Tax Compliance, Payment Choice, and Central Bank Digital Currency

Abstract

This paper studies the implications of tax evasion for the optimal design of central bank digital currency (CBDC). I build a general equilibrium framework to explicitly allow tax evasion by agents and tax audits by a government. I find that as long as CBDC offers less anonymity than cash, introducing CBDC will decrease tax evasion. However, if CBDC is "cash-like" in the sense that it still offers relatively high level of anonymity but low interest rate, then introducing CBDC will decrease the output from not only agents who evade taxes but also agents who report their income truthfully. If CBDC is instead "deposit-like" in the sense that it offers low anonymity but high interest rate, then introducing CBDC will increase output and aggregate welfare. Furthermore, introducing deposit-like CBDC needs not increase the funding costs of private banks or decrease bank lending and investment. However, paying a high interest rate on CBDC will decrease the central bank's net interest revenue, which may jeopardize the central bank's independence.