How Central Banks Think About Digital Currency
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How Central Banks Think About Digital Currency

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How Central Banks think about Digital Currency

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How Central Banks Think About Digital Currency

In the late 1600s, the introduction of bank notes changed the financial system forever. Fast forward to today, and another monumental change is expected to occur through central bank digital currencies (CBDC).

A CBDC adopts certain characteristics of everyday paper or coin currencies and cryptocurrency. It is expected to provide central banks and the monetary systems they govern a step towards modernizing.

But what exactly are CBDCs and how do they differ from money we use today?

The ABCs of CBDCs

To better understand a CBDC, it helps to first understand the taxonomy of money and its overlapping properties.

For example, the properties of cash are that it’s accessible, physical and digital, central bank issued, and token-based. Here’s how the taxonomy of money breaks down:

  • Accessibility: The accessibility of money is a big factor in determining its place within the taxonomy of money. For instance, cash and general purpose CBDCs are considered widely accessible.
  • Form: Is the money physical or digital? The form of money determines distribution and the potential for dilution, and future CBDCs issued will be completely digital.
  • Issuer: Where does the money come from? CBDCs are to be issued by the central bank and backed by their respective governments, which differs from cryptocurrencies which mostly have no government affiliations.
  • Technology: How does the currency work? CBDCs break down into token-based and account-based approaches. A token-based CBDC operates like banknotes today, where your information is not known nor needed by a cashier when accepting your payment. An account-based system, however, requires authorization to partake on the network, akin to paying with a digital wallet or card.

Digital Currency vs Digital Coins

In essence, digital currency is the electronic form of banknotes that exists today. Therefore, it’s viewed by some as a modern and efficient version of the cash you hold in your wallet or purse.

On the other hand, cryptocurrencies like Bitcoin are a store of value like gold that is secured by encryption. Cryptocurrencies are privately owned and fueled by blockchain technology, compared to digital currencies which do not use decentralized ledgers or blockchain technology.

Digital Currency: Regulatory Authority and Stability

Digital currencies are issued by a central bank, and therefore, are backed by the full power of a government. According to the Bank for International Settlements, over 20% of central banks surveyed say they have legal authority in issuing a CBDC. Almost 10% more said laws are currently being changed to allow for it.

As more central banks issue digital currencies, there’s likely to be favorability between them. This is similar to how a few currencies like the U.S. dollar and Euro dominate the currency landscape.

The Benefits of Issuing a CBDC

There are several positives regarding the issuance of a CBDC over other currencies.

First, the cost of retail payments in the U.S. is estimated to be between 0.5% and 0.9% of the country’s $20 trillion in GDP. Digital currencies can flow much more effectively between parties, helping reduce these transaction fees.

Second, large chunks of the global population are still considered unbanked. In this case, a CBDC opens avenues for people to access the global financial system without a bank. Even today, 6% of Americans do not have a single bank account.

Other motivations for a CBDC include:

  • Financial stability
  • Monetary policy implementation
  • Increased safety, efficiency, and robustness
  • Limit on illicit activity

An example of payments efficiency can be seen during the onset of the COVID-19 pandemic, when some Americans failed to receive their stimulus check. Altogether, some $2 billion in funds have gone unclaimed. A functioning rollout of a CBDC and a more direct relationship with citizens would minimize such a problem.

Status of CBDCs

Although widespread adoption of CBDCs is still far away, research and experiments are making notable strides forward:

  • 81 countries representing 90% of global GDP are exploring CBDCs.
  • The share of central banks actively engaging in CBDC work grew to 86% in the last 4 years.
  • 60% of central banks are conducting experiments on CBDCs (up from 42% in 2019) and 14% are moving forward to development and pilot arrangement.
  • The Bahamas is one of five countries currently working with a CBDC – the Bahamian Sand Dollar.
  • Sweden and Uruguay have shown interest in a digital currency. Sweden began testing an “e-krona” in 2020, and Uruguay announced tests to issue digital Uruguayan pesos as far back as 2017.
  • The People’s Bank of China has been running CBDC tests since April 2020. In all, tens of thousands of citizens have participated, spending 2 billion yuan, and the country is poised to be the first to fully launch a CBDC.

The U.K. central bank is less optimistic about a rolling out a CBDC in the near future. The proposed digital currency—dubbed “Britcoin”—is unlikely to arrive until at least 2025.

Disrupting The World of Money

Wherever you look, technology is disrupting finance and upending the status quo.

This can be seen through the rising market value of fintech firms, which in some cases are trumping traditional financial institutions in value. It is also evident in the rapid rise of Bitcoin to a $1 trillion market cap, making it the fastest asset to do so.

With the rollout of central bank digital currencies on the horizon, the next disruption of financial systems is already beginning.

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Personal Finance

Mapped: Personal Finance Education Requirements, by State

Only 22.7% of U.S. students are required to take a personal finance course. Which states have the highest levels of personal finance education?

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The Percentage of Students Receiving Personal Finance Education

When you graduated from high school, did you know how to create a budget? Did you have an understanding of what stocks and bonds were? Did you know how to do your own taxes?

For many Americans, the answer to these questions is probably a “no”. Only 22.7% of U.S. high school students are guaranteed to receive a personal finance education. While this is up from 16.4% in 2018, this still represents a small fraction of students.

This graphic uses data from Next Gen Personal Finance (NGPF) to show the percentage of high school students required to take a personal finance course by state.

A Closer Look at State-level Personal Finance Education

A standalone personal finance course was defined as a course that was at least one semester, which is equivalent to 60 consecutive instructional hours. Here’s the percentage of students in each state who have a required (not optional) personal finance course.

State/Territory% of Students Required to Take Personal Finance Course
Mississippi100.0%
Missouri100.0%
Virginia100.0%
Tennessee99.7%
Alabama99.6%
Utah99.6%
Iowa91.3%
North Carolina89.2%
Oklahoma47.1%
New Jersey43.0%
Nebraska42.8%
Kansas40.8%
Wyoming38.3%
Arkansas34.6%
Wisconsin33.5%
South Dakota27.1%
Ohio23.5%
Pennsylvania16.2%
Maine15.6%
Rhode Island14.8%
Connecticut14.7%
Illinois13.9%
Maryland12.5%
North Dakota12.2%
Vermont12.1%
Nevada11.0%
Indiana10.9%
Oregon7.5%
Minnesota6.9%
Montana6.9%
New Hampshire6.0%
Kentucky5.5%
Colorado5.4%
Delaware5.0%
Massachusetts5.0%
West Virginia3.2%
Louisiana2.7%
Washington2.4%
Texas2.2%
New York2.0%
Michigan1.7%
Idaho1.4%
Arizona1.0%
California0.8%
South Carolina0.8%
Alaska0.6%
Florida0.4%
New Mexico0.4%
Georgia0.0%
Hawaii0.0%
Washington, D.C.0.0%

Eight states currently have state-wide requirements for a personal finance course: Alabama, Mississippi, Missouri, Iowa, North Carolina, Tennessee, Utah, and Virginia. Naturally, the level of personal finance education is highest in these states.

Five states have begun the process of implementing a requirement, with Florida being the most populous state yet to guarantee personal finance education for high schoolers. The state previously required schools to offer a personal finance course as an elective, but only 5% of students took the course.

Outside of the guarantee states, only 9.3% of students are required to take a personal finance course. That number drops to 5% for schools that have a high percentage of Black or Brown students, while students eligible for a free or reduced lunch program (i.e. lower income students) also hover at the 5% number.

Why is Personal Financial Education Important?

The majority of Americans believe parents are responsible for teaching their children about personal finance. However, nearly a third of parents say they never talk to their children about finances. Personal finance education at school is one way to help fill that gap.

People who have received a financial education tend to have a higher level of financial literacy. In turn, this can lead to people being less likely to face financial difficulties.

Chart showing that people with low financial literacy are more likely to face financial difficulties, such as being unable to cover an unexpected $2,000 expense, compared to people with high financial literacy

People with low levels of financial literacy were five times more likely to be unable to cover one month of living expenses, when compared to people with high financial literacy. Separate research has found that implementing a state mandate for personal finance education led to improved credit scores and reduced delinquency rates.

Not only that, financial education can play a key role in building wealth. One survey found that only one-third of millionaires averaged a six-figure income over the course of their career. Instead of relying on high salaries, the success of most millionaires came from employing basic personal finance principles: investing early and consistently, avoiding credit card debt, and spending carefully using tools like budgets and coupons.

Expanding Access to Financial Education

Once the in-progress state requirements have been fully implemented, more than a third of U.S. high school students will have guaranteed access to a personal finance course. Momentum is expanding beyond guarantee states, too. There are 48 personal finance bills pending in 18 states according to NGPF’s financial education bill tracker.

Importantly, 88% of surveyed adults support personal finance education mandates—and most wish they had also been required to take a personal finance course themselves.

When we ask the next generation of graduates if they understand how to build a budget, it’s more likely that they will confidently say “yes”.

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Markets

Charted: U.S. Consumer Debt Approaches $16 Trillion

Robust growth in mortgages has pushed U.S. consumer debt to nearly $16 trillion. Click to gain further insight into the situation.

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Charted: U.S. Consumer Debt Approaches $16 Trillion

According to the Federal Reserve (Fed), U.S. consumer debt is approaching a record-breaking $16 trillion. Critically, the rate of increase in consumer debt for the fourth quarter of 2021 was also the highest seen since 2007.

This graphic provides context into the consumer debt situation using data from the end of 2021.

Housing Vs. Non-Housing Debt

The following table includes the data used in the above graphic. Housing debt covers mortgages, while non-housing debt covers auto loans, student loans, and credit card balances.

DateHousing Debt
(USD trillions)
Non-Housing Debt
(USD trillions)
Total Consumer Debt
(USD trillions)
Q1 20035.182.057.23
Q2 20035.342.047.38
Q3 20035.452.107.55
Q4 20035.962.108.06
Q1 20046.172.138.30
Q2 20046.342.128.46
Q3 20046.642.208.84
Q4 20046.832.229.05
Q1 20057.012.199.20
Q2 20057.232.269.49
Q3 20057.452.359.80
Q4 20057.672.3410.01
Q1 20068.022.3610.38
Q2 20068.352.4010.75
Q3 20068.652.4611.11
Q4 20068.832.4811.31
Q1 20079.032.4611.49
Q2 20079.332.5311.86
Q3 20079.562.5812.14
Q4 20079.752.6312.38
Q1 20089.892.6512.54
Q2 20089.952.6512.60
Q3 20089.982.6912.67
Q4 20089.972.7112.68
Q1 20099.852.6812.53
Q2 20099.772.6312.40
Q3 20099.652.6212.27
Q4 20099.552.6212.17
Q1 20109.532.5812.11
Q2 20109.382.5511.93
Q3 20109.282.5611.84
Q4 20109.122.5911.71
Q1 20119.182.5811.76
Q2 20119.142.5811.72
Q3 20119.042.6211.66
Q4 20118.902.6311.53
Q1 20128.802.6411.44
Q2 20128.742.6411.38
Q3 20128.602.7111.31
Q4 20128.592.7511.34
Q1 20138.482.7511.23
Q2 20138.382.7711.15
Q3 20138.442.8511.29
Q4 20138.582.9411.52
Q1 20148.702.9611.66
Q2 20148.623.0211.64
Q3 20148.643.0711.71
Q4 20148.683.1611.84
Q1 20158.683.1711.85
Q2 20158.623.2411.86
Q3 20158.753.3112.06
Q4 20158.743.3712.11
Q1 20168.863.3912.25
Q2 20168.843.4512.29
Q3 20168.823.5412.36
Q4 20168.953.6312.58
Q1 20179.093.6412.73
Q2 20179.143.6912.83
Q3 20179.193.7712.96
Q4 20179.323.8213.14
Q1 20189.383.8513.23
Q2 20189.433.8713.30
Q3 20189.563.9513.51
Q4 20189.534.0113.54
Q1 20199.654.0213.67
Q2 20199.814.0613.87
Q3 20199.844.1313.97
Q4 20199.954.2014.15
Q1 202010.104.2114.31
Q2 202010.154.1214.27
Q3 202010.224.1414.36
Q4 202010.394.1714.56
Q1 202110.504.1414.64
Q2 202110.764.2014.96
Q3 202110.994.2415.23
Q4 202111.254.3415.59

Source: Federal Reserve

Trends in Housing Debt

Home prices have experienced upward pressure since the beginning of the COVID-19 pandemic. This is evidenced by the Case-Shiller U.S. National Home Price Index, which has increased by 34% since the start of the pandemic.

Driving this growth are various pandemic-related impacts. For example, the cost of materials such as lumber have seen enormous spikes. We’ve covered this story in a previous graphic, which showed how many homes could be built with $50,000 worth of lumber. In most cases, these higher costs are passed on to the consumer.

Another key factor here is mortgage rates, which fell to all-time lows in 2020. When rates are low, consumers are able to borrow in larger quantities. This increases the demand for homes, which in turn inflates prices.

Ultimately, higher home prices translate to more mortgage debt being incurred by families.

No Need to Worry, Though

Economists believe that today’s housing debt isn’t a cause for concern. This is because the quality of borrowers is much stronger than it was between 2003 and 2007, in the years leading up to the financial crisis and subsequent housing crash.

In the chart below, subprime borrowers (those with a credit score of 620 and below) are represented by the red-shaded bars:

Mortgage originations by Credit Score

We can see that subprime borrowers represent very little (2%) of today’s total originations compared to the period between 2003 to 2007 (12%). This suggests that American homeowners are, on average, less likely to default on their mortgage.

Economists have also noted a decline in the household debt service ratio, which measures the percentage of disposable income that goes towards a mortgage. This is shown in the table below, along with the average 30-year fixed mortgage rate.

YearMortgage Payments as a % of Disposable IncomeAverage 30-Year Fixed Mortgage Rate
200012.0%8.2%
200412.2%5.4%
200812.8%5.8%
20129.8%3.9%
20169.9%3.7%
20209.4%3.5%
20219.3%3.2%

Source: Federal Reserve

While it’s true that Americans are less burdened by their mortgages, we must acknowledge the decrease in mortgage rates that took place over the same period.

With the Fed now increasing rates to calm inflation, Americans could see their mortgages begin to eat up a larger chunk of their paycheck. In fact, mortgage rates have already risen for seven consecutive weeks.

Trends in Non-Housing Consumer Debt

The key stories in non-housing consumer debt are student loans and auto loans.

The former category of debt has grown substantially over the past two decades, with growth tapering off during the pandemic. This can be attributed to COVID relief measures which have temporarily lowered the interest rate on direct federal student loans to 0%.

Additionally, these loans were placed into forbearance, meaning 37 million borrowers have not been required to make payments. As of April 2022, the value of these waived payments has reached $195 billion.

Over the course of the pandemic, very few direct federal borrowers have made voluntary payments to reduce their loan principal. When payments eventually resume, and the 0% interest rate is reverted, economists believe that delinquencies could rise significantly.

Auto loans, on the other hand, are following a similar trajectory as mortgages. Both new and used car prices have risen due to the global chip shortage, which is hampering production across the entire industry.

To put this in numbers, the average price of a new car has climbed from $35,600 in 2019, to over $47,000 today. Over a similar timeframe, the average price of a used car has grown from $19,800, to over $28,000.

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