Lost your electronic money? Bad luck.

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If electronic money is cash, it can be lost. And that’s how it should be.

If you want to have central bank digital currency that is a form of electronic money, it is value that can be transferred from person to person (or, more accurately, device to device. ) without online access to a central database or blockchain or whatever, then you have the obvious problem that if the device holding the electronic cash is lost or destroyed, the value is lost or destroyed with him.

But is this really a problem? I mean, should we try to design a digital currency so that if it can be recovered? Maybe it’s better if it can be lost.

One of the problems that central banks face when looking at the digital currency problem and considering the various characteristics of a practical currency as applied to their situation, is that of the “flight to quality”. “. In other words, there is a reasonable fear that if public confidence in commercial banks is shaken for whatever reason (financial crisis, massive fraud, social media rumors and that sort of thing), then rational consumers would withdraw their deposits and hold them in central bank digital currency.

We don’t need to go over all of that here, except to know that central bankers’ concern is real, although the impact may not be as big as some of them think. fear. The Bank of Israel, for example, comes published a detailed analysis simulations in this area one that concludes that although a flight to quality can have a negative impact on the profitability of the banking system, in reasonable scenarios, the stability of the system is not a concern. In exceptional circumstances, however, public holdings of digital currency must be limited in some way.

Limited how, though? One option, as expressed by the European Central Bank (ECB), is to limit the amount of digital currency an individual or business can hold. But another way could be to limit the recovery of losses.

Let me explain by first asking the following question: why don’t people withdraw all their savings from their bank accounts at zero interest (or in some places, negative interest rates) and keep everything this in cash anyway? We know from detailed research that even when interest rates turn significantly negative, the costs and risks of holding cash remain high and deposits remain in the commercial banking system.

Now, obviously, you could argue that the costs of holding and managing digital currency in the form of e-money would be lower than the costs of holding and managing physical banknotes and you could well be right. But to hold significant amounts of electronic cash, as the cryptocurrency industry has discovered, you need significant expenditures on security, custody, governance, and recovery strategies.

It’s not enough to do like me and put your bitcoin on a USB stick, wrap it in foil and bury it in the backyard. After all, what if I forget where I buried him? What if it’s dug up by a badger and taken away by a magpie?

Charles Khan and his colleagues have put forward an interesting proposal to limit the propensity to hold e-money online by setting expiration dates. In an article titled “Best Before: Personal Loss Recovery for Offline Digital Moneythey suggest that when you withdraw money from the banking system and store it as electronic money on your phone, it should come with an expiration date. If you haven’t spent the money by the time that date arrives, the money is automatically removed from your device and automatically reappears in your bank account. So if you drop your phone in the ocean, you don’t have to worry about getting your money back: it will happen automatically.

It’s a really interesting proposition, and it would mean that in exceptional circumstances, I could transfer my money to my flash drive with confidence, knowing that if the dog eats the flash drive, I won’t be a loser.

tough love

Is this really what we want? After all if I lose my wallet while out jogging today, even if I had taken the elementary precaution of noting down the serial numbers of the £50 notes stuffed in it, I wouldn’t be able to go to the bank. England and ask for replacements. It seems to me that treating the loss of electronic cash like the loss of physical cash has a logical consistency that will resonate with consumers, while simultaneously reducing the appeal of holding substantial amounts of cash outside of commercial banks.

If I know losing my phone means losing the money on it, I’m unlikely to have more on my phone than I need for transactional purposes. Of course, there are many other reasons for not wanting to lose my phone, but these are related to identity and not money. Note this comment from this unfortunate Chinese resident regarding the plan to put national ID cards on smartphones, after spending a day re-registering services on a new phone: “while this is much more convenient, the problem is also more serious if you lose your phone” .

While we’re talking about China, by the way, my good friend Brett King has commissioned consumer interviews for his excellent break the banks radio show to find out what the “man on the street” in China thinks about e-CNY, the Chinese central bank’s digital currency.

I couldn’t help but notice that some of the Chinese digital currency users who were interviewed touched on precisely this point, about the balance between transactional assets and reserves. As one said about his e-CNY app, “The interface is relatively simple and the operation is very smooth, but the charging process is too troublesome.” Why is the charging process so important? This is because, as this consumer continued, “e-CNY is money, it has no interest and the balance in his wallet will not be too large”.

Since the revealed preference of these Chinese consumers is to want to maintain a balance for transactional purposes only, but find it annoying and inconvenient to transfer money between bank accounts and digital wallets, the way natural is to have a smart wallet. that for them.

Given the miracle of open banking, it shouldn’t be a problem for my phone wallet to take care of acquiring the funds it needs to provide the necessary liquidity without manual intervention, since the wallet can just go get money from my bank when he needs it.

Smart Wallets

Richard Turrin, who wrote the book “Cashless: China’s Digital Currency Revolution“, told me that one of the Chinese banks has already launched an automatic “top-up” and “push-to account” function so that if your balance is low, it pushes the money to e-CNY until to a minimum amount, then if you receive e-CNY it will push it to your bank account if the balance exceeds a maximum account.

A smart wallet could go much further. Even a modicum of AI goodness in a smart wallet would mean it could go beyond reactive top-ups and automatic swipes! He should be able to predict with some certainty how much money he’ll need to have for me to buy a sandwich when I’m on the go. And, as the Bank of Israel’s analysis notes, there is no systemic risk to the banking system if the electronic money the public holds is for transactional purposes (although, of course, it there is a risk to banks’ profits if interchange revenues evaporate) so it clearly makes sense to make this an integral part of wallet functionality.

It seems to me that as a normal consumer this is more than enough set of arrangements. I won’t really be bothered with electronic money management. If I tell my phone to send twenty pounds to my brother, it will be invisible to me as the phone goes to the bank and withdraws the £20 in digital sterling, sends that digital sterling over the internet to my brother’s wallet, then to my brothers wallet can go to the bank and deposit it.

(It will look like the £20 went from my bank account to my brother’s account, which he has, but at no time will that £20 go anywhere near SWIFT or Fed Now or any other infrastructure of the banking system.)

I can see the appeal of trying to think of ways to help people get their hard-earned e-money back from the phone that fell in the toilet or the laptop they dropped on the floor or the car that was stolen from the driveway. But I think that’s a misplaced concern and it’s best to focus on providing secure, efficient, and convenient offline device-to-device value transfer as an infrastructure, and then if people want to add insurance, escrow or other protective services on top of these basic infrastructure services, then it’s up to them.

Ultimately, if you lose your wallet, you lose your money. If you lose your phone, so should it. And that is how central bank digital currency should work.

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