A monetary arrangement where the central bank provides electronic money or ecash while physical notes, coins and commercial bank deposits or other forms of broader money continue to exist in their current form will be highly beneficial for the operation of the monetary system.
The central bank does not provide e-money to people broadly (only banks) therefore the system depends on commercial banks to create the electronic money used for most transactions. Deposits generally come into existence as a result of bank lending. As a result we need a larger financial sector to underpin extra lending and provision of depository and payments system.
Central bank provision of e-money will reduce financial sector largesse by reducing the demand for credit to generate electronic money and also because the need for intermediation in monetary policy will be eliminated or reduced. The central bank has economies of scale and scope in providing payments and depository services and can provide a superior form of e-money because it is risk free.
If people can hold central bank (CB) created e-money private bank issuance of demand deposits self regulates. Assuming CB e-money is equally as functional for payments people will mainly hold demand deposits (zero interest money) at the central bank because it is risk free whereas commercial bank deposits are not. CB issued e-money also has other benefits over privately issued money due to CB economies of scale and because the CB will operate in interest of public while private banks tend to operate to maximize shareholder profits. People may primarily use CB e-money if money is originated in e-money accounts during monetary expansions of helicopter drops by the monetary authority.
If people hold most or a significant proportion of their demand deposits at the central bank the current liabilities of commercial banks will be lower and hence banks will be less susceptible to bank runs.
Private banks can create money but unless it pays interest people will shift money away into risk free central bank accounts which will drain banks of assets. Therefore private bank created money will need to pay interest and this added cost to issuers will regulate the amount of issuance.
Banks with lower equity or higher risk portfolios with be forced to pay higher interest by the markets and this will curtail excessive borrowing. Short term/speculative activity will self regulate because as banks issue loans and hence deposits they face immediate increases in their costs.
Banks that make highest risk adjusted returns from investments will attract depositors because they can offer higher returns on deposits or other savings vehicles/investments they offer to customers.
The most transparent and least risky banks will attract depositors which will create a self regulatory environment and help keep banks within legal regulatory requirements with respect to transparency and risk.