In September, Deputy Governor of the People’s Bank of China (PBC) Fan Yifei published an article on the policy implications of digital RMB as a form of M0. Here I want to share my main takeaways from this informative article.
First, I would like to go over the concept of digital RMB mentioned in the article. Digital RMB is a digital fiat currency issued by the PBC and managed by designated operators who provide exchange services to the public. Based on the broad account system, it supports loose coupling with bank accounts. Equivalent to banknotes and coins, it holds value, has legal tender status and supports controllable anonymity.
This concept is quite technical and will take some time to explain. Here I will focus on two points.
One is that digital RMB is legal tender in the digital form; the other is that digital RMB is equivalent to banknotes and coins in value. In other words, digital RMB is positioned as a form of M0, that is, cash and coins in circulation.
I. Digital RMB is legal tender in the digital form issued by the PBC
In the early stage of human history, payment relied on barter. Later, some rare and precious articles that are easy to store and carry, such as shells, became universal equivalents. Then with the development of smelting technology, metal currencies such as copper, iron, gold, and silver began to appear. When printing technique matured, paper-based bank notes came into use. Later, supported by national credit, legal tender issued by central banks gradually replaced bank notes. Thus we see the evolution from metal currency to paper money and legal tender. Therefore, the digital RMB we talk about today is not a new currency. In essence, it is legal tender in the digital form, which means that it is a digital form of RMB.
Recently, there was a rumor that some were forced to accept digital RMB in the transaction of second-hand housing in Shenzhen, and the digital RMB was not allowed to exchange for gold or foreign currency. Why do I say it is a rumor? First, let’s have a look at the pilot project of digital RMB issuance in Shenzhen. What’s in the news is that the PBC has issued red packets in digital RMB in Luohu District to promote consumption, and there is no digital RMB pilots carried out in the second-hand housing transaction scenario. In addition, digital RMB is equivalent to banknotes and coins. Anything you can buy with paper money can be bought with digital RMB. Foreign currencies that can be exchanged with paper money can also be exchanged with digital RMB.
II. Digital RMB as M0 is determined by the trend and rule of currency development
With technology advancement and growing demand, the form of legal tender has gradually evolved from physical to digital. History showed that whenever there was a technological advancement there was competition between private coinage and fiat currency. The issuer of private currency decides the weight, fineness and standard of the coin, which inevitably increases social cost. In recent years, global stablecoins such as Bitcoin and Libra are also trying to play the role of currency, but whether they can do so is controversial. This has provoked a new round of competition between private money and fiat currency. These encrypted assets are used to process payments in a decentralized manner, which can erode a country's monetary sovereignty. Therefore, we are seeing a growing need for the digitalization of cash.
Meanwhile, mobile payment has now become a systemically important financial infrastructure. The occurrence of any risk, financial or operational, can exert a huge impact on ordinary people and threaten financial stability. In addition, although the use of cash has declined, the absolute amount of cash is on the rise. This shows that the digital supply of fiat currency on the retail side has not kept up with the growing demand, especially in remote mountainous and poverty-stricken areas with limited financial service coverage, where people are relatively more dependent on cash. For certain digitally disadvantaged groups, such as the elderly who do not use smart phones and those who refuse the use of smart terminals, the development of electronic payment has not only failed to improve financial inclusiveness, but also led to financial exclusion. Currency is essentially a public product that serves all groups in a society. It is important to provide inclusive, easy-to-use, and digital central bank currency for all people, including disadvantaged groups and those in poverty-stricken areas. The historical trend of currency development and changes in demand all require us to work on the supply side, use new technologies to digitize M0, and provide a universal base currency for the development of digital economy.
In this process, the digital RMB should be subject to centralized regulation by the central bank. The central bank is the bank of the country, the issuer of the digital currency, and all bankers’ bank. From this definition we can see that the existence of a central bank is not imposed by the government on the market, but a market-driven product. In history, with the development of the financial sector, all parties in the market learnt that only centralized management of currency reserves of the commercial banks and centralized clearing and settlement arrangements can reduce costs and avoid periodic financial risks. This has promoted the birth of the modern central bank. Currency issuance by the central bank in a centralized manner is also a result of the market’s need to reduce transaction costs.
Therefore, centralized management of digital RMB can help resist the erosion brought by encrypted assets and global stablecoins, and safeguard the central bank’s monopoly in currency issuance. In addition, centralized management of digital RMB can realize the synchronization of payment and settlement, which can increase the turnover rate of businesses’ funds. It can ease the liquidity problems faced by small- and medium-sized enterprises including financing difficulties, and improve the efficiency of monetary policy. At the same time, it can help break retail payment barriers, prevent market segmentation, and avoid market distortions. Under centralized management, the PBC can prevent and crack down on illegal and criminal activities such as money laundering and terrorist financing, and effectively maintain financial stability.
Centralized management of digital RMB requires the PBC to stick to the following principles.
The first is to coordinate the management of the digital RMB issuance quota to ensure 100% reserve and prevent over-issuance.
The second is to formulate unified business standards, technical specifications, safety and application standards to achieve interconnection between designated operators and avoid payment barriers.
The third is to coordinate the management of digital RMB information. It is important to coordinate the management of digital RMB wallets, unify digital RMB recognition systems, and effectively reduce anti-counterfeiting costs. Based on the principle of two-tier operation, the central bank and designated operators will jointly develop a digital wallet ecological platform, each realizing their own visual recognition and distinctive functions . We have already seen fake digital RMB wallets in the market. So, the PBC still faces counterfeiting challenges, just like it did in the paper money era. However, the cost of anti-counterfeiting has been high with paper money, and we need to reduce the cost in the digital RMB era by constructing a wallet ecosystem for easier recognition by the common people. At the same time, operators must develop their own distinctive functions to provide diversified payment and financial products.
The fourth is to coordinate the infrastructure for digital RMB issuance, realize interconnection and interoperability across operators, and prevent payment barriers.
These are some fundamental points about centralized management of digital RMB.
As I mentioned earlier, digital RMB is a public good. We must never forget its nature as being M0 and a public good. This means that digital RMB does not accrue interest. Paper money does not accrue interest, so digital RMB as another form of M0 does not accrue interest, either. As a public good, digital RMB is unprofitable, and it pursues the maximization of social efficiency and welfare. Therefore, the PBC will offer a free digital RMB value transfer system and financial infrastructure, does not charge circulation fees to issuers, nor do commercial banks collect fees from customers for digital RMB exchange service. This is in line with the decision of the State Council to reduce taxes and fees, for the purpose of relieving the burden of the real economy, optimizing business environment, and further stimulating market vitality. Meanwhile, in order to motivate all participants and maintain sustainable development, the PBC should also refer to current arrangements for cash, allocate some funds to establish a scientific and effective incentive mechanism.
That the central bank does not charge fees from issuers, and commercial banks do not charge customers service fees may raise questions like how to deal with fees between operating agencies, service institutions and businesses? Will there be any fee charged? How much will it be if there is any? These issues must be negotiated by relevant parties in a market-oriented manner.
Positioning digital RMB as M0 also has a policy implication—it should be commercial banks that provide digital RMB exchange service. That commercial banks provide digital RMB exchange service is stipulated by laws and regulations.
Regulations of the People's Republic of China on the Administration of Renminbi grants financial institutions that handle RMB deposits and withdrawals the right to cooperate with the People's Bank of China to manage the circulation of RMB, which is the legal basis for commercial banks to provide digital RMB exchange and circulation services. At the same time, for non-bank payment institutions, Article 9 of the Administrative Measures for the Online Payment Business of Non-Bank Payment Institutions stipulates that non-bank payment institutions shall not provide currency exchange and cash deposit and withdrawal services, and therefore they are not allowed to provide exchange services for M0, including digital RMB. According to the current laws and regulations, only commercial banks can provide digital RMB exchange service. It should be noted that what I emphasize here is exchange service, while circulation service can be provided by third-party payment institutions and other commercial banks as well.
Globally, cash issuance generally involves the participation of both of central banks and commercial banks. Central bank is the supplier of base currency and the regulator of currency in circulation. Commercial banks are responsible for getting money into and out of circulation, and provide the public with cash deposit and withdrawal services. This has been proved to be the best practice globally. In this process, we must choose commercial banks with strong capital and technology capability as the designated operating institutions to take lead in providing digital RMB exchange service. With mature infrastructure and operation systems and sufficient talents, commercial banks can make full use of market forces via ‘survival of the fittest’. Usually, these commercial banks also have rich experience in retail business and risk control systems, which can effectively prevent operational risks and increase the public's confidence in holding and using digital RMB. That commercial banks provide digital RMB exchange service can, for one thing give full play to the intermediary role of these banks and for another provide a more direct and efficient channel for digital currency circulation.
To build a digital RMB ecosystem, it is necessary to explore cooperation models between designated operators, other commercial banks and other commercial institutions. An important issue is to ensure that the digital RMB is widely available. All commercial banks can provide currency to the public, and people can easily obtain and use cash. When it comes to digital RMB, on the one hand, all commercial banks should participate in the circulation of digital RMB, and on the other hand, we must ensure that the digital fiat currency is available to all people, including those in the poverty-stricken areas and digitally disadvantaged groups. Digital divide and financial exclusion should be avoided. We have been developing digital RMB products suitable for the elderly and those who refuse to use smart terminals.
In addition, the issuance of digital RMB is not realized by administrative enforcement, but should be carried out in a market-oriented manner, which means that the PBC will issue digital RMB based on people’s need. In addition, as long as people have the need to use paper money, the PBC will not stop its supply. Personally I believe that in the foreseeable future, digital RMB and paper money will coexist for a long time.
On the basis of clarifying each party’s responsibilities and rights, commercial banks, including those chosen as designated operating institutions and those not, as well as other commercial institutions such as third-party payment institutions, should jointly provide the public with digital RMB circulation services. The exchange service is provided by the designated commercial banks, and circulation by all parties. Specifically, designated commercial banks will open different types of digital RMB wallets for exchange services based on acquired customer information. At the same time, these banks and other commercial institutions will provide circulation services together and handle issues on the retail end, including payment product design and innovation, scenario expansion, promotion, system development, business processing and maintenance.
We are now also discussing specific business models with all relevant parties. We must ensure that the above-mentioned cooperation won’t harm the interests of small banks and small institutions, so we need to find a win-win business model. This goal requires concerted efforts from all parties involved.
Here I want to talk about another issue that has concerned many people: What is the relationship between WeChat, Alipay and digital RMB, and what are the differences? The answer is WeChat and Alipay are not in the same dimension as digital RMB. WeChat and Alipay are financial infrastructures and wallets, while digital RMB is a payment tool and the content in the wallet. In electronic payment, the wallets, namely WeChat and Alipay, hold commercial bank deposit money. With the introduction of digital RMB, people will still use WeChat and Alipay to make payment, but what’s inside the wallet now has one more thing that is central bank currency. The commercial banks of Tencent and Ant Group are also operating institutions, so there is no competition between them and digital RMB.
At the end, I want to emphasize that in building digital RMB ecology, it is essential to maintain fair competition to ensure that market plays a decisive role in resource allocation and to fully motivate the creativity of all market participants. The issuance and circulation of digital RMB is never the sole responsibility of the PBC, nor is it something that one institution can accomplish on its own. It requires joint efforts of the whole society. We have been carrying out R&D in this field based on the principle of two-tier operation, and have achieved some results. I would like to welcome all parties interested to join us in this undertaking.
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