The path towards a digital euro – so close and yet so far

The euro continues to be a symbol of Europe’s unity and strength. For more than two decades, people and businesses have become accustomed to paying with euro coins and banknotes. Yet, we live in a world in which more and more financial transactions are carried out through purely digital means – a veritable cashless society.

While this momentum grows and digital payments become increasingly standardised, it’s noteworthy that in the EU, a significant number of sales still take place offline, with cash being the predominant mode of payment. However, thanks to the level of convenience they offer, both online shopping and cashless electronic payments are booming and are among the key drivers of the digital transformation taking place in our economy and society. Their popularity among younger generations and strong EU-level policy support for digital transformation are also helping boost their prospects.

Digital currencies

In the landscape of digital currencies, understanding their underlying value and mechanism is key to distinguishing between them. Broadly, digital currencies can be grouped into two main categories: digital representations of fiat currencies and cryptographic tokens.

Fiat currencies, such as the euro or the dollar, derive their value from the trust and confidence of the people who use it. When we talk about a digital version of fiat currency, we mean that its value remains tethered to the traditional financial and banking system. On the other hand, cryptographic tokens, often suffering from the generalised misnomer of cryptocurrencies, derive value from various sources: the technology they’re based on, the demand and supply dynamics of the market, and sometimes even speculative behavior.

Now, let’s delve deeper into Central Bank Digital Currencies (CBDCs). CBDCs are a type of digital fiat currency and can be bifurcated into wholesale and retail forms.

Wholesale CBDCs

These are restricted to use by financial institutions that hold reserve deposits with a central bank. They are envisioned primarily to enhance the efficiency of high-value interbank payments and securities transactions. In essence, they’re the digital evolution of reserves held at the central bank.

Retail CBDCs

These are meant for the general public, allowing individuals and businesses to hold and make transactions directly with the digital currency.

Digital euro

The digital euro would be one such CBDC, issued by the European Central Bank (ECB) and available to the general public. Like cash, each digital euro held by consumers would be directly backed by the ECB. It would be distributed to citizens and businesses by banks and other payment service providers.

Currently, only euro banknotes and coins have legal tender status in the euro area. Legal tender entails the mandatory acceptance of cash, at full face value, with the power to discharge from a payment obligation. To this end the digital euro has to be granted such legal tender status.

Unlike crypto-assets, the digital euro would operate under the aegis of central bank money. The ECB would strive to ensure its safety, aim to maintain a stable value, and facilitate its exchange at face value for euro cash. While the central bank provides a strong institutional foundation for stability, it’s essential to remember that all currencies, digital or physical, can face challenges in unprecedented economic scenarios. In contrast, crypto-assets, which are not backed by any central authority, can experience significant value fluctuations, and their conversion into euro cash or even commercial bank money is not always assured.

The ‘Single Currency Package’ (SCP)

On 28 June 2023, the European Commission (the Commission) published two legislative proposals of what is being termed the ‘Single Currency Package’ (SCP). The proposals are aimed at ensuring that individuals and businesses can continue to access and pay with euro banknotes and coins across the euro area, whilst setting out a framework for a possible new digital form of the euro that the ECB could choose to issue in the future, as a complement to cash.

Impact assessments related to the proposals find two core issues here. Firstly, in a digitized economy, especially with the growth of e-commerce and the emerging Industry 4.0 technologies like machine-to-machine payments, a physical euro falls short in offering seamless transactions. Secondly, there’s an emerging trend of non-euro CBDCs and other innovative payment methods that could reduce the euro’s market share in its own region. In light of these concerns, a roadmap has been outlined for the digital euro’s integration. Various options for a digital euro’s regulation were considered. Key among these include:

Legal Tender Status: The digital euro should have legal tender status, ensuring its universal acceptance across the EU. This measure is in line with a parallel proposal that aims to regulate the legal tender status of physical cash.

Fee Structure: The ECB would standardize fees by publishing the maximum permissible fees and inter-PSP (Payment Service Provider) charges. This transparency will benefit both consumers and financial institutions.

Privacy and Data Protection: A paramount concern is the privacy of transactions. For low-value, offline transactions, personal data related to a user’s identity will be processed only at the digital euro account’s initiation. Importantly, transaction details won’t be disclosed to the payment service providers. For online transactions, protocols would mirror those of current private digital payments, in accordance with Anti-Money Laundering and Counter-Financing of Terrorism (AML/CFT) requirements.

Financial Stability: To prevent financial disruptions, the ECB would possess tools to regulate the digital euro’s store of value function, ensuring that it remains within defined, reasonable limits.

Accessibility: Initially, the digital euro would be accessible to residents or businesses established in the euro area. However, there’s potential for future expansion to non-euro area member states and even third countries, provided they enter into specific agreements. This is a safeguard to mitigate potential financial stability and monetary sovereignty risks.

By adopting these measures, the digital euro aims to modernize the European financial system. The overarching goal is to offer the public a broader array of payment choices, ensuring that central bank money remains a viable option in the digital age. Additionally, it seeks to bolster confidence in the monetary system, providing a reliable, digital counterpart to the trust we’ve long held in physical cash.

Speaking of cash, another aspect being emphasized in the proposals is the principle of its mandatory acceptance, which should not be undermined by the unilateral imposition of ‘no-cash’ policies on consumers by businesses. Therefore, it is envisaged that the eventual regulatory framework will require Member States to monitor cash acceptance and refusal levels, to report them to the Commission and the ECB and to take measures if acceptance of cash is not ensured.

This proposal also aims to preserve the financial inclusion of vulnerable groups who tend to rely more on cash payments, such as senior citizens, persons with lower income or digital skills, and those with no access to bank accounts, such as asylum seekers and refugees. The premise is that everyone in the euro area would be free to choose their preferred payment method and have access to basic cash services.

Benefits

The digital euro will ensure that people, businesses and public entities continue to have access to a public form of digital money for payments. This will avoid the necessity of relying on private solutions. Compared to existing private digital payments solutions, the digital euro will make payments possible wherever you are in the euro area, with payments being sent and received instantly 24/7, 365 days a year. It will also provide the possibility to pay without access to the internet, as long as you’re within physical proximity to the other party of the transaction, whether that be a person or a store (so-called “offline digital euro”). In this sense, consumers, businesses, and public entities would be able to make and receive payments even in remote areas with unreliable internet connection and in case of a shortcoming of communication networks or power infrastructures.

More to be done

While the ongoing discourse places much emphasis on the ubiquity and guaranteed acceptance of cash, there’s another side of the coin worth considering. In many nations, while cash remains a universally accepted medium, digital payments are not always as widely catered for. Factors such as merchant transaction fees, technical glitches, or lack of infrastructure can sometimes hinder the seamless adoption of electronic transactions.

In Sweden, a nation at the forefront of the cashless movement, there has been a pushback and concern over the rapid disappearance of cash, especially given the challenges faced by older residents, tourists, and people without access to digital banking.

If adopted, the legislative proposal should not only regulate the essential elements of a possible digital euro but also address these gaps and challenges.