Central Bank Digital Currency risks draining billions from commercial banks

New research warns that the introduction of central bank digital currencies (CBDCs) like the digital euro could reshape the banking system by triggering significant shifts in household deposits, altering financial stability dynamics across major economies. A comparative study examining the Eurozone, the United Kingdom, Canada, and China highlights how design choices such as holding limits and demographic behavior could determine whether CBDCs strengthen or destabilize traditional banking models.

Published in the International Journal of Financial Studies, the study titled “Central Bank Digital Currencies: Digital Euro and Its Implications for Uncovered and Covered Deposits” assesses how retail CBDCs may drive deposit outflows and impact depositor protection systems.

Deposit outflows emerge as central risk in digital euro rollout

The migration of deposits from commercial banks to central bank-issued digital currencies. Because CBDCs represent direct liabilities of central banks, they are perceived as safer than traditional bank deposits, especially during periods of financial stress. This perceived safety could drive households to reallocate funds away from banks, creating liquidity pressures across the financial system.

The study estimates that in the Eurozone, a digital euro with a holding limit of €3000 could lead to a household deposit outflow of approximately €416 billion, representing about 4.36 percent of total household deposits. In contrast, countries with higher proposed holding limits, such as the United Kingdom and Canada, could face significantly larger outflows, exceeding 23 percent of deposits.

These findings reveal that holding limits are not merely technical parameters but critical policy levers. Higher limits increase the attractiveness of CBDCs as a store of value, encouraging households to shift funds out of bank accounts. Lower limits, by contrast, restrict CBDCs primarily to transactional use, reducing the risk of large-scale deposit substitution.

China and the Eurozone fall into what the study describes as a more cautious category, where holding limits are designed to contain outflows. Meanwhile, the UK and Canada represent more aggressive approaches that prioritize adoption and usability but expose banking systems to greater funding risks.

These differences are not accidental but reflect broader economic and institutional contexts. Holding limits are tailored to national financial structures, income levels, and policy objectives, making them difficult to replicate across jurisdictions without unintended consequences.

Demographics and digital behavior reshape CBDC adoption patterns

The study introduces a novel analytical framework that incorporates demographic factors, particularly age, into the estimation of deposit outflows. It finds that adoption of digital currencies is not uniform across populations but varies significantly based on digital literacy, familiarity with technology, and behavioral preferences.

Younger individuals are far more likely to adopt CBDCs and use them extensively, while older populations show lower adoption rates. This generational divide is captured through weighted coefficients that assign higher adoption and usage probabilities to younger age groups and progressively lower values to older cohorts.

The results show that the majority of deposit outflows originate from younger and middle-aged populations, who are more comfortable with digital financial tools and more responsive to the benefits of CBDCs. Older individuals, by contrast, contribute minimally to outflows due to lower adoption rates.

This demographic dimension adds a critical layer to the policy debate. Even with identical holding limits, the actual impact of a CBDC will depend on the population structure of each country. Economies with younger, digitally engaged populations may experience higher adoption rates and greater deposit migration, while older populations may dampen these effects.

The study also highlights the role of digital financial literacy in shaping adoption behavior. Individuals with higher levels of digital competence are more likely to understand and trust CBDC systems, increasing their willingness to adopt. On the other hand, lower literacy levels can act as a barrier, limiting uptake even when technological infrastructure is available.

These findings suggest that CBDC adoption is not purely a technological issue but a socio-economic phenomenon influenced by education, trust, and user experience.

Covered deposits and financial stability face new pressures

The introduction of a digital euro also has consequences for deposit guarantee schemes, which protect household deposits up to a certain threshold. The study finds that because CBDC holding limits are typically below the €100,000 guarantee threshold, most deposits that migrate to digital currencies would come from covered deposits.

In the Eurozone scenario, this translates into an estimated outflow of approximately €335 million in covered deposits, reducing the funding base of deposit guarantee schemes.

This dynamic creates a dual challenge. On one hand, the reduction in covered deposits weakens the financial resources available to guarantee schemes. On the other hand, increased deposit outflows could heighten the likelihood of bank stress, potentially requiring greater intervention from these schemes.

The study warns that this interaction could amplify systemic risks, particularly in crisis scenarios where households rapidly shift funds into CBDCs. The speed and ease of digital transactions could accelerate bank runs, making them faster and more widespread than traditional deposit withdrawals.

To mitigate these risks, the research emphasizes the importance of integrating CBDC design with broader financial stability frameworks. This includes aligning holding limits, remuneration policies, and liquidity backstops to ensure that CBDCs do not undermine the resilience of the banking system.

Sensitivity analysis highlights importance of policy calibration

The study further explores how variations in holding limits affect deposit outflows through a sensitivity analysis. Increasing the digital euro holding limit from €3000 to €4000 raises the estimated outflow to 5.82 percent of deposits, while reducing the limit to €2000 lowers the outflow to 2.91 percent.

These results demonstrate the high sensitivity of deposit flows to policy design. Even relatively small adjustments in holding limits can produce significant changes in financial outcomes, underscoring the need for careful calibration.

The analysis also reveals that holding limits are inherently context-specific. A limit that is appropriate for one country may be unsuitable for another, depending on factors such as income levels, banking structures, and user behavior.

Cross-country comparisons further highlight this point. Applying UK-style holding limits to China, for example, would result in dramatically higher deposit outflows, illustrating the risks of adopting uniform policies in diverse economic environments.

Banking sector faces structural transformation

The introduction of CBDCs could fundamentally alter the structure of bank funding. As deposits shift toward central bank digital currencies, banks may need to rely more heavily on wholesale funding or increase competition for retail deposits through higher interest rates.

This shift could compress profit margins, increase funding costs, and shorten the maturity profile of bank liabilities. It may also introduce new risks related to liquidity management and financial stability.

Large international banks, particularly globally systemically important banks, face additional challenges due to their cross-border operations. Differences in CBDC design across jurisdictions could create uneven deposit flows, complicating liquidity management and increasing exposure to systemic risks.

The study proposes a framework for estimating deposit outflows at the institutional level, taking into account variations in holding limits and deposit bases across countries. This highlights the need for banks to adopt more sophisticated risk management strategies in a CBDC environment.

A delicate balance between innovation and stability

On one side, CBDCs offer clear benefits, including more efficient payment systems, greater financial inclusion, and enhanced monetary policy transmission. On the other, they introduce new risks related to deposit migration, liquidity management, and systemic stability.

The key to managing these trade-offs lies in design. A CBDC that is primarily used for transactions, with limited holding capacity and carefully calibrated incentives, can deliver benefits while minimizing risks. However, a poorly designed system could accelerate deposit outflows and destabilize the banking sector.

The study calls for coordinated policy approaches that consider demographic factors, financial structures, and institutional frameworks. It also emphasizes the need for ongoing research and data collection to refine models and improve understanding of CBDC impacts.