The Future of Money — Private Innovation

Kia ora koutou everybody I'm Robbie Taylor, this is my colleague JC Somers and we're here to talk to you about a recent issues paper that we've just released on private innovation in money.

So this issues paper lays out our thinking around issues that are emerging in private innovation in money in New Zealand and we want your feedback on opportunities and risks, how this new emerging area might impact our objectives as The Reserve Bank and steward of money, and what regulatory response is best suited to ensure that the opportunities and risks posed by this innovation are dealt with appropriately.

So first of all we just wanted to talk a little bit about this, frame I suppose, what we're talking about in this context.

So this is the money tree that helps us describe money.

On the left hand you have digital money, left hand side you have digital money.

On the right hand side you have physical money.

Digital money is the money that most people will use day to day but banknotes and coins in the form of cash continue to be a really important form of money in New Zealand.

The other distinction that this this graph makes is between private money and public money or Central Bank money.

So central bank money which is the right hand side, is the money issued by us in the central bank. It's backed by the state in and the government.

On the left-hand side we have private money, so private money is not issued by the central bank, is not backed by us, it's backed by the issuer of that money, and that distinction is really important for people to understand.

In our consultation today we're talking about money on on the left-hand side of this tree, that's private money and we talk about new forms of money that are being issued, so private innovation in money.

This could be crypto which is generally token based or issued by a distributed Ledger technology reflected in in the third tier of that diagram.

 But it also could be a conventional payment technology account based but issued in a new form or with a new business model that provides innovation in that way.

So as stewards for money the Reserve Bank's objectives is to ensure that New Zealand has a reliable and efficient money and payment system that supports innovation and inclusion, and one of the most talked about innovation in the past couple of years has been cryptoassets and some of the cryptoassets claim to provide an alternative to conventional money issued by states or by banks.

And this is a challenge in how people think about money that we use in day-to-day context and it's the role of a Reserve Bank to respond to emerging developments. So we want to think about, well for example,  what additional regulatory powers we might need to appropriately balance these new risks, as well as opportunities.

Now to help you navigate this issues paper we have laid out the structure of the paper at the start and in total we have seven sections and with quite a few appendices with background information that will help you understand the issues.

And we have also included a glossary which explains some of the terms that people might not be too familiar with.

Among these terms a couple of key ones are central bank money as mentioned before is issued by Central Bank, unlike private money issued by banks.

All new type of private money issued by other entities and things like crypto assets which are digital tokens, they can be traded stored and exchanged without needing to go through a traditional payment infrastructure or stablecoin which is a type of crypto asset that tries to maintain its value relative to conventional money like currencies or bank money. Another couple of terms, monetary sovereignty which is really important, as a small nation we nevertheless want to have autonomy and what we want our money to do for New Zealand as a whole and this is a part of the Reserve bank's role as a steward to ensure that we deliver on maintaining our management sovereignty as well as other public policy objectives.

 Now the core drivers of our work are really around you know some some things that some of you might understand. There are some concerns with existing inefficiencies in private money you know. Some people talk to us about the efficiencies they face in managing their bank account and the different payment systems that exist in New Zealand.

There are also a number of perceived benefits that new forms of money might issue and this could include things like their suitability, the perceived suitability in a new more digital economy of the future.

There's also a claims that that cryptoassets present that they are money and the likelihood that in the future that some people might use them in this way. Of course there's the risks that central bank money,  or that markets might emerge they don't have central bank money or other safeguards anchoring that money into the economy. 

The declining use of cash is a really important driver for us when we think about the options that exist to people and how they may - if cash isn't available, they're forced to use other forms of money that might not meet their needs.

And of course we're concerned about the potential impact on Central Bank money as the value anchor of New Zealand's Financial system and the impact of that on monetary sovereignty.

So we have a few priors as we start this start this work, some assumptions that guide us.

First of all competition is really important.

 Competition is about supporting innovation and improving the systems we have.

Choice is another critical underpinning of our work.

When we think about the monetary system of the future we see a system that has central bank money, cash, maybe a Central Bank digital currency as well in the future, and multiple forms of private money circulating and available.

But it's really important that those choices are meaningful ones, people actually can choose to use different forms of money because that supports market discipline and inclusion.

It's really important that new forms of money are trusted. Trust must be very high with these forms of money. People must be able to trust them in the way they can trust central bank money and can trust money in their bank account. And of course in a regulatory sense we think it's really important that the same risk, same regulation principle applies.

Now we're looking at whatever could be used as money but primarily our interest is in significant forms of private money.

This is because those are the sorts of things that really impact everyday New Zealanders. In New Zealand cryptoassets, the uptake of those is not very high and very very low in terms of the use in a monetary sense to buy and sell things. But many New Zealanders have started to use them as a sort of investment or a speculative asset uh particularly over the last couple of couple of years.


And crypto assets have a range of risk compared to conventional money that really need to be managed alongside the opportunities they might present.

Private innovation also has implications for other regulatory regimes in the financial sector and beyond and we're really mindful that our interest as a central bank is not the only interest in this area and other regulators might have an interest too,

Now back to private innovation - it's useful to start by looking at the role banks have in our money and payment system. Tying together businesses of money and payments and banking which provides us with the money we know today.

So banks are trusted, they are regulated and resilient and these are important to underpin the confidence in the New Zealand dollar and we don't want to lose these benefits with new forms of money.

However we do see some opportunities to improve from our current system.

New forms of money can provide more efficient and lower cost means of payments and to meet niche needs that are not well served by the banks. And we want to see if regulations can help support trust in these new forms of money and make sure they are safe for consumers and meet their needs. With small competition and a more open ecosystem we think that this is good for competition and it's good for inclusion and ultimately it benefits all New Zealanders. We see a number of risks for holders and users and this goes beyond just financial risks. There are many anti-money laundering concerns, there are cyber risks and so on.

However as a form of money we're particularly concerned about a lack of value stability, the difficulties in terms of redeeming them for underlying assets or other forms of money and the strengths of the entities that's backing the new forms of private money. And we will also see that new forms money can pose risks to the money and payment systems as a whole, and at least includes competition risks  posed by large entities that will have significant market power and to have the ability to issue money will add significantly to the market dominance and that could lead to some undesirable outcomes. 

We're also concerned about trust across the monetary system. The new forms of money, if we allow them to proliferate without any controls, that might run the risk of fracturing our current monetary system and locals lose the important benefits the money infrastructure bring into the whole economy.

And of course we care about monetary sovereignty, if we do see a significant adoption of non-new Zealand dollar denominated forms of money could impact on our ability to implement independent monetary policy, and this could have implications for the whole economy. While the risk is not immediate we think that as a nation that we want to have a high level of certainty that we do have monetary sovereignty.

Now our proposal is to move forward in two ways. First of all we have a obligation under The Reserve Bank Act to monitor private innovation in money and so we're developing a monitoring framework to make sure we understand how these new forms of money are emerging and being used and are in a position where we could take action if necessary. And the second area is to consider the role of regulation and it's in this area that we really need feedback from you. We want to understand your perspectives on how regulation can be targeted to ensure that balance between risk and opportunity is achieved in an appropriate way.

We do encourage you to read through our issues paper and to email us your thoughts on the private innovation issues that matter to you by 3 April 2023. Thank you for your interest and for your time. Your feedback will help shape the Future of money - Te moni anamata here in Aotearoa. Kia ora.

Sections 1 to 3

• Introduction
• Stewardship of money
• What our stewardship interest captures

Sections 1 to 3 of this paper introduces our stewardship role regarding private money, including the objectives, approach, focuses and scope. 

Section 4

• Opportunities for greater competition and further innovation

Section 4 covers the fundamental opportunities we see in a level playing-field for money and payments, for both existing and new forms of money.

Section 5

• Risks with private innovation in money

Section 5 describes the risks we think would need to be managed if new forms of private money become more widely used.

Section 6

• Our proposed response

Section 6 outlines our proposed response given the current state.

Appendices

The appendices include background material.

This Issues Paper explores Private Innovation in Money with a focus on opportunities and risks this may offer New Zealand, and our ability to meet our objectives as the steward of money.

By private innovation in money, we mean novel arrangements that claim to provide new forms of money or associated services, using new technologies, financial models or organisational forms. Cryptoassets, including stablecoins, are key examples of these arrangements, but they are not the only ones. The use of the Distributed Ledger Technology (DLT) to tokenise bank deposits, for instance, would be another example. Therefore, we intend to take a technology-neutral approach to innovations.

In this Issues Paper, we are seeking feedback on our assessment of:

• the opportunities and risks posed by private innovation in money
• how these innovations might impact our objectives as the steward of money
• what regulatory responses could be required to help deliver those objectives in the context of private innovation in money.

Private innovation in money involves complex issues ranging from financial stability, to consumer protection, to anti-money laundering and other contentious policy areas.

We are working with other members of the Council of Financial Regulators (CoFR) to address cross-cutting risks and shared challenges — for example — regulating Decentralised Autonomous Organisations.

Read the statement of CoFR's position on cryptoassets | Council of Financial Regulators

This Issues Paper is written from the perspective of the Reserve Bank as a steward of money. This perspective means we are primarily interested in the application of innovation to money, or things that are used like money. This stewardship role is derived from section 9(1)(c) of the Reserve Bank of New Zealand Act 2021, and our central banking objective. One of our statutory functions in this area is to monitor technological developments in money under section 116(c)(iv).

Our high-level stewardship objective is that New Zealand has reliable and efficient money and payments systems that support innovation and inclusion.

While central bank money is at the heart of what we do, we also have a strong interest in how the money and payments system works with new and existing forms of private money. At the heart of this system is a longstanding relationship between central bank and private bank money that we often take for granted.

The emergence of cryptoassets using new technology is now challenging the way people think about this relationship. This is happening alongside a range of broader developments in the money and payments system, including:

• concerns about existing inefficiencies in private money — for example — in cross-border payments, and calls by some for wholesale disruptions in money
• the perceived need for and benefits offered by new forms of money in an ever more digitalised economy — for example —  web3 and the metaverse
• the claim of cryptoassets to be money and the potential for them to be used this way, which purports to address those new or existing demands above
• the declining use of cash, the only public alternative to new and existing forms of private money, and the potential impact on central bank money as the value anchor
• the growth of cryptoassets without regulatory safeguards, or a value anchor in central bank money.

These developments draw into question our response and what tools we need for that response. We approach this question with some priors (or assumptions).

• Competition: competition is a foundation for trust and efficiency in private money.
• Choice: competition enables greater choices, but people’s ability to effectively exercise choice matters too. 
• Trust: the current level of trust in private money across the board should be preserved. 
• Same risk, same regulation: there should be a level playing-field between different forms of private money. 

Currently, our core tool to influence the provision of private money is our ability to issue central bank money and its relevance as a value anchor, a vehicle of monetary policy, and a lender of last resort. This is not just about producing banknotes and coins and is distinct from the Reserve Bank’s longstanding prudential regulatory functions. In the future we may also have a central bank digital currency, which would be another form of central bank money. The stewardship role and monitoring function under the Reserve Bank of New Zealand Act 2021 mentioned above will enable the Reserve Bank to respond more effectively to changes. 

Still, more may be needed to encourage competition, choice and trust in money products available to New Zealanders. We also need to take a proactive approach to address risks that, once they emerge, could be difficult to reverse. Such an approach should be technology-neutral and technical matters themselves (for example, the relative merits of different types of cryptographic methods) are outside our scope. However, we should not be blind to the implications of technology.

As the steward of money, cryptoassets used simply for speculative investment are outside our scope. However, we are conscious that assets used as money on a smaller scale may also pose risks to consumers and may lead to further uptake. In the latter circumstance, market discipline and a ‘buyer beware’ approach is insufficient to deliver efficiency and other stewardship outcomes.

Other risks posed by private innovation in money, such as to financial stability, are within the scope of existing legislative regimes, in particular, the Financial Markets Infrastructure Act 2021. 

Our current assessment is that the uptake of cryptoassets for use as money is limited. However, cryptoassets appear to be embedded as an asset class, and wider use may occur over time. It is therefore timely to reflect on the opportunities and risks related to new forms of money more generally.

In terms of opportunities, we consider that beneficial innovation in private money using new technology may help broaden access to the money and payment system from outside the banking sector. Broadening access supports competition, which is key to delivering efficiency and supporting further innovation. 

At the same time, we see a range of general risks that new forms of money could pose to users, even if they are not widely used. These include fraud and theft, Anti-Money Laundering and Countering Financing of Terrorism (AML/CFT), and technology and cyber risks. Some forms of cryptoassets, particularly stablecoins, also pose a range of further risks related to the stability of the asset's value, the ability and costs of redeeming the stablecoin for fiat currency, and the solvency of the issuer of the stablecoin. It is important that these risks are adequately managed, including through regulatory measures where needed. 

In addition, several risks also need to be managed if new forms of money become significant. These risks are often associated with externalities resulting from strong network effects which constrain market efficiency and impact consumers.

The first possible risk is the potential for new forms of money to be bundled with other products or services offered by dominant players in other markets, such as technology or commercial platforms. Some of these platforms operate dominant networks, allowing money issued by them to scale quickly, recreating barriers to entry, and extracting excessive rents. 

Secondly, new forms of money should not fragment trust in private money or efficiency benefits to the wider economy that are currently achieved through 1:1 convertibility and prudential regulation. Therefore, our regulatory framework needs to remain robust. Any changes to promote competition and further innovation should deliver the same level of trust and efficiency.

Thirdly, significant uptake of new forms of money not denominated in New Zealand Dollars (NZD) could potentially undermine our monetary sovereignty or, at the very least, complicate the implementation and transmission of monetary policy. It may be desirable to have safeguards against this so that beneficial innovation in money can occur without constant vigilance over monetary sovereignty concerns.

In response to emerging opportunities and risks, we are developing a monitoring framework to understand how the market for new forms of money is developing and the implications for the monetary system, so we can act if necessary. This framework will use a wider range of metrics to assess the significance of new forms of money to New Zealanders, such as the extent of use for day-to-day payments or concentrated use within some communities.

Provided that the risks can be managed, we consider that regulators should be open to alternative business models for the issuance of money. Internationally, the stances of regulators range from proposing to heavy regulation of innovation in money to openness to new forms of money with a lighter regulatory touch. Overseas experience will provide useful starting points to explore what alternative regulatory models may be required and what they might look like.

Further work could explore how providing regulatory certainty might enable beneficial innovation to emerge. This would allow society to benefit from the innovation provided by new forms of money and the technology that underpins it, while addressing the risks described above.

Section 2

• Do you agree with the core drivers, assumptions and high-level approaches that we have described in relation to our work on private innovation in money? 
• Is there anything else we should consider?

Section 3

• What do you see as the biggest issues with private innovation in money? 
• Do you agree with how we frame the focus on stablecoins? Are there other forms of innovations we should be looking at?

Section 4

• Do you agree that there is a significant opportunity to enhance competition and further innovation in a New Zealand context?

Section 5

• Do you agree with the key risks to the stewardship of money identified here? 
• Are there any other risks that we should consider? How significant are they? 

Section 6

• Do you agree with our proposed monitoring approach? Is there anything else we should monitor? 
• Do you agree that we should be open to alternative models of money? Can they work in a New Zealand context?
• What issues do you think we should prioritise in developing further regulatory response? For example, should we prioritise issues about the rights of stablecoin holders, or the use of Digital Autonomous Organisations (DAOs), or something else?

We are offering 2 webinars on our issues paper.

Date: Monday 27 March 2023

Times: 2pm to 3pm and 7pm to 8pm

Duration: 1 hour

You will have the opportunity to ask questions, while will we will also keep and consider comments as feedback on the issues paper.

How to join the webinars

We welcome your views on the issues and proposed approaches outlined in this paper. Please indicate whether you are providing general comments or specific responses to the questions above.

You can:

• email your submission to [email protected]
• post your submission to:
             Future of Money – Te Moni Anamata
             Reserve Bank of New Zealand – Te Pūtea Matua
             PO Box 2498
             Wellington 6140

Alternatively, you can call us on 04 474 8693 between 10am to 4pm Monday to Friday and we will arrange a time to call you back.

Please note, we are closed from Friday 24 December 2022 to Monday 10 January 2023. 

What we will do with your responses

We intend to publish a summary of responses to the Issues Paper by mid-2023. Your name and submission will be released publicly, unless you request otherwise.