The project comes with challenges, including:

• Threats to financial stability
• Hazards regarding loan availability and smaller banks
• Costs for commercial players
• The central bank’s dual role

Possible deposit outflows could destabilize the financial system

Financial system stability refers to its capacity to withstand shock. Banks are central to our current monetary system, and their robust capital and liquidity buffers are the primary reason for their resilience. One of the biggest risks of the digital euro project is that it could negatively impact the amount of money in European commercial banks’ buffers.

A recent study by Copenhagen Economics found that with a holding limit of 3000 digital euros per person, the new currency could lead to an outflow of a whopping 739 billion euros of bank deposits in Europe.

The deposit outflow would lead to hefty losses in banks’ total household deposit base (10%) and total bank liabilities (3%). The effects on highly-impacted institutions, e.g., smaller banks, would be enormous.

The CEO of Finance Finland, Arno Ahosniemi, highlights the possible complications for smaller banks. For them, deposits represent a crucial and cost-effective source of funding. Mass conversion of funds into digital euros could directly limit the ability of smaller banks to issue loans, which negatively influences economic activity.

Limiting holdings to 500 euros per person would confine the loss in deposits to 139 billion. However, it’s important to note that a lower holding limit would highly impact the adoption and usability of the new currency.

The digital euro would entail significant costs to commercial players

The large-scale project would incur significant expenses for the European Union. However, it would also lay heavy costs on commercial banks, payment service providers, and merchants.

The digital euro would present recurring expenditures to private financial market players long after its launch. Although the virtual currency is predicted to eventually decrease consumer prices due to smaller transaction costs, there’s a risk that the cost of implementation would counteract the positive change.

Furthermore, the expenses would primarily fall on banks. Banks would be mandated to distribute and include the currency in their service portfolios. Because of this, the current, carefully curated consumer experiences in banking would be highly affected and need reconstruction. Apps, web services, the processing and recording of transactions, fraud prevention, and Know-Your-Customer procedures, for example, would all be influenced. The costs for banks could significantly affect their innovation resources, leading to decreased quality of service and options for consumers – completely counteracting the EU’s mission of increasing innovation with the new currency.

Overall, the potential for financial losses with each digital euro transaction has raised concerns about the scheme’s sustainability.

The ECB entering the payments market it oversees could be problematic

Lastly, one of the digital euro risks lies in the dual role played by the European Central Bank. Traditionally tasked with overseeing commercial banks, the ECB’s entry into the digital euro space would position it as a direct competitor to these institutions – potentially causing disruption and conflict.

Aura Salla, a member of the coalition in Finland and the former Head of EU Affairs at Meta, has been vocal about the ECB’s confusing role. “The supervisor of credit institutions is looking to mess with the market by building a new payment system. This should be seriously questioned”, says Salla. “I am very concerned about the European Central Bank’s role in the digital euro project.”

Finland’s stance on the digital euro

Salla is part of the Finnish Parliament’s Grand Committee, considering Finland’s stance on the new currency. Salla describes the current Finnish position as “cautiously positive.” Her background adds valuable insight into the conversation, since she has experience from the technology industry’s failed attempts to create a digital currency. Facebook eventually shelved its Libra project due to regulatory challenges.

While Finland acknowledges the potential benefits of the digital euro, the practicalities of seamlessly integrating the currency into the existing financial system remain challenging. “Concrete answers on how the digital euro would function in practice are needed”, Salla concludes.

Salla’s concerns echo a broader conversation surrounding the European Central Bank’s venture. Stakeholders call for risk mitigation safeguards to be included into the scope of the new currency.

Despite critical considerations, Head of Department at the Bank of Finland, Päivi Heikkinen, notes that the central bank can’t afford to ignore the evolving financial landscape and must balance its evaluations with timely introductions of new payment methods.

Is the project too risky?

If well implemented, the digital euro has the potential to offer a secure, regulated, and stable alternative that aligns with the goals of PSD2 while enjoying the trust associated with government-backed currencies.

However, the ECB should test digital euro’s viability against various risk scenarios and periods of stress in the financial system. Risk mitigation will be pivotal in shaping a virtual currency that fosters a stable financial ecosystem.

Read more: Digital euro’s main benefits comprise plunging payment costs and increased security
Read more: Functionality of the new digital euro will focus on effortless consumer use

Are your digital payments optimized?

Are there digital payment methods missing in your service? Or would your business benefit from more revenue by minimizing failed payment transactions? Let’s get to it! Qvik has packaged its decades of payment expertise into a payment optimization packet, which allows you to increase your payment acceptance rates by up to 30% – without a massive, expensive undertaking. Read more.

Qvik is a company that creates lovable consumer products that bring commercial success to our clients. One of our fortes is our constantly evolving expertise in advisory, payments, and monetization. Our services include, e.g., payments and loyalty consulting, business design, authentication advisory, and technology strategy. If you have anything in mind, let’s talk!

Sources

European Central Bank: Financial Stability Review, May 2023
Copenhagen Economics: Effects of a digital euro on financial stability and consumer welfare
The European Banking Federation: Copenhagen Economics study on the impact of a digital euro on financial stability and consumer welfare
Finance Finland: Member of Parliament Aura Salla on the digital euro: Why is the ECB messing with the market by building a new payment system?

The post Digital Euro: Risks include threats to financial stability and costs for commercial players appeared first on Qvik.

The latest developments in the global markets provide a sound backdrop to the initiative. While the only public money in the EU remains cash, private providers have gradually taken over the market with innovative digital payment offerings. In fact, the rising number of convenient and user-friendly payment options has already led consumers to prefer digital payments over cash. 

Private funds have enabled leaps and bounds in payment innovation, but they have their downsides. As a public currency, the digital euro would hold multiple benefits. To ensure that a free-to-use, trustworthy, and accessible currency remains available to all amidst rapid digitalization, many believe that the EU should establish the first global publicly governed digital currency under its central bank.

The most prominent benefits backing the adoption of the digital euro are:

• Increased security for European payments
• Cost reductions
• Regulation and stability
• Accessibility and financial inclusion

Digital euro would increase European payment security

One of the most prominent benefits of the digital euro would be reversing Europe’s current dependence on global players. 

American-based card giants – Visa, Mastercard, and Amex – have long dominated the payment transaction market. The supremacy has become a vulnerability for other nations, especially amidst changes and volatilities in U.S. politics. Global instabilities and wars have further amplified the need for a secure and resilient European alternative to international payment channels. 

A new currency would provide competition and lower transaction fees

According to The Finnish Commerce Federation (Kaupan liitto), the implementation of the digital euro would introduce much-needed competition into the transaction market, eventually leading to lower consumer prices. 

“The prerequisites for the digital currency are good, as the central bank has announced that the new payment method will be free to use”, says Simo Hiilamo, Director of Public Policy and Advocacy for the Finnish Commerce Federation. Offering very low pricing would accelerate business adoption of the digital euro, especially because of the of existing card payment options’ ambiguous and rising prices. “In addition, digital euro service providers, such as banks, have no credit risk when the value of the consumer’s digital euro wallet is on the central bank’s balance sheet.” 

The digital euro’s effect on future payment prices could be significant. The Bank of Finland issued a report stating that in 2020, the commerce sector paid a whopping 121.4 million euros for card payments alone.

“With the recent increases in inflation, the partially percentage-based pricing of card payments has generated credit card companies additional profits. Consumers will eventually have to cover these in the form of ballooning prices,” Hiilamo concludes.

Regulation would strengthen privacy, accessibility, and financial inclusion of digital payments

The digital euro would bring about needed regulation for the virtual currency market. Suggested EU regulation proposes that similarly to cash, the digital euro would have legal tender status inside the EU.

Legal tender status would make digital euro mandatory for individuals, businesses, and institutions to accept as a payment method – making it safe to use and steady in value.

Regulation crafted for the digital euro would also ensure a high level of privacy for its users. The proposed regulation encourages the design of the new currency to minimize the amount of personal data processed by service providers or the central bank itself. Furthermore, the digital euro regulation leans into existing EU policies regarding financial inclusion and accessibility – it enforces accessible design that takes disabilities and limited digital skills into account. 

Finally, digital euro regulation mandates that all credit institutions with account services have to have basic digital euro services available for existing and new clients. For citizens who don’t already have or do not wish to open a digital euro account, the currency must be made available through distribution by public entities.

Will the pros outweigh the cons of the digital euro?

The full impact of a possible digital euro on businesses and consumers in Europe remains to be seen, as it will depend on the extent of adoption, regulatory measures, and the ability of the ecosystem to adapt to the new digital financial landscape.

Despite its potential upsides, the digital euro is currently under critical analysis in several European countries. Read more about the criticisms and risks of the digital euro, or dive into the planned functionality of the digital euro to learn more about what the currency would be like.

Are your digital payments optimized?

Are there digital payment methods missing in your service? Or would your business benefit from more revenue by minimizing failed payment transactions? Let’s get to it! Qvik has packaged its decades of payment expertise into a payment optimization packet, which allows you to increase your payment acceptance rates by up to 30% – without a massive, expensive undertaking. Read more.

Qvik is a company that creates lovable consumer products that bring commercial success to our clients. One of our fortes is our constantly evolving expertise in advisory, payments, and monetization. Our services include, e.g., payments and loyalty consulting, business design, authentication advisory, and technology strategy. If you have anything in mind, let’s talk!

Sources

Finnish Commerce Federation: Digital euro needed to reduce cost of retail payments

The post Digital Euro: Main benefits comprise plunging payment costs and increased security appeared first on Qvik.

While several central banks worldwide have begun exploring the potential of digital capital, the European Central Bank (ECB) has taken a head start. Currently seeking vendors for a digital euro, its goal is to find a trusted roster of operators for frame agreements. Although the central bank has yet to commit to launching any work, the budget allocations shed light on the ins and outs of the upcoming project.

The central bank is looking for partners for:

1. Offline services
2. Risk and fraud management
3. App and software development
4. Alias lookup
5. Payment data security

Offline functionality is at the core of the digital euro

The ECB has reserved the largest bit of the digital euro budget – over half of its 1.1 billion euro allocation – for offline functionality. Although digital currencies are often associated with online use, the ECB promises that all digital euro transactions could be completed without internet access. Offline functionality is prominent for the currency’s usability, supporting the EU’s vision of building a true alternative for cash. 

Furthermore, the ECB’s focus on offline payments reflects an up-to-date understanding of the evolving financial landscape. While digital currencies are gaining ground, there’s a growing need to adapt to changing user preferences, abilities, and circumstances. 

EU-level data would support risk and fraud management

Risk and fraud management has the second-largest focus within the digital euro functionality. The ECB plans to build a central fraud detection and prevention mechanism to help payment service providers (PSP) spot anomalies and patterns.

The central system would be capable of, e.g., scoring transaction risks in real time and producing fraud statistics and intelligence reports. 

The general system would combine data from payment service providers across the EU. However, it would not replace the PSPs’ individual fraud prevention, risk management, and detection rules.

Digital euro app would provide easy access for consumers

The central bank plans to build its own digital euro app. While the application’s primary goal would be to equip consumers with an easy, accessible avenue to digital euros, it would also provide a systematic appearance and user experience for the new currency. For PSPs, the app would provide cost-effective distribution. 

In addition to the app, the EU has allocated funds to create a Software Development Kit (SDK). The planned SDK supports all payment service providers adding digital euro services to their existing consumer channels, including their respective apps and online services.

Aliases ease transactions

Aliases are a familiar concept to any private virtual currency owners. In short, they allow users to make transactions using, e.g., phone numbers or email addresses, thus eliminating the need to remember lengthy account or wallet numbers or knowing the recipient’s bank details. 

The ECB has included aliases in the digital euro scope to enforce acceptance, enhance user-friendliness, and facilitate peer-to-peer transactions. Aliases have many advantages, though – they also reduce fraud risks and require less data. 

Cash-like data privacy

The ECB promises that a digital euro would entail cash-like privacy. The bank has promised that payment information from digital euro transactions could not be used to identify users. In other words, EU regulation for the central-bank-governed digital currency would ensure a new level of privacy compared to other virtual currencies in the market.

The secure exchange of payment information in the new currency is based on tokenization. As we mentioned in our article on digital euro benefits, the EU has outlined that the currency will be designed in a manner that minimizes the amount of personal data processing by service providers or the central bank itself. 

Vendor selection seals the success of the digital euro

The selection of service providers to build the infrastructure for the digital euro is a crucial decision that can significantly impact the initiative’s success and public perception. This is especially true, as the ECB’s has made partner choices that have caused scrutiny in the past.

In 2022, the ECB was criticized by EU lawmakers for selecting the U.S. tech giant Amazon to create an e-commerce prototype for the digital euro. The decision raised concerns about data privacy, security, and the potential influence of non-European entities in developing critical financial infrastructure.

As the ECB embarks on the next phase of developing services around the digital euro, the question of who will be chosen to execute these tasks becomes paramount. The institution must carefully navigate this decision to address past criticisms and ensure that the chosen partners align with the principles and goals of the project.

Read more: Main benefits of the digital euro comprise plunging payment costs and increased security

Read more: Digital euro risks include threats to financial stability and costs for commercial players

Are your digital payments optimized?

Are there digital payment methods missing in your service? Or would your business benefit from more revenue by minimizing failed payment transactions? Let’s get to it! Qvik has packaged its decades of payment expertise into a payment optimization packet, which allows you to increase your payment acceptance rates by up to 30% – without a massive, expensive undertaking. Read more.

Qvik is a company that creates lovable consumer products that bring commercial success to our clients. One of our fortes is our constantly evolving expertise in advisory, payments, and monetization. Our services include, e.g., payments and loyalty consulting, business design, authentication advisory, and technology strategy. If you have anything in mind, let’s talk!

Sources

European Central Bank: What would a digital euro be?
Digital euro: Risk and fraud management component
European Central Bank: Calls for applications for digital euro component providers
Digital euro: App and SDK component
European Central Bank shows it’s serious about enabling digital euro offline use
Digital euro: Secure exchange of information component
Digital euro: Alias lookup component
ECB issues digital euro vendor call for up to €1.1 billion in contracts

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