Are tokenized deposits the bridge to digital money?

Tokenized bank deposits are emerging as a promising alternative to stablecoins for payments. These deposits operate within the existing two-tiered monetary system, where central banks are at the top tier, issuing and regulating the official currency, and commercial banks function at the second tier, offering financial services to the public. Tokenized deposits work in tandem with central bank digital currencies (CBDCs), which are digital forms of a country's official currency regulated by the central bank.

A matter of trust

Tokenizing commercial bank deposits offers a way to leverage the trust that people have in central-bank money while also taking advantage of the private sector's readiness to serve customers.  The key challenge with tokenized money is how to treat it—either as a bearer instrument or not. Bearer instruments are financial assets where possession signifies ownership, but they come with risks like transferability and price fluctuations.

A more secure approach is to use a model where payments between money issuers are made by reducing the sender's token balance and issuing new tokens to the receiver. This happens alongside a concurrent transfer of central-bank money using a wholesale CBDC, which is a form of CBDC designed for use by financial institutions for large-value transactions. This model ensures that tokenized deposits from different banks do not circulate or trade with each other, maintaining the "singleness of money," where different forms of money like cash and commercial bank deposits have the same value and are interchangeable.

Tokenized deposits also offer additional benefits like programmable payments. These are digital payments embedded with specific instructions or conditions, allowing for automated actions like the execution of smart contracts or the management of escrow accounts. This can significantly enhance transactional efficiencies and eliminate the need for intermediaries.

Tokenized deposits as the alternative to stablecoins

Stablecoins, although popular, have limitations. They are cryptocurrencies designed to maintain a stable value by being pegged to a reserve asset like the US dollar. However, they often fall short of delivering true stability. Stablecoins are primarily used to move money into the cryptocurrency ecosystem and are not as widely used for purchasing real goods and services. Tokenized deposits would be issued within the regulated framework of the existing monetary system, which in comparison makes them not only better comply with regulations, but also much more reliable.