Nine out of 10 central banks are exploring electronic versions of physical cash. Nearly everyone, it seems, is convinced that the future of money is digital.
While that might be right, does every country need to be on the bandwagon just yet? Not really. Whether you’re Poland or Peru should make a big difference in deciding just how big a priority a central bank digital currency, or CBDC, should be.
More advanced economies face a specific challenge: waning demand for cash. The share of banknotes in point-of-sale transactions has dwindled to 11% in North America, 19% in the Asia-Pacific and 27% in Europe.
As currency bills eventually start vanishing from circulation and into vaults, the public’s trust in the convertibility of bank deposits into official money may become “more of a theoretical construct than a daily experience,” in the words of the European Central Bank’s Ulrich Bindseil and others.
That could be problematic for financial stability, especially if lightly regulated private-sector tokens like stablecoins — cryptocurrencies that promise 1:1 convertibility with dollars or other widely accepted assets — step into the breach and replace official cash.
For emerging markets, that would mean a return to “dollarization,” and an end to decades-long efforts at establishing their own sovereign currencies.
This isn’t a universal problem yet. Cash continues to dominate the payment scene in Latin America, the Middle East and Africa, according to the FIS Worldpay Global Payments Report 2021. It’s unlikely to disappear soon even in some highly developed economies like Japan. In other words, not all central banks face the same urgency in preparing for a post-cash future by going digital.
So who exactly needs a CBDC first? The contrast between Poland and Peru may help answer that question.
Both are emerging markets according to MSCI Inc., though the central European nation’s per capita income of $15,000 is two-and-a-half times that of the Latin American country. Both have a fairly short history of currency sovereignty.
As Poland set out to rebuild its formerly command-and-control economy in the 1990s, foreign cash dominated the zloty 3:1 in commerce. (Up until the 1980s, authorities printed a special legal tender against dollar deposits. These “bony” notes could be used for everything from American cigarettes and Japanese cameras to clothes from Western Europe but had no value outside Poland.) Peru entered the new millennium with 80% of bank deposits denominated in dollars.
But while both Poland and Peru are counted as success stories of de-dollarization, their retail financial landscapes look very different. Poland spent the 90s reforming its currency management, and eventually won the population’s trust in the zloty, both as a medium of exchange and as a store of value.
Peru’s mountainous topography has made things more complicated. Dollar bills (and bank deposits) are still very much a part of the country’s bi-monetary system. Financial inclusion hasn’t progressed sufficiently, especially in rural areas.
Almost 9 in 10 Polish adults have bank accounts; only a little over half of Peruvians do. The payment industry is highly competitive in Poland, with consumers enjoying a wide variety of noncash options to settle claims.
In Peru, where internet access in rural areas is limited, Covid-19 led to a surge in precautionary currency hoarding: Cash in circulation rose to 10% of gross domestic product, from 7% in 2018.
Polish authorities don’t see the need to add one more. So far, no specific social purpose has been identified that the issuance of digital zloty would serve. In Peru, on the other hand, acceptance of noncash instruments is patchy. Peru hasn’t made up its mind yet about digital cash, but it’s not ruling it out either.
Before committing themselves to digital cash, emerging markets need to ask themselves if they’re closer to Poland or Peru. If the private sector in their country can’t or won’t provide high-quality, interoperable payments solutions at a reasonable price to everyone, then central banks need to step in early — to both hold on to currency sovereignty and expand financial inclusion.
