Chapter 38 Quiz: Central Bank Digital Currencies
Multiple Choice
1. What distinguishes a CBDC from the digital money in your bank account?
a) A CBDC uses blockchain technology while bank deposits do not b) A CBDC is a direct liability of the central bank, while a bank deposit is a liability of the commercial bank c) A CBDC is backed by gold reserves while bank deposits are not d) A CBDC can only be used for government transactions
Answer: b) A bank deposit is a claim on a commercial bank, which in turn holds reserves at the central bank. A CBDC eliminates this intermediary layer, making the digital currency a direct obligation of the central bank itself — equivalent to holding a digital banknote.
2. Which statement is MOST accurate about the technology underlying most CBDC projects?
a) Most CBDCs use Bitcoin's proof-of-work consensus mechanism with modifications b) Most CBDCs are built on Ethereum-based smart contract platforms c) Most CBDCs use centralized ledgers, not blockchains, though they may borrow some DLT concepts d) Most CBDCs use the same distributed consensus as public blockchains but with permissioned access
Answer: c) Despite the popular narrative that "governments are adopting blockchain," the vast majority of CBDC projects use centralized database architectures. Some incorporate elements inspired by DLT — cryptographic verification, token representations, programmability — but they do not employ decentralized consensus or permissionless participation.
3. China's digital yuan (e-CNY) uses which privacy model?
a) Full anonymity for all transactions regardless of size b) "Controllable anonymity" — private from commercial counterparties but traceable by the central bank c) Complete transparency where all transactions are publicly visible d) Zero-knowledge proofs ensuring neither the central bank nor commercial parties can see transaction details
Answer: b) The PBOC describes the e-CNY as providing "controllable anonymity." Low-tier wallet transactions are anonymous to merchants and commercial banks, but the PBOC maintains the ability to trace any transaction for law enforcement, tax compliance, or AML purposes.
4. What is the primary reason nearly every retail CBDC design uses a two-tier intermediated model rather than a direct model?
a) Central banks lack the technology to handle retail accounts b) Direct models would be too slow for real-time transactions c) A direct model would allow citizens to bypass commercial banks entirely, threatening the banking system's deposit base d) International regulations require intermediaries for all digital currency transactions
Answer: c) If citizens could hold money directly at the central bank — which cannot fail — there would be reduced incentive to keep deposits at commercial banks. This bank disintermediation risk would undermine fractional reserve banking and reduce banks' lending capacity. The intermediated model preserves a role for commercial banks in the CBDC ecosystem.
5. Which of the following is NOT one of the four primary motivations for CBDCs discussed in this chapter?
a) Financial inclusion for the unbanked b) Replacing cryptocurrency and eliminating decentralized finance c) Payment efficiency and modernization d) Defending monetary sovereignty against private stablecoins
Answer: b) The four motivations discussed are financial inclusion, payment efficiency/modernization, new monetary policy tools (like negative interest rates and programmable money), and defending monetary sovereignty against private stablecoins. While CBDCs may compete with some crypto use cases, eliminating decentralized finance is not a stated goal of any major CBDC project.
6. The ECB's proposed digital euro includes a holding limit (initially discussed at around 3,000 euros). What is the primary purpose of this limit?
a) To prevent money laundering by capping transaction sizes b) To limit the digital euro's adoption so it does not replace physical cash c) To prevent mass migration of bank deposits to CBDC, which would destabilize the banking system d) To comply with EU regulations on digital currency supply
Answer: c) The holding limit is designed to prevent bank disintermediation. If individuals could hold unlimited amounts in digital euro wallets — which carry no counterparty risk since they are central bank liabilities — they might withdraw large sums from commercial bank deposits, undermining banks' ability to fund lending.
7. FedNow, launched by the Federal Reserve in July 2023, is:
a) The United States' retail CBDC b) A wholesale CBDC for interbank settlement c) An instant payment service that modernizes bank-to-bank transfers without creating a new form of money d) A Federal Reserve-backed stablecoin pegged to the US dollar
Answer: c) FedNow enables real-time, 24/7 settlement of bank transfers but does not create a CBDC or any new form of money. It modernizes the payment rails within the existing two-tier banking system, addressing the payment efficiency motivation for CBDC without any of the disruptive implications.
8. The "zero lower bound" problem in monetary policy refers to:
a) The inability to reduce the money supply below zero b) The difficulty of implementing negative interest rates when physical cash exists as a zero-interest alternative c) The minimum reserve requirement for commercial banks d) The floor on government bond yields set by central bank policy
Answer: b) When central banks want to stimulate the economy by setting negative interest rates, people can avoid the negative rate by holding physical cash, which earns zero. A CBDC that replaces most cash would allow central banks to implement negative rates directly on digital holdings, removing this constraint.
9. Which CBDC project was the first to launch nationally?
a) China's digital yuan (e-CNY) b) Nigeria's eNaira c) The Bahamas' Sand Dollar d) Jamaica's JAM-DEX
Answer: c) The Bahamas' Sand Dollar launched in October 2020 as the world's first nationally deployed CBDC. Nigeria's eNaira followed in October 2021, Jamaica's JAM-DEX in 2022, and China's e-CNY remains technically in pilot phase despite its massive scale.
10. What does the chapter identify as the MOST important policy issue in the CBDC discourse?
a) The technical challenge of achieving sufficient transaction throughput b) The privacy implications of programmable government-controlled digital money c) The cost of developing and deploying CBDC infrastructure d) The question of whether CBDCs should use blockchain or centralized databases
Answer: b) The chapter argues that privacy is the single most important policy issue in CBDC design. The combination of government-issued money with programmability and full transaction visibility creates the potential for unprecedented financial surveillance. The design choices made about privacy will determine whether CBDCs serve citizens or surveil them.
11. Bank disintermediation from a retail CBDC would most directly threaten which aspect of the current financial system?
a) The central bank's ability to set interest rates b) The commercial banking sector's deposit-funded lending model c) The government's ability to collect taxes d) International trade settlement through correspondent banking
Answer: b) Commercial banks fund most of their lending by accepting deposits and lending out a large fraction (fractional reserve banking). If significant deposits migrate to CBDC holdings — which are direct central bank liabilities with zero counterparty risk — banks lose their primary funding source for loans, reducing credit availability throughout the economy.
12. The philosophical tension between cryptocurrency and CBDCs is best characterized as:
a) Freedom vs. tyranny b) Technology vs. regulation c) Decentralized control vs. centralized control, with different assessments of which carries greater risk d) Private-sector innovation vs. government obsolescence
Answer: c) The chapter frames the tension not as a simple good-vs-evil narrative but as a disagreement about where the greater risk lies. Cryptocurrency proponents fear government control of money; CBDC proponents fear uncontrolled financial systems. Both risks are real, and the debate is about which model of trust the reader finds more compelling.
Short Answer
13. Explain why the payment modernization argument for CBDCs has a significant weakness, using India's UPI or Brazil's Pix as evidence.
Model Answer: India's UPI processed over 10 billion transactions per month by late 2023, enabling instant, near-free payments between any bank account — without a CBDC. Brazil's Pix achieved 156 million registered users (75% of adults) within four years of launch, again without a CBDC. The US launched FedNow for real-time interbank settlement. These systems demonstrate that modern, fast, cheap payment infrastructure can be built within the existing two-tier banking system, without creating a new form of central bank money. This does not invalidate the CBDC concept entirely, but it significantly weakens the specific argument that CBDCs are necessary for payment modernization. A CBDC may provide benefits beyond payment speed (financial inclusion, programmability, monetary sovereignty), but speed alone is not a sufficient justification.
14. In 200 words or fewer, explain what "programmable money" means in the CBDC context and give one example of how it could be beneficial and one example of how it could be harmful.
Model Answer: Programmable money is digital currency that carries embedded conditions governing how, when, where, or by whom it can be spent. Unlike physical cash, which is unconditional, programmable CBDC tokens can be designed to enforce rules automatically.
A beneficial example: government stimulus payments programmed to expire after 90 days if unspent. This ensures stimulus money enters the real economy rather than being saved, increasing the fiscal multiplier and making stimulus policy more effective. China has already piloted time-limited e-CNY vouchers with this logic.
A harmful example: CBDC wallets whose spending is restricted based on government-defined behavioral criteria. A government could reduce a citizen's CBDC spending limit because they attended a political protest, failed to pay a fine, or posted critical comments online. This would amount to financial punishment without judicial process — using the monetary system as a tool of social control. The technology that makes beneficial programmability possible is the same technology that makes harmful programmability possible. The difference is governance and law, not code.
15. Why is the existence of a CBDC potentially more destabilizing during a financial crisis than the current system, even if the CBDC holds only a small share of the money supply during normal times?
Model Answer: During normal times, a CBDC with holding limits and zero interest may attract only a modest share of deposits. But during a financial crisis, fear changes behavior. If a major bank appears distressed, depositors have a new option that did not previously exist: instant conversion of their bank deposits to risk-free central bank money by transferring to a CBDC wallet. This "digital bank run" would be faster than any traditional bank run because it requires no physical visit to a branch — just a phone tap. Even banks that are fundamentally sound could be destroyed if enough depositors panic and move their deposits to CBDC simultaneously. The speed and ease of digital transfer transforms every future banking wobble into a potential run, because the friction that previously slowed runs (physical lines at ATMs, multi-day transfer processing) is eliminated. The CBDC itself might be small in normal times, but its existence as an escape valve changes the dynamics of every crisis.