovations would predominately be account-based.
B0047	Lower transaction costs	Normally, there are no transaction costs for using cash
B0048	Provide a secure way for people to save	People save money in accounts unless we are offering piggy banks
B0049	Promote access to credit	Credit is, by definition, using cash you do not have access to.
B0051	Generate data about users’ financial transactions similar to the current Commercial Bank4) Commercial banks include banks licensed either by federal or state banking agencies, credit unions, and thrifts from the White Paper. and nonbank_money	This kind of data is collected on the activity in accounts.
B0054	Attract risk-averse users to CBDC	Risk Adverse investments usually pay little to no incentive to investors, but their value remains constant. Cash represents that kind of investment
P0002	Provide Yield benefits more effectively than alternative methods	Cash generally offers no yield, therefore, this would require accounts
P0005	Protect against criminal activity	See: B0005
P0012	The firms that operate interbank payment services are subject to federal supervision	These services typically use accounts to move payments unless it is referring to armored guards and vehicles
P0013	Systemically important payment firms are subject to 1. heightened supervision2. regulation	Refers to the accounting practices used by the payment firms
P0017	The PWG report recommends CBDC complement existing authorities regarding 1. market integrity2. investor protection3. illicit finance	Refers to the accounting practices for CBDC accounts
P0018	The Federal Reserve Act does not authorize direct Federal Reserve accounts for individuals	Refers to accounts
P0019	Federal Reserve accounts for individuals represent a significant expansion of the Federal Reserve’s role in the financial system and the economy	Refers to accounts
P0020	The private sector would offer accounts or digital wallets to facilitate the management of CBDC holdings and payments	Refers to accounts
P0021	The intermediaries would operate in an open market for CBDC services	Refers to accounts
P0023	CBDC would need to be readily transferable between customers of different intermediaries	Intermediaries imply accounts
P0024	CBDC would need to comply with the U.S. robust rules	Implies accounting and oversight rules
P0025	CBDC intermediary would need to verify the identity of a person accessing CBDC	Intermediaries imply accounts
P0027	CBDC a risk-free asset	See: B0054
P0028	Require significant international coordination to address issues such as:1. common standards2. infrastructure, 3. the types of intermediaries able to access any new infrastructure,4. legal frameworks5. preventing illicit transactions6. the cost and timing of implementation
P0030	The Federal Reserve will only take further steps toward developing a CBDC if: 1. Research points to benefits for households, businesses, and the economy overall that exceed the downside risks2. Indicates that CBDC is superior to alternative methods	See: B0054
R0002	Risk to the cost and availability of credit	See: B0054
R0009	Increased Risk of “runs” or other instabilities to the financial system
R0012	Risk of increased concern related to the potential for: 1. destabilizing “runs”2. disruptions in the payment system3. concentration of economic power	See: B0054
R0013	CBDC offers no associated credit or liquidity Risk	See: B0054
R0015	Require mechanisms to reduce liquidity Risk	See: B0054
R0016	Require mechanisms to reduce credit Risk	See: B0054
R0020	Risk that interest-bearing CBDC could result in a shift away from other low-risk assets, such as shares in money market mutual funds, Treasury bills, and other short-term instruments.	See: B0054
R0023	Risk of financial panic causing outflows from Commercial Banks to CBDC without prudential supervision, government deposit insurance, and access to central bank liquidity	See: B0054
D0001	Design should be for a non-interest-bearing CBDC, for example, would be less attractive as a substitute for commercial bank money	Commercial bank money implies accounts
D0002	Design should allow the central bank to limit the amount of CBDC an end-user could hold	These restrictions imply accounts
D0003	Design should allow a limit on the amount of CBDC an end-user could accumulate over short periods	These restrictions imply accounts
D0005	Design could affect monetary policy implementation and interest rate control by altering the supply of reserves in the banking system	These restrictions imply accounts
D0008	Design should allow for interest-bearing at levels of the CBDC to be controlled independently of other safe assets	These restrictions imply accounts
D0010	Design should consider the potential for interest-bearing CBDC as a new policy tool on the channels of influence in monetary policy	These restrictions imply accounts
D0011	Design should generate data about users’ financial transactions in the same ways that commercial bank and nonbank money generates data today	These restrictions imply accounts
D0012	Design should address privacy concerns by leveraging existing tools already in use by intermediaries	These restrictions imply accounts
D0013	Design should facilitate compliance with a robust set of rules already intended to combat 1. money laundering2. the financing of terrorism3. customer due diligence4. record-keeping5. reporting requirements	These restrictions imply accounts
B = Benefit Considerations
P = Policy Considerations
R = Risk Considerations
D = Design Considerations

Stablecoin / Research

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The White Paper and summarized by the Object Management Group's White Paper Analysis provide some insight as to “what's next” with CBDC. The White Paper is not intended to advance a specific policy outcome and takes no position on the ultimate desirability of a U.S. CBDC [P0008]. Furthermore, the Federal Reserve will only take further steps toward developing a CBDC if [P0030]:

Research points to benefits for households, businesses, and the economy overall that exceed the downside risksIndicates that CBDC is superior to alternative methodsIn addition, the Federal Reserve does not intend to proceed with the issuance of a CBDC without clear support from [P0011]:

the Executive BranchLegislative Branchideally in the form of a specific authorizing law The following topics are covered in the White Paper, which would require further research in order to garner broad public and cross-governmental support [P0031]:

Note: Also see: 30_stablecoins in context of Currency Models.

List of requirements (i.e., desirements) identified in the White Paper that require further research

Requirement	Statement	Comment
B0016	Provide Stablecoins that are: 1. well-designed2. appropriately regulated	Stablecoin is a specific solution
B0017	Provide Stablecoins that are: 1. faster2. more efficient3. more inclusive payment	Stablecoin is a specific solution
B0021	Maintain value by not using backing by an underlying asset	Conflict with B0017
P0015	The PWG report recommends that Congress act promptly to enact legislation that would ensure payment of Stablecoins	Stablecoin is a specific solution
P0016	The PWG report recommends payment Stablecoin arrangements are subject to a consistent and comprehensive federal regulatory framework	Stablecoin is a specific solution
R0010	CBDC has Risk of significant energy footprint similar to Cryptocurrencies	Very different answers depending on CBDC mode, Cash rather than on Accounts
R0017	Using private digital money could present Risks to both individual users and the financial system as a whole	Requires Research
R0019	Risk of reducing the aggregate amount of deposits in the banking system, which could in turn increase bank funding expenses, and reduce credit availability or raise credit costs for households and businesses.	Requires Research
R0020	Risk that interest-bearing CBDC could result in a shift away from other low-risk assets, such as shares in money market mutual funds, Treasury bills, and other short-term instruments.	Requires research
R0021	Risk of reducing credit availability or raising credit costs for businesses and governments	Requires Research
R0022	Risk of Stablecoins and other types of nonbank money shifting deposits away from banks even without a CBDC	Stablecoin is a specific solution
B = Benefit Considerations
P = Policy Considerations
R = Risk Considerations
D = Design Considerations