CBDCs Wrongfully Break Down the Separation Between Money and State

Countries that have, until now, not sought to control their citizenry through the financial system should not start down this dangerous path with central bank digital currencies, NYU law professors Richard Epstein and Max Raskin write.

AccessTimeIconJul 27, 2023 at 9:49 p.m. UTC
Updated Jul 28, 2023 at 2:37 p.m. UTC
AccessTimeIconJul 27, 2023 at 9:49 p.m. UTCUpdated Jul 28, 2023 at 2:37 p.m. UTC
AccessTimeIconJul 27, 2023 at 9:49 p.m. UTCUpdated Jul 28, 2023 at 2:37 p.m. UTC

Central banks around the world are accelerating their experiments with issuing digital currency. Whether it’s the New York Fed’s announcement of a successful proof-of-concept, or the Bank of England’s recent completion of the next phase of its digital pound experiment, over 130 countries around the world are toying with issuing central bank digital currency (CBDCs).

And why wouldn’t they? Central banks can announce that they are protecting consumers and introducing cost-saving devices by removing private banking middlemen. And, simultaneously, they gain a whole new tool in their policymaking arsenal.

Yet however tempting it is to remove these middlemen, the key question is who will stand on the other side of the ledger – to which the only answer is a sprawling and inquisitive government that can track every dollar and cent you spend.

Max Raskin is an adjunct professor of law at New York University and a fellow at the school's Institute for Judicial Administration. Richard Epstein is a law professor at New York University, a senior fellow at the Hoover Institution, and a senior lecturer at the University of Chicago.

The basic idea as it stands is that a central bank – say, the Bank of England – would issue a so-called "digital pound" that would represent a direct claim on the central bank – the same way cash is today. (The Bank of England, in fact, has begun to create infrastructure that would allow individuals to use digital wallets to store digital pounds and have those wallets interact with merchants and other users.)

CBDCs would also mark a major change from current practices where central banks like the Federal Reserve and the Bank of England do not offer accounts to direct depositors. Instead, at a huge cost, a private banking system stands between the central bank and the accounts held by businesses and individuals.

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Why think that an influx of thousands of new banker-bureaucrats will perform any better?
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So, on the surface, there is some pull to the claims that central bank digital currencies will decrease unnecessary costs. But these supposed efficiency gains are both illusory and dangerous. Middlemen operate in thousands of markets with agents, aggregators and monitors in virtually every major line of business. These actors cannot be dismissed as obsolete with a shrug of a shoulder.

Middlemen often provide value because they are incentivized to offer more than the bare minimum to differentiate themselves – for instance, through new banking products and services. The suite of services that banks can provide are a result of competitive pressures that ultimately benefit the consumer. Curtailing these forces gums up the market economy.

But beyond creating the wrong incentives, such a scheme is also dangerous – CBDCs would give confidential information and vast power to a faceless government enterprise who can turn that information against you in countless ways. By eliminating the private banking middleman, central bank digital currencies eliminate a key buffer that helps insulate individuals and firms from government prying and overreach.

The use of cash and bearer instruments is not traceable by the central government. The use of digital cash is. Indeed, even individuals who chose to remain with private bankers will still be monitored by the state, which retains information and control over all transactions between direct depositors and outsiders, domestic and foreign.

In addition, the accumulation of these funds will allow central banks, with only modest competition, to direct personal loans and mortgages to favored private parties – with all the dangers attendant to state industrial policies. The nightmare scenarios are not hard to fathom, but difficult to prevent.

No one today is confident that the Internal Revenue Service (IRS) does not target its political adversaries. Why think that an influx of thousands of new banker-bureaucrats will perform any better?

Societal progress?

In laying out its case for the digital pound, the Bank of England reinforced the British government’s commitment to combating climate change, and stated that the digital pound would be designed with that goal in mind.

As an initial matter, why should any topic as controversial and complex as climate change be regulated through the financial system? Financial regulators in the U.S. have also taken it upon themselves to step into political matters like climate change.

If these explicit political goals are on the table, it is not so farfetched for a government-run bank to use its powers to benefit certain preferred energy producers and to punish others through their bank accounts. The ability to effect credits and debits must be a feature of the code proposed by these central banks: This introduces a backdoor system of industrial policy.

If CBDCs go live, solar and wind power, officially favored, could see their bank accounts magically subsidized with no need to attract private investors or to pass through the scrutiny of the private banking system. Bank accounts would become subject to the ballot box, or worse, the bureaucrat.

Anyone – especially political targets – could be unbanked overnight with little recourse. And any efforts at internal supervision runs into Roman poet Juvenal’s classic challenge, as we have repeatedly insisted: who guards the guardians?

In the United States, the early bills proposing a digital dollar were sponsored in the context of providing pandemic stimulus directly to the economy. But the evidence is overwhelming that the system of rushed government payments was extraordinarily wasteful. The same risks apply now when the pandemic is mostly in the rear window. In addition to creating different classes of individuals all vying for “free” cash – such a plan would create short-term incentives for political leaders that generate long-term inflation pressures.

Further, central banks would be able to countercyclical monetary policy, say by giving all individuals in certain regions, or in certain sectors, cash boosts – but this again becomes a dangerous political football.

There should be, of course, every effort to take advantage of new technologies, but only if done in the right way. In our view, articulated in a recent article in the Brown Journal of World Affairs, “money should be a neutral unit of measurement, like inches or kilograms.”

The purpose of what we call a “separation of money and state” is to make all currencies stable over time, so that private parties have less need to devise complex and costly mechanisms like adjustable-rate mortgages to deal with financial instability.

Bitcoin, for instance, has a predetermined supply of no more than 21 million units, which is not governed by any individual institution, but rather by the network’s consensus mechanism. This offers a powerful protection against the dilution of value that no government-centered system could hope to match.

The benefits of such a fixed system would, moreover, offer an added institutional support structure for countries in the developing world seeking to modernize. Countries with demonstrated mismanagement of their monetary systems could use the discipline that comes along with certain forms of digital currency. By adopting bitcoin or some form of programmatic cryptocurrency, a central bank plagued with mismanagement like Zimbabwe’s or Argentina’s, could dollarize in an innovative way.

A fixed monetary policy in the developing world offers tangible economic benefits from increased investment and stability that should be more than welcome to the countries that have courted the ruin of a socialized banking system. Such systems have historically catered to the ruling party, and thus these countries would do well to consider the use of this approach.

On the other hand, relatively prosperous countries that have, until now, not sought to control their citizenry through the financial system, should not start down the dangerous path of a nationalized banking system.


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Richard Epstein

Richard Epstein is a law professor at New York University, a senior fellow at the Hoover Institution and a senior lecturer at the University of Chicago.

Max Raskin

Max Raskin is an adjunct professor of law at New York University and a fellow at the school's Institute for Judicial Administration.


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