Banks disintermediation: Will Central banks overindulge on the CBDC cake and its potential ?

We all know the saying “Give a man a gun and he will rob the bank. Give a man the bank and he will rob the world”. I think we all have our share of love and hate for banks but this article will not go near that region. Banks play such a critical part in our countries’ economies that playing the wrong trick on them could lead economies to a dark age. From accepting deposits to delivering loans, supporting businesses and processing payments, these entities make their money and help society by playing an intermediation role. You might be wondering why I am writing about them. It is because something powerful has been provided to Central banks and it is called Central Bank Digital Currency. It is the same as the physical paper or silver coin money you have used, but only issued digitally by Central banks of specific countries. The creation and development of CBCDs has raised some ideas that if Central banks are to offer digital currencies to citizens of their respective counties directly, do banks still need to exists? In this article, I will try and analyze how this could play out and how this new development could shape the economies of tomorrow.

Economics 101 teaches us that banks make money through the fractional reserve system, meaning the loaning of deposited money by individuals to other individuals and this process creates more money in the economy. This money supply, however, is controlled directly by Central banks based on their repo rates. So, in a sense, commercial banks play a distributing role of money printed by the Central banks linked to the fact that they receive deposits made by individuals then lend it to borrowers at an interest and so the cycle repeats again and again and again... The advent of Central Bank Digital Currencies seems to be disruptive to this process. With CBDCs, individual consumers will have a digital wallet whose balance stays not with commercial banks but directly with the Central bank of their country. This raises the question of whether governments will simply be a steward of these balances or would they go further and start offering other services to individuals like interest on those balances, as commercial banks currently do? After all, Fintech players have already started taking advantage of the position they find themselves in and make use of those opportunities to offer all sorts of services, like loans and other financial services, which were offered by commercial banks in the traditional market. There sits the dilemma of this article title: will the sight of profits and potential tempt some governments to extend their services or will they leave it to commercial banks or are we going to see a hybrid approach where both Central banks and commercial banks come to a compromise.

We can see that as Central banks move to creating CBDCs, a lot of potential opens up to them in terms of the services they might decide to provide to their consumers. It is without a doubt that the banking system as we know it is going to be affected, but the extent of this change will mostly be determined by the way in which Central banks would want to assert control over their respective economies. So far Central Banks Digital Currencies have mostly been deployed to offer that digital currency transformation and are not interested in offering any services which would make them compete with commercial banks. In some instances, there is even a cap in terms of how much one individual is allowed to hold on their CBDC wallet. The financial repercussions of offering similar services to those of commercial banks is just too great as they might destabilize economies. If Central banks decide to offer similar services to those of commercial banks, commercial banks’ reliance on customer deposits would become less stable and this will in turn deprive these banks of an important source of funding, hence compromising their ability to offer credit. Such a scenario would be catastrophic to economies as it would create an environment in which the financial stability of economies is not guaranteed. However, the question remains: will the cake be so sweet to Central banks that they decide to go one step further and start offering competing services? Because if they do, the world of banking as we know it will never be the same.

The world is changing and we have to embrace change. This article had covered some potential scenarios of how CBDCs could be utilized by governments and the consequences they might have on economies. Thanks for taking time to read this article. See you on the next one.