The Bank of Japan (BoJ) responded by reducing overnight interest rates from a peak of more than 8 percent in early 1991 to ½ a percent by the fall of 1995.2 Most studies of this period suggest that policy was generally appropriate given economic forecasts at the time, but too tight relative to the actual outcomes.3 Economic forecasts for Japan – both by the official community and by private sector agents – were consistently more optimistic than the actual outturns. It is noteworthy that as late as January 1995 – on the eve of deflation – 10-year Japanese Government Bond (JGB) yields were still at 4.7 percent. With the benefit of hindsight, we now understand that the disinflationary consequences of the asset price bust and financial stress where vastly more powerful than was widely realized at the time. As we later saw in the U.S., the forces of contraction and disinflation operated through many different channels – not just directly on household wealth, for example, but also through the impact of the asset price bust on the health of financial intermediaries and the supply of credit to households and businesses. Over time, the Japanese banking system came under mounting stress. This was a slowmotion crisis, as the assets were mainly loans that were not marked-to-market. Accounting practices and regulatory forbearance allowed banks to delay charging off bad loans and recapitalizing at the cost of impairing the availability of credit to new potential borrowers. A full-blown banking crisis finally materialized in 1997.
No decision has yet been made regarding its issuance or its final design, but we launched the investigation phase of the project last year in order to ensure we are prepared in the event that future developments warrant its launch. Our work is now focused on deepening the conceptual analysis by assessing the different design options, as well as the distribution model. The first step was to identify the use cases to focus on, namely those that better support the policy objectives of a digital euro and facilitate network effects. Payments in e-commerce and physical stores, as well as person-to-person payments are, clearly, natural candidates. They either represent important market segments or have a clear potential to grow, and they rely heavily either on cash or on non-European providers and technologies. Payments between governments and individuals have also been considered a priority, given their potential synergies with the aforementioned ones. In any case, focusing now on these payment segments does not mean ruling out others, but simply leaving them for future stages. The next step of the analysis has covered what we consider to be the foundational design options. They refer to the way a digital euro should be transferred, the level of privacy and the tools to control excessive use and, hence, limit its impact on the stability of the financial system.