ECB exceeds incentive of the Fed on digital currency

The European Central Bank (ECB) is dipping its toe into potentially inviting waters.

President Christine Lagarde took the first step toward a digital euro on Wednesday when she announced the start of two-year research into the feasibility of producing an electronic currency. Despite the Federal Reserve’s caution, the ECB has an incentive to exceed it.

The Central Bank does not want to compete with People Bank of China, which has previously tested a digital yuan in key cities like Shenzhen and Shanghai.

However, Covid-19 has accelerated the death of physical cash: According to an ECB survey of eurozone individuals conducted last year, over nine out of ten people stated they would either definitely or probably pay less in cash as a result of the virus.

A significant question for Lagarde and her colleagues will be whether the central bank’s digital cash drains too many deposits from commercial banks, which are critical for channeling credit to families and companies.

According to a UBS survey of central bank reserve managers, the most-cited possible threat is that digital coins could disintermediate banks, possibly undermining financial stability.

In Europe, this would have extremely bad economic implications. According to Morgan Stanley economists, the region’s banks provide three-quarters of a company’s financing needs; in the United States, capital markets provide the same amount of corporate financing.

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