How Will Blockchain Technology Transform the Current Monetary System?

Philipp Sandner
17 min readMar 27, 2020

Why should the payment systems we use and the money that is transferred via these systems itself make use of distributed ledger technology (DLT), namely Blockchain technology, the underlying technology of cryptocurrencies such as Bitcoin? This article gives a brief explanation of the structure of the current money and payment system and the functioning of blockchain technology with Bitcoin as an example. It further elaborates the advantages of DLT and its difference to the current design of the monetary system. The last chapter summarizes the different ways of how DLT can be used in our current money and payment system. — Authors: Philipp Sandner, Manuel Klein, Jonas Gross

The current monetary system

In the current monetary system, commercial banks are the main provider of liquidity in the economy. They create money when they purchase securities, mostly when they make loans: banks purchase the signed loan contracts or other assets, recognize them as an asset in their balance sheet and credit the sum of the loan contract / the value of the asset in the account of the creditor / seller of the asset [1]. The crucial difference between commercial banks and non-banks is that banks are allowed to hold deposits of customers on their balance sheet as a liability and thus can create these deposits without having to finance a direct liquidity outflow [2]. Bank deposits are “account-based” money since they are always itemized in a bank account and thus in the balance sheet of a bank.

The commercial banking sector uses a different type of liquidity, the so-called “reserves”. These reserves are created retrospectively by central banks when they buy securities from the banks after commercial banks have created deposits [3]. Banks need reserves to be able to transfer deposits to other banks and for converting them into physical cash, which can then be withdrawn. Cash is the only form of money that is “value-based”: It can circulate on a peer-to-peer basis while the central bank has no insights over who holds the cash. Cash has the status of legal tender. Bank deposits thus are a claim of a bank’s client on physical cash. However, these claims on physical cash are the main medium of exchange in our modern economies. The Bank of England for example, only creates 3%, whereas commercial banks create 97% of the total money supply in Great Britain [4]. According to the ECB Statistical Data Warehouse, the Euro is made up of around 13% Cash and 87% bank deposits. Besides physical cash, which can only be accessed when being withdrawn against bank deposits, central banks do not have a connection to the non-bank sector, the so-called “retail market”. Central banks’ main influence lies in the “wholesale market” (interbank market), in which banks trade with each other and settle transactions.

Central banks do not control the quantity of reserves and therefore cannot control the quantity of money in the economy. They rather supply any amount of reserves demanded by the banking system at a given interest rate [3]. Therefore, the money supply can be extended limitlessly, which defines the so-called fiat currencies. By altering the interest rate at which banks can borrow reserves, central banks try to facilitate or exacerbate deposit creation by the banking sector since short-term interest rates on reserve loans influence all major interest rates in the market [5]. The main aim of monetary policy is to maintain a predefined inflation rate, mostly around 2%. Since cash yields zero interest, central banks effectively cannot push market interest rates below zero. This barrier is referenced as the “zero lower bound” and has been the main motivation for targeting a positive inflation buffer [6].

DLT-based crypto assets

This highly complex monetary system is challenged by blockchain technology — a technology out of the family of new DLT. The first and most famous application is the Bitcoin network, which was introduced by Satoshi Nakamoto in 2008. It enables a digital, decentralized, peer-to-peer monetary system in which a digital value called Bitcoin can be transferred without the need for a trusted third party [7]. In the current monetary system, (central) banks act as trusted third parties that affirm that the sender of the money owns a greater or equal stock of money, that the money is transferred from the senders’ account to the receivers’ account and that any party cannot double-spend any money they hold. In the blockchain, all transactions are linked by cryptographically chaining bundles of transactions (blocks) to the previous block of transactions, which is also cryptographically chained to the previous block of transactions and so forth. This design ensures that the party that wants to spend bitcoins has to possess the respective amount of Bitcoins in the first place, either by receiving Bitcoins through a transaction or by receiving newly created Bitcoin as a reward for validating transactions.

Most of the crypto asset schemes are designed as open and permissionless blockchains, in which anybody can participate and perform both of the following functions: firstly, use the system as a transfer mechanism and secondly, validate the transactions by participating in a worldwide proof of work mechanism (PoW) [8]. This mechanism is used by the majority of crypto assets and ensures that no one can double-spend any money or create money by implementing transactions from nowhere into his digital wallet. The PoW mechanism secures that the participants in the validation market only confirm valid transactions: They have to calculate an iterative computational puzzle, which consumes energy they have to pay for in fiat currencies. As a reward for this energy-intensive process, the validator that first solves the computational puzzle, which on average takes 10 minutes to be solved, receives newly created coins. The validators are therefore referred to as “miners” since they “mine” new tokens when they validate the transactions. If they worked on a validation of a block with invalid transactions, the other participants in the market would neglect the block and thus would not use it as the previous block to which a new block of transactions is linked to [9].

Advantages of DLT

DLT brings enormous advantages:

  • There is no need for an intermediary anymore who verifies the transactions. This makes the global payment system less complex, more efficient and cheaper: 0–1% vs 2–5% transaction fees [9].
  • Higher settlement speed: After 10 minutes, transactions are verified by saving them in a new block. After 60 minutes they are safely stored in the blockchain vs. settlement after several days with conventional technologies [8]. Other DLTs with different consensus mechanisms than the proof of work mechanism can settle even faster and not only probabilistic but atomic.
  • Higher resilience since there is no single point of failure vs. a single point of failure at the central bank or bank in conventional centralized systems [8].
  • Smart contracts enable the programmability of money. Programmable money can trigger payments when defined conditions are met [10]. These smart contracts provide tremendous efficiency gains as business processes get highly automated.
  • Permissionless blockchains can create anonymity and censorship-resistance vs. surveillance [11]. Anonymity can also be reached by permissioned blockchain systems as shown by a recent working paper by the ECB which proposes “anonymity vouchers” [12].

Fiat-backed stablecoins issued by the private sector

An already existing way to transform fiat currencies via a DLT system is to tokenize fiat money deposited at banks or payment institutions. Each of these tokens must be backed by a currency unit deposited in the account of the cooperating payment institution. This is a 1:1 coverage, which is why such a token is also called a (fiat-covered) stablecoin. Holders of stablecoins must trust issuers that all tokens are fully covered by fiat money deposits and that they would actually “get paid out” their claim to fiat money in the same amount — even in situations of economic distress. Since 2019, the first companies have been using their e-money licence to issue a fiat-based regulated stablecoin, thereby bringing the “blockchain euro” into the real economy. These include the German start up Cash-on-Ledger and the Icelandic start up Monerium. Commerzbank has also conducted numerous test projects with the tokenization of the euro.

However, the most famous stablecoin project is certainly Libra, which the Libra Association around Facebook’s subsidiary Calibra announced in the summer of 2019 and is scheduled to be launched in 2020. However, Libra is not designed to become a classic stablecoin backed 1:1 by a fiat currency, but by a basket of currencies consisting of various fiat currencies and short-term government bonds. As a result of intensive discussions with regulators and governments, it can be expected that Libra will not be implemented in the planned form and not at the planned time. It is more likely that significant conceptual changes will take place to meet the requirements of regulators and governments. However, the Libra shows how easily such stablecoins can be created and also stresses the advantages of using DLT in the context of payment systems, and is therefore largely perceived as a “game changer”.

Central bank digital currencies

Central banks are monitoring the crypto asset-sphere attentively and during the last years, various central banks around the world conducted their own research with respect to issuing an own digital currency (central bank digital currency, CBDC). By altering the design of the crypto asset-schemes from permissionless to permissioned distributed ledger systems, most disadvantages of the blockchain-design of private crypto assets like scalability issues and low transaction throughput can be eliminated. Moreover, CBDCs would comply with current regulation [11]. In such permissioned systems, the central bank would be the only party that can create new coins and accountable validators, such as national central banks or commercial banks, would validate the transactions [15].

Motivations for a CBDC issuance

One motivation to use DLT in this context is that private crypto assets might not be able to break the strong network effects money has and thus will not bring mainstream adoption of this new innovative technology. Central banks or licensed stablecoins providers could use the trust and adoption of our current government backed fiat money to apply the new technology in form of a stable CBDC or as a private, regulated stable coin. Another rationale of implementing a DLT-based CBDC would be to update the decade-old infrastructure of the current payment system with its many intermediaries and clearing houses [8].

Currently, central banks do not see impairment in the effectiveness of their monetary policy by private crypto assets due to a lack of high transaction volumes, market capitalization and interconnectedness with the real economy. However, in the future, crypto assets that are more efficient or global stablecoins that are based on a basket of currencies like Libra could become an impediment for monetary policy [13]. The effectiveness of monetary policy will mainly depend on the interconnectedness of the private crypto asset economy and the FIAT-money economy. If the interconnection was weak and the replacement of bank deposits as a medium of exchange was large, central banks’ influence would diminish [16]. Securing monetary policy effectiveness by issuing its own CBDC would therefore be another reason to implement a DLT-based CBDC. Moreover, central banks currently play a minor role in providing a means of exchange for the general public since the vast majority of transactions takes place in bank money. Another reason to introduce a CBDC might therefore be to preserve central banks’ role as the issuer of a risk-free medium of exchange in case further digitalization drives out physical cash from being used [17].

Wholesale vs. retail CBDC

While most of the advantages would counteract private crypto assets only if central banks used DLT in the retail market , they could start to use blockchain technology in the wholesale market (wholesale CBDC). Since DLT allows for easy upscaling, central banks could first widen their access to their balance sheet to all banks and possibly other financial institutions. This could bring an end to the current tiered-banking system, in which smaller banks must hold accounts at bigger banks which then hold the accounts at the central banks [14]. It would also provide higher efficiency, resilience, competition and less credit risk in the payment sector since all participants could settle their transactions and hold customer deposits in risk-free central bank money [18]. By using DLT in the wholesale market, 50–80% of the processing and bookkeeping costs are estimated to be saved due to the peer-to-peer transactions in the interbank market [19].

In order to realize the full advantages of DLT for every participant in the economy, central banks and academia currently discuss whether central banks should issue a DLT-based programmable form of digital central bank money not only for financial institutions, but for the general public (retail CBDC). Such a retail CBDC system can be designed in different ways. The different ways to implement a retail CBDC available to the general public is shown in Figure 1 (see below).

Current retail CBDC projects

Among others, the central banks of China, Sweden, Bahamas and the Eastern Caribbean Central Bank intend to issue a DLT-based retail CBDC soon. The idea of providing non-banks with central bank accounts was advocated by James Tobin in 1987 and named as “Deposited Currency Accounts”. His motivation was to alleviate the moral hazard of banks that emerges due to the provision of bank deposit insurance by the state [20]. By providing a riskless, digital medium of exchange, the central bank would reduce the scope for moral hazard. DLT could help to efficiently provide accounts for anybody at the central bank. CBDC could even be designed like physical cash in a “value-based” fashion as a digital, riskless, medium of exchange which would counteract the decline in cash usage [6].

Furthermore, a retail CBDC could also be remunerated by bearing interest. This design would enable a new monetary policy instrument for central banks which directly influenced the holders of CBDC. If (high denominated) physical cash was abolished, interest bearing CBDC could circumvent the zero lower bound because it could bear negative interest rates. Furthermore, it would enhance the competitiveness of the banking system since CBDCs would directly compete against remunerated commercial bank deposits. However, If the interchangeability between commercial bank deposits and CBDC was given, a digital bank run could create a strong outflow of central bank reserves, forcing banks to hold a higher fraction of deposits backed by central bank money. This would indeed make bank deposits more secure but could in theory lead to an end of fractional reserve banking in which banks only refinance a small percentage of the money they create [18]. In fact, DLT enables central banks to be the sole issuer of money, like the Chicago Plan in the 1930s had foreseen [21]. In recent years, economists, activists and political parties campaigned for a modern version of Irving Fishers’ “100% Money” called “Sovereign Money”. Proponents of this structure of the monetary system contemplate to spend money into existence when the real economy needs additional money to grow — either via transfers from the central bank to parliament or via a citizens dividend [22]. Distributed ledger technology could facilitate this idea by tying money creation to the development of the real economy via smart contracts that automatically create new money when certain conditions are met [19]. The former chief economist of Deutsche Bank even beliefs that the introduction of such a 100%-CBDC system would bring a chance to restart the Euro as a more stable and future-oriented currency [23]. Among others, the former governor of the Spanish central bank believes that this transition could lead to a far more stable banking and financial system and could provide the reasoning for a dramatic liberalization of the banking sector which would foster competition between banks and Fintechs in the market for loans [24].

In order to prevent bank runs and a theoretical transition to a Chicago Plan-based monetary system, CBDC could be exclusively created via open market operations. In this option, the central bank would circumvent the commercial banks by buying securities such as government bonds directly from anybody who wants to hold CBDC. Prohibiting a direct conversion from bank deposits into CBDC prevents a drain in bank liquidity since bank deposits stay in the commercial banking sector — even if significant amounts of CBDC were used for transactions [25]. Alternatively, CBDC could be tiered into two differently remunerated types of CBDC. If a certain CBDC threshold is exceeded in the central bank account, the amount of CBDC above this threshold would bear zero or negative interest rates, making it unattractive to hold CBDCs in large quantities and as a store of value [26].

How can DLT change the current monetary system?

As depicted above, there are various ways of using DLT in the current monetary system (see Figure 1): A digital currency can be issued either by a central bank or by a private organisation such as a bank, an e-money institution or even an unregulated organisation as a stablecoin. Also instead of a currency, money can be digital as well. Recall that a currency is a government-guaranteed mode of exchanging value. Money has the same goal of exchanging value but is not a government-enforced currency. A currency is the euro or the US-dollar, money can be Facebook’s Libra or any other means of exchange. Put differently, a currency is a “de jure” mode of exchanging value whereas money is a “de facto” mode of exchange.

If a digital currency is issued by a central bank, it would be a digital central bank currency (CBDC). A retail CBDC could be issued directly by the central bank to the end customer (Direct model), could be distributed via banks to the end customer (i) as a claim against the bank (Indirect model) or (ii) as a claim against the central bank via escrow accounts (Hybrid model). As a third form of CBDC, a “machine CBDC” would also be possible, in which machines have access to the CBDC.

Figure 1: Typology of programmable money (Source: own illustration)


In this article, we have shown the different ways of how DLT can be used to transform our current money and payment system into a more technological advanced, futuristic, reliable and safe system. DLT can provide tremendous benefits with respect to payment efficiency and settlement speed. Further DLT-based systems enable smart contracts that have the potential to automate business processes tremendously. We showed that either the private sector can make use of the technology and back the tokens on the blockchain by respective deposits, making it a private “Stable coin” or that the central bank itself could issue digital money that could then be transferred via DLT. In the last decade, the private sector has been very innovative in the use of DLT and has issued more than 5,000 crypto assets, e.g., Bitcoin, Ether and Co. In the last year, stable coins have received more and more attention. Stable coins are crypto assets that are backed by real assets, such as fiat currencies, government bonds or precious metals, to reach a high degree of price stability. Now it is time for central banks to participate in the process of innovating and digitizing the money and payment system. Central banks can use DLT to issue their own digital currencies (CBDCs) and insofar can make use of the features of DLT.


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Prof. Dr. Philipp Sandner has founded the Frankfurt School Blockchain Center (FSBC). From 2018 to 2021, he was ranked among the “top 30” economists by the Frankfurter Allgemeine Zeitung (FAZ), a major newspaper in Germany. He has been a member of the FinTech Council and the Digital Finance Forum of the Federal Ministry of Finance in Germany. He is also on the Board of Directors of FiveT Fintech Fund and Blockchain Founders Group — companies active in the field of blockchain startups. The expertise of Prof. Sandner includes crypto assets such as Bitcoin and Ethereum, decentralized finance (DeFi), the digital euro, tokenization of assets, and digital identity. You can contact him via mail ( via LinkedIn or follow him on Twitter (@philippsandner).

Manuel Klein is a consultant at a leading provider of financial data and analytic applications for investment management and investment banking professionals. Services are used by the top 10 global investment banks and 95 of the top 100 asset managers. Moreover, since 2015, he has been actively engaged at the NGO Monetative for which he has been giving speeches at several banks, conferences and universities both nationally and internationally. The NGO provides education about the structure and problems of the current monetary system and advocates a “100% CBDC”, “sovereign money” or “Vollgeld” system. You can contact him via mail ( or via LinkedIn (

Jonas Gross is a project manager and research assistant at the Frankfurt School Blockchain Center (FSBC). His fields of interest are primarily cryptocurrencies. Besides, in the context of his Ph.D., he analyzes the impact of blockchain technology on monetary policy of worldwide central banks. He mainly studies innovations as central bank digital currencies (CBDC) and other crypto currency projects as “Libra”. You can contact him via mail (, LinkedIn (, Xing ( or follow him on (Twitter Jonas__Gross).


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Philipp Sandner

Professor | Lecturer | Author | Investor | Frankfurt School Blockchain Center