Digitalisation is far from being a new topic in financial markets. However, progress has been made in the last decade, altering financial markets and allowing significant gains in terms of cost and risk reduction. An example of this progress is the enabling of algorithmic trading on foreign exchange platforms. But, beyond this, there is still room for improvement. There are two areas in particular that are ripe for that improvement.
First, cross-border payments are still slow and cumbersome, in sharp contrast with the progress achieved in the sphere of payments at the domestic level. Poor cross-border payments mean high costs for global growth as they hinder international capital flows and keep the cost of remittances high. This issue is such a concern that improvement in cross-border payments is one of the G20’s prime objectives for this decade. The aim is to have retail cross-border transfers settle within a day and cost no more than 1% of the transaction value. We are not there yet.
Second, some financial market segments remain poorly equipped, relying on costly, manual processes. This is the case for funds on registrar. Many financial market stakeholders – mainly non- banks – cannot access delivery versus payment because they cannot directly access securities settlement systems.
Perhaps we can address both these issues via the tokenisation of finance. New technologies such as blockchain and distributed ledger technology might pave the way for widespread change. This new evolution can be an opportunity for simpler, cheaper, faster and more efficient transactions by promoting further automation of some cumbersome processes.
This plan should unfold according to three axes: the prerequisites for tokenisation to be successful, a learning-by-doing approach and international co-operation.
Prerequisites for the tokenisation of finance to take hold
The tokenisation of finance will only be valuable if it meets several prerequisites, consistent with both price stability and financial stability.
The first prerequisite is to ensure that we have the appropriate regulatory framework to foster secure innovation. Without it, innovation can lead to a reduction in the security, efficiency and sovereignty of the ecosystem. The European Union and the UK are adopting approaches on the matter that are diverse in form yet similar in substance with their pilot regime and Digital Securities Sandbox, respectively.
The second question is the preservation of the guarantees offered by central bank money in a tokenised world. We need to adapt our settlement asset so that market participants continue to use the safest and most liquid asset to settle systemic transactions. The anchoring role of central bank money is crucial to our financial stability and the benefit of its sole use as a settlement asset for systemic transactions is a hard-learned lesson of the 2008 financial crisis. Our goal is to reap the fruit of technical progress while preserving financial stability.
Finally, if DLT undeniably offers new opportunities, we need to examine the impact of its use in the financial ecosystem in a holistic manner, for example, by looking at the potential trade-offs, like fragmentation and liquidity issues.
Banque de France’s ‘learning-by-doing’ approach
Central banks need to take a proactive stance from an operational perspective as technological developments further enable us to fulfil our cardinal mission: ensuring security and stability. By leveraging automation, we can reduce operational risk and improve the maintenance of audit trails that are vital to our regulatory framework. Tokenisation, and therefore wholesale central bank digital currencies, can also be part of the answer to current public concerns, such as the need to make environmental, social and governance criteria for investments more easily tracked and compared.
This led Banque de France in 2020 to launch an ambitious programme of experiments in a DLT-based wholesale CBDC for large-value payments. We published two reports on our progress in 2021 and 2023. This work is now being continued at the Eurosystem level, where three solutions for the settlement of tokenised assets in central bank money are being tested – BdF’s DL3S being one of them.
We have so far tested DL3S and its natively tokenised central bank euro across many trials, but mainly on two use cases that we consider central to enhancing international markets. These are delivery versus payment of tokenised assets and payment versus payment of tokenised money in order to enhance cross-border payments.
Our European partners from Banca d’Italia and Deutsche Bundesbank have also put forward proposals regarding the settlement of tokenised assets in central bank money, although by different means than a dedicated DLT developed by the central bank. In the case of our Italian colleagues, the TIPS Hash-Link solution enables settlement to take place in an infrastructure based on the Target Instant Payment System. This is the Eurosystem’s fast payment system used for settling instant retail payments (that is, payments between individuals and non-financial institutions).
The Bundesbank option, called Trigger solution, consists of settlement in T2, the Eurosystem’s real-time gross settlement system, which is similar to the proposed synchronisation approach of the Bank of England. The security is transferred from one party to another on an external platform (or DLT), but the settlement of the cash leg of the transaction takes place on the existing RTGS ledger.
International co-operation is key
Without international co-operation, there is a significant risk that the development of new market infrastructures and settlement assets could lead to further fragmentation.
This is also why, in addition to the Eurosystem trials, we are conducting experiments with central banks of other monetary zones. It is both a way to study how DLT and wholesale CBDCs could be used to improve international transactions and to explore common standards should wholesale CBDC projects go live in the future.
At an international level, we are investigating cross-border payments with Project Agorá. This project, launched in April 2024 by the Bank for International Settlements, brings together seven central banks, including Banque de France, representing the Eurosystem, and the Bank of England, among other public and private financial institutions. This project will explore further enhancements of the monetary system and provide new solutions potentially using smart contracts and programmability, while maintaining the two-tier structure of the monetary system – central bank money and commercial bank money.
At the European level, we also need to explore the potential of a DLT-based European unified ledger that would include tokenised assets while projecting our robust two-tier monetary system. This unified ledger would be an opportunity to further the capital markets integration that largely remains domestic and contribute to the project of a ‘savings and investments union’. Faster, cheaper and more transparent market transactions in the euro area could incite investors to purchase non-domestic assets more routinely, improving European integration.
Of course, none of these projects intends to abruptly replace the current infrastructures that have been meticulously developed and already provide state-of-the-art services for most use cases in payments and securities settlement. However, we need to plan forward and ensure that our infrastructures are not only up to date but future-proof.
Emmanuelle Assouan is Director General, Financial Stability and Operations, Banque de France.
This article is adapted from a speech given by Assouan at the launch of OMFIF’s Digital assets 2024 report. Watch the event here. Download the report here.
