On 7 February 2023, the Bank of England (“BofE”) and His Majesty’s Treasury (“HMT”) jointly published a consultation paper (the “Consultation Paper”) on the development of a UK central bank digital currency issued by the BofE (“CBDC”).[1] The BoE also released a Technology Working Paper alongside the CBDC consultation.[2]

What does the Consultation Paper say?

In summary, the Consultation Paper sets out analysis by HMT and the BofE on the case for a retail CBDC and consults on features of a potential model. The Consultation Paper marks the conclusion of the “research and exploration” stage of the BofE’s work on CBDC and begins the next stage of development dubbed the “design phase”. The deadline for response is 7th June 2023.

Why a retail CBDC?

The Consultation Paper suggests that the need for a CBDC is driven by the decline in the use of cash and growth of digital assets. This trend has resulted in the waning use of central bank money, which could result in the monetary system becoming fragmented, posing a risk to monetary and financial stability. It is hoped a CBDC would tackle this with public access to retail central bank money, anchoring trust in the monetary system in a more digitized world and underpinning monetary and financial stability. It is also hoped that a CBDC will promote innovation, choice, and efficiency in domestic payments, thereby boosting the UK economy and supporting growth and financial inclusion.

But the Consultation Paper acknowledges that the introduction of CBDC is not without risk. It outlines that a CBDC may result in financial and monetary instability due to commercial bank disintermediation, i.e., the loss of deposits by commercial banks (a concern raised by some in industry). This could result in an increase in the cost of lending and disruptions in the transmission of monetary policy.

What are the factors determining if a retail CBDC will be created?

The Consultation Paper states that no formal decision on whether to introduce a CBDC has yet been made. In a speech made at the time of the launch of this consultation, the BoE Deputy Governor Sir Jon Cunliffe noted that “it is likely that a retail, general purpose digital central bank currency – a digital pound – will be needed by the end of this decade.”[3]

The BofE and HMT have identified the following trends that may influence their decision to proceed:

• whether cash use continues to decline, resulting in risk to monetary and financial stability;
• if new forms of private digital money display adequate interoperability within the current monetary system; and
• the potential of international developments in central bank digital currency and private digital money to affect the UK.

The design phase will identify the technological architecture for the CBDC and involve collaboration with the private sector in experimentation. The legal basis for the CBDC will be determined alongside consideration of its design. The BofE and HMT state that, at the conclusion of the design phase, a decision will be made whether to proceed with the CBDC.

How will it work?

The CBDC would complement banknotes and ensure the BofE continues to provide money that is relevant to the way people choose to pay. It would also coexist with and complement both existing and new forms of private digital money (e.g., stablecoins). The BofE would issue the digital pound, which would be a direct claim on the BofE (as cash is today). The digital pound would be denominated in sterling and, for instance, £10 in digital pounds would always have the same value as, and be interchangeable with, a £10 bank note.

The key features of a CBDC

The following proposals are key features of the model for CBDC:

• the intent is use by households and businesses for everyday payments, money as a public utility;
• access to CBDC would be available to both UK and non-UK residents;
• no interest will be paid, as CBDC is not intended as a savings account;
• CBDC would have the same (or stronger) privacy protections as bank accounts, debit cards or cheques. Individuals’ personal details would be known to their private sector wallet provider in the same way they are for bank account providers today;
• the personal data surrounding payments using CBDC would not be anonymous and would be used as a tool to prevent financial crime;
• there would be the ability to seamlessly exchange CBDC for cash and bank deposits and vice versa;
• the BofE would place an introductory limit of £10,000–£20,000 on individual holdings; and
• similar to individuals, there would be limits on the amount of CBDC that corporates can hold but there is currently no figure proposed.

How would it interact with the market?

If the UK proceeds with CBDC, it is envisaged that the BofE will issue the CBDC and host the core ledger (though it doesn’t specifically set out whether this is DLT or account-based, the approach will be important for interaction with private sector wallets and technology). Private sector companies will be able to integrate into the central digital pound infrastructure and provide the interface between the BofE and users through “pass-through” wallets. These wallets would anonymously record the user’s holdings of CBDC on the BofE’s core ledger, in order to safeguard the user’s privacy (a concern raised by a number of critics of CBDC), and the wallet simply passes from the user to the core ledger. End-users would interact with these wallets rather than the BofE.

Regulatory framework for intermediaries

Payment Interface Providers (“PIPs”), which would offer wallets to end-users, and External Service Interface Providers (“ESIPs”), which would offer non-payment services, are seen as key players in the CBDC system. These are proposed to be authorized and regulated firms which would provide interface between the ledger and users. The intermediaries would take on the role of KYC/AML etc., which a central bank couldn’t do.

It is proposed that PIPs and ESIPs would operate within a robust legal and regulatory framework to protect users and ensure the resilience and integrity of the system. The specific regulatory treatment of PIPs and ESIPs is hinted at by the Consultation Paper as being (1) based on the precise activity performed, (2) proportionate to the risks they pose to themselves and the wider financial system, and (3) agnostic to the nature of technology.

In addition, the BofE would likely impose principles for operation for PIPs and ESIPs, including technical standards, alongside regulatory requirements.

What does this mean for industry?

The introduction of CBDC could bring both concerns and a number of strategic opportunities for new and incumbent players in the financial services and FinTech sector, as well as more broadly.

Engagement with the Consultation and the Bank of England on their accompanying technology paper will be important to ensure any partnerships and proposed regulatory framework are workable and risks are sufficiently addressed.

[1] The digital pound: A new form of money for households and businesses? | Bank of England.

[2] The digital pound: Technology Working Paper | Bank of England.

[3] The digital pound – speech by Jon Cunliffe | Bank of England.

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