From my vantage point, the key takeaway for liquidity provision is to consider how, in the context of the remuneration paid on these instruments and other features, demand for central bank liabilities might evolve and how it could shift in different environments. Again, this requires holistic thinking about the ecosystem in which both private and public digital currencies operate. Pillar 3: Liquidity facilities and backstops The third pillar of interest rate control is liquidity backstops. In most frameworks the supply of central bank liabilities and their rates of remuneration are the primary means of interest rate control. However, occasional shocks occur in money markets, and central banks provide liquidity backstops that promote interest rate control and smooth market functioning. In an environment with new public and private digital currencies, liquidity backstops for traditional banks may become even more important. As I noted, digital currencies could create competition for commercial bank deposits. This could enhance market efficiency and improve transmission of monetary policy, but it may also lead to swings in deposit flows that could unexpectedly shift a commercial bank’s liquidity position. This could in turn increase the potential for occasional variability in overnight rates and the need for central bank liquidity facilities. However, liquidity risk will also be an important consideration for new entrants, such as stablecoin issuers. Stablecoins backed entirely by central bank reserves would be less susceptible to liquidity risk than those backed with other assets.
Currently, over 60 jurisdictions have launched faster payment services.5 In addition, central banks are building expertise and investing in technology to examine the potential applicability of CBDCs.6 Monetary Policy Implementation in An Evolving Monetary System As we consider the potential impact of this array of innovations, it is useful to start with a view into the current monetary system. For decades, central bank reserve balances have been the safest and most liquid asset, at the core of a smoothly operating financial system. Most economies operate with two-tier monetary systems, in which households and businesses hold and make payments  Regulation, supervision, and deposit insurance help keep commercial bank money safe. In turn, deposits fund growth in the economy through loans to households and businesses. And central banks provide liquidity backstops to ensure that the banking system can meet its liquidity obligations to the public. Most policy implementation frameworks around the world are designed based on this two-tiered system. In these frameworks, central banks control the aggregate supply of their liabilities and the rates at which these liabilities are remunerated, which in turn influences the market interest rates that are transmitted to the economy.7 In considering the impact on implementation frameworks of an environment including private and public digital currencies, I would like to raise two key questions that central banks might consider. First, what are the implications for the tools of interest rate control? And second, how might the central bank balance sheet adapt?