The future of digital finance rests on public money, not private

IN 2008, an obscure Internet manifesto introduced a new vision of money that promised to make central banks obsolete.

The tech-futurist ambitions of Bitcoin’s pseudonymous creator, Satoshi Nakamoto, captured the public imagination, and sparked the wild booms and busts of unbacked crypto assets.

More recently, the focus has been shifting towards the use of crypto’s underlying technologies – tokenisation and distributed ledgers – in mainstream finance.

These innovations enable assets such as bonds, shares or deposits to be represented, recorded and transferred as digital packets of data, or tokens.

Combining distributed ledgers with tokenisation promises a new, more efficient way of offering financial services, around the clock and with far fewer intermediaries than today.

This technological shift is beginning to reshape finance. But the consequences will be different from the predictions made by Nakamoto.

As finance becomes more digital, it will depend more, not less, on a widely trusted public form of money. Central banks are not going to become irrelevant anytime soon. Let me explain why.

Every transaction, from buying a used car to trading bonds, is complete only when the buyer receives the asset they purchased and the seller receives money they trust. This is called settlement.

If the seller cannot fully rely on the asset they are paid with – if they receive an IOU, for example, or a voucher from a company they have never heard of – they are exposed to the risk that the issuer could default. This risk reduces the convenience of the deal.

Trustworthy settlements

Central banks are the only institutions that issue risk-free settlement assets everyone can trust.

This is particularly important for wholesale markets, in which banks and other institutions routinely process daily trades worth billions of euros. It is crucial that these trades are made using a universally accepted settlement asset that carries no risk.

Today, retail and wholesale transactions are typically concluded between the respective banks of the payer and the payee via an exchange of the safest settlement asset you can think of: central bank money.

Now, ask yourself whether this will change because the technology we use to move money is evolving.

Tokenisation can transform the way assets are issued, traded and managed. It can automate transactions, remove intermediaries and compress into seconds the processes that previously took days.

For that transformation to happen, though, investors will require a safe settlement asset.

The types of money currently available on distributed-ledger technology do not fit the bill: stablecoins and tokenised deposits carry intrinsic credit risk, while Bitcoin and other unbacked cryptocurrencies are nobody’s liability and subject to wild price swings.

At the European Central Bank (ECB), we draw one fundamental lesson from all this. We want to create the conditions to enable this new technology to unlock safer, more efficient and resilient markets.

Providing central bank money in tokenised form – a common monetary anchor that offers safety and universal acceptance – is at the centre of this vision.

Throughout history, the most successful financial systems have rested on a common foundation: Banks, payment-service providers and financial companies compete with one another, but they all operate within a system in which a public authority – be it a king putting his face on coins, or a central banker signing banknotes – guarantees trust in money.

We should therefore take the efficiency gains made possible by tokenisation and distributed-ledger technology, and pair them with the trust, safety and universal acceptance of central bank money.

The future of digital money

This is precisely the idea behind our Pontes initiative, which went live on Monday (Sep 21).

Pontes connects the platforms on which tokenised assets are issued and traded with the system in which trades are already settled using central bank money.

This gives the next generation of financial assets the same solid foundation that traditional finance is built upon.

And this is only the first step.

By 2028, we aim to make tokenised central bank money directly available on the same blockchain where assets sit, bringing all the advantages of digital ledger technology – including round-the-clock trading – to the backbone of Europe’s financial system.

And we are working to create an integrated landscape for digital assets from the outset, with shared standards in borders and platforms, thereby avoiding the fragmentation that has been holding back Europe’s capital markets.

Of course, as in the traditional set-up, there will still be forms of money that complement central bank money; stablecoins and tokenised deposits are cases in point.

But even the widespread use of these private assets for settlement requires central bank money in tokenised form: to facilitate convertibility between those assets, avoid a fragmentation of liquidity and, most importantly, ensure that one euro is worth one euro, whatever form it takes or technology it uses – a principle that central bankers call “singleness of money”.

To ensure the efficiency gains from tokenisation are ultimately passed on to the general public, issuers and investors, healthy competition is needed.

It is important to avoid the emergence of walled gardens that benefit only a few. With this in mind, central banks are promoting shared standards and network interoperability.

If we get this right, the cost of financial intermediation, which has remained roughly constant at around 2 per cent since the late 19th century, could finally start falling.

Let us go back to that manifesto from 2008.

The early crypto movement may have imagined a world with no central banks, where finance could operate without governments, public institutions or trusted intermediaries.

But the financial system now taking shape indicates a different destination.

The history of digital finance is often presented as an attempt to escape public money, but all along it may have been a search for a better way to use it.

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The writer is a member of the ECB’s executive board and chair of the euro area task force on the digital euro