Impact of the digital euro on financial services

The use of cash has been constantly declining in time. There are various reasons for this – the development of and better access to digital financial services as well as the convenience offered by digital money transfers and the use of payment cards. The Covid-19 pandemic also significantly increased the share of digital payments. According to Ellex in Estonia experts Marion Müürsepp and Anneli Krunks, the introduction of the digital euro should be the next step in developing the digital payment environment. The European Central Bank has been working on the analysis and preparations for the introduction of the digital euro already since 2020, with the aim of having the digital euro as a legal tender in the eurozone before 2030.

What is the digital euro?

Right now, we use cash for payments or in case of digital payments, the money on our payment accounts. The digital euro would provide an alternative payment method where the European Central Bank issues the digital euro which allows to make digital payments without holding money on a payment account. This makes the digital euro an alternative to cash as well as bank transfer payments.

The introduction of the digital euro would enable people to keep digital euros in an application developed for this purpose, i.e. a digital wallet. However, the transfers to and from this digital wallet should still be done through the person’s payment account with a credit or payment institution. It is important that the digital wallet should be accessible also offline, meaning that it would not require an internet connection.

A significant restriction for the digital euro is that only natural persons would be able to use this as a payment method. This means that a natural person can use the digital euro everywhere in the eurozone to make payments, for example, to pay for goods in a store. Once the digital euro is transferred to the merchant or another company, it is immediately converted to commercial bank money. Therefore, payments between companies could be done only as it is now and they would not be able to use the digital euro for their own payments. However, companies must generally enable natural persons to pay using the digital euro.

Whether and why we need the digital euro?

The main purpose of introducing the digital euro has been thought to be the possibility to simplify digital payments for ordinary citizens by providing an alternative to cash and the current digital payment solutions. In addition, the digital euro is seen as a more secure alternative to current electronic payment means. Its offline function would enable digital payments in a situation where the payment solutions of credit institutions are disrupted or the (internet) connection is lost. At the same time, an offline payment would be equally private as a cash payment. Also, since there are no intermediaries (credit institutions and payment institutions), payments with the digital euro would be done immediately and without a service fee.

In addition to the above practical reasons, the digital euro is also seen to have an important geopolitical role. This is because the European Union currently depends to a great extent on non-EU payment solutions. The digital euro would be a Europe-wide alternative to these solutions. Moreover, according to the European Central Bank, the introduction of the digital euro should enable access to digital payments also to those who do not have a payment account for whatever reason.

But the extent (and necessity) of introducing the digital euro depends on the digital payment solutions that currently exist in a particular country. In Estonia and many other member states with well-developed digital payment solutions, where the use of cash is secondary, the digital euro is most likely to have a modest spread. It would still be an important and convenient alternative in cases and places where it is not possible to pay by payment card.

What should financial entities consider with the introduction of the digital euro?

The use of the digital euro would entail both risks and opportunities for financial entities. One of the main risks related to the introduction of the digital euro has been considered to be a decrease in the deposits of credit institutions. Big outflows of deposits from credit institutions to the digital wallets of natural persons could have a negative effect on the banking sector. Due to this, there are plans to limit the amount that a natural person can hold as digital euros in their digital wallet. The amount discussed so far has been 3,000 euros but the exact amount is yet to be determined.

In addition to the volume of deposits, the introduction of the digital euro and enabling digital payments with it would also affect the volumes of current digital payment solutions.

However, the digital euro is not a replacement for cash or current digital payments, it is an alternative. Taking into account that the amount of digital euros that can be used is limited, only natural persons can use it for payments and current digital payment solutions are already convenient and easy for people, the digital euro could first and foremost provide an alternative to cash payments for natural persons. Thus, the introduction of the digital euro would undoubtedly have an impact on the volume of deposits and payments but it would rather be limited.

Alongside the risks, credit and payment institutions should see the digital euro as an opportunity to complement the digital financial services that they are providing. Digital euro payment services can be offered by all payment service providers who are authorised in the European Union, without applying for an additional activity license. Digital euro payment services that are essential for the use of the digital euro by natural persons must be provided free of charge.

At the same time, the payment service providers can provide additional digital euro payment services for a fee. With the introduction of the digital euro, payment service providers should consider which additional digital euro payment services they could offer and how to change the products and services currently provided to natural persons accordingly.

The digital euro is currently in the preparation phase. This includes developing a legal framework for the digital euro, selecting the providers for the digital euro infrastructure and consulting with relevant stakeholders. The decision whether to move from the preparation phase to the pilot phase is planned for the second half of 2025. In case of a positive decision, the pilot phase will test how the digital euro works in real-life situations. According to current plans and if testing is successful, the European Central Bank estimates that the digital euro could be introduced in 2028.