CBDCs raise funding concerns for commercial banks

Central banks are beginning to lay the framework for digital currencies (CBDCs) and, while an official roll-out is some ways off, depending on the direction taken, it could have a significant impact on commercial banks from a funding, regulatory and competition perspective.

At present, two CBDC models are being discussed: a retail CBDC and a wholesale CBDC. Each model asks for a different infrastructure and has different implications for commercial banks and their corporate clients, says Teunis Brosens, head economist, digital finance and regulation at ING.

“With a retail focused CBDC, there could be a significant drain on retail deposits if there is a substitution from retail deposits to CBDC and that’s obviously a problem because deposits are considered the most stable form of funding by banks,” says Brosens.

“Meanwhile, a wholesale CBDC would have less of a direct impact as wholesale deposits overall tend to be a smaller part of commercial bank funding and are not necessarily regarded as stable funding.”

From a regulatory perspective, CBDCs have a potential to impact the net stable funding ratio (NSFR) and liquidity coverage ratio (LCR) of banks too, adds Brosens.

However there is still a lack of clarity about how central banks will eventually structure their respective CBDCs.

But it is unlikely that central banks would want to significantly undermine financial stability or the banking system through the introduction of CBDCs, according to Paul Donovan, chief economist at UBS Global Wealth Management.

On April 19, the Bank of England announced the creation of a CBDC Taskforce to coordinate the exploration of a potential UK CBDC.

In a statement, the BoE said: “A CBDC would be a new form of digital money issued by the Bank of England and for use by households and businesses. It would exist alongside cash and bank deposits, rather than replacing them.”

“[The BoE] doesn’t want to prevent the banking system from being an intermediary,” says Donovan. “The central bank doesn’t have the resources to do that. They can’t be lending mortgages or corporate loans or managing corporate cash flow.

“That’s what the banking system has to do. So, they’ve got to structure CBDCs in a way that still allows for banks to have traditional relationships and maintain those traditional relationships.”

The economic fallout from the pandemic, shifts in financial regulations and liquidity requirements also mean that corporate treasurers and bankers must forge closer ties and central banks are all too aware of this reality, according to Todd Yoder, managing director of corporate finance treasury at Fluor, an engineering and construction company.

“Central banks will continue to work with commercial banks as they have in the past,” says Yoder. “The benefits could include fraud reduction while moving money faster and cheaper, reaching citizens directly in certain instances… but a lot depends on the technology that will be utilised (centralised, decentralised, distributed, cryptography, consensus algorithm etc.)

“The commercial banks investing in this space could gain an advantage over their peers – my guess is any US CBDC will be realised out of a public-private partnership.”

Non-bank competition set to rise

While a digital euro, dollar or yuan may still be several years in the making, commercial banks must continue to pay close attention to CBDC developments as it poses new challenges to relationships with clients by intensifying competition from fintech and big tech, says ING’s Brosens.

“In both a retail and wholesale CBDC model, it’s not a given that only a bank would be allowed or able to offer CBDC services,” he says. “Already, we have payment and e-money institutions, so why wouldn’t a fintech or big tech player for that matter be perfectly capable of offering CBDC services.

“If you have a PSD2 licence, then you have the technology in-house to host such a thing… So the risk for the bank is clear from a retail and wholesale CBDC perspective that customers are going to move to non-bank providers – intensifying competition by enabling non-banks to offer more banking services.”

A recent banking blog post by Accenture echoes similar sentiments, claiming that commercial banking clients are “expected to benefit most” from CBDCs in terms of international transactions, with corporates able to “rely on a more diversified payments environment offering a wider array of financial solutions”.

For this reason, treasury departments should have CBDCs on their radar and begin thinking through the potential impacts to their business, says Yoder, because when central banks eventually rollout their own digital currencies it will come more quickly than other technologies in the past.