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  • Writer's pictureStephanie Lai

Central Bank Digital Coins

by Stephanie Lai on 24/08/22


Image source: CBDC will be rolled out this year: RBI - BusinessToday


Introduction:

Central Bank Digital Coins (CBDC) are ‘stablecoins’, which are a digital fiat currency held by the central bank. The value of CBDCs is pegged to a national currency, thus they are not too volatile. CBDC’s are being increasingly researched and acknowledged by government bodies, private banks, consultancy and law firms as their introduction into the economy poses risks to traditional financial institutions, yet benefits amidst the uptake of digitalisation.


Understanding CBDCs:

The International Monetary Fund (IMF) have stated that CBDC’s are likely to be a prominent financial service in the future due to their lower cost, and availability. This may lead to digital dollarisation where citizens abandon their own unstable, domestic currencies in exchange for foreign CBDC may become apparent.


There are two types of CBDCs, wholesale and retail. Retail CBDCs would be used for commercial banks, and to also conduct payments between citizens, and with businesses. Wholesale CBDCs, conversely, are held by the Central Bank and are comparable to reserves, where institutions have an account they can deposit funds into.


Important CBDC developments:

  • Currently 80% of nations are actively researching CBDCs

  • Nations with CBDC include: Barbadian Sand Dollar, the Nigerian eNaira and the Swedish e-Krona, and India has announced their creation of a digital rupee by 2023.

  • China piloted their CBDC, eCNY, throughout Chinese New Year and the Winter Olympics, attracting over 261 million users, and leading to it currently being used in 23 cities across China.

  • The US has launched ‘Project Hamilton’ to explore CBDCs which has investigated the factors of translation speed, finding that one codebase can complete 1.7million transitions per second.


For society:

With the increase in digital banking amidst the Covid-19 pandemic, CBDCs can easily be implemented as they operate similarly to digital banks. CBDCs can be beneficial for customers as they make banking more accessible, which is important given that 4% of UK citizens are bankless. However, CBDC’s digital nature may exclude those who do not have access to the internet.

CBDCs threaten citizens’ privacy as the government can track all financial transactions, which, to the benefit of the government could limit financial crimes. Although, if the Central Bank has data on citizens' financial transactions, a cyberattack could cause mass detriment, but, the likelihood of this is limited by the encrypted technology of CBDCs.


For private banks

CBDCs disrupt traditional financial infrastructures by removing the use of private banks by consumers which could hurt the real economy and current financial infrastructures from their importance in funding the economy, causing some central banks to currently consider capping their use. Although, the G7 has discussed principles to mitigate the immense effects of CBDC on traditional financial services such as Principle 7 which suggests continual analysis throughout the CBDCs’ implementation to ensure there is harmony between them.


Opportunities arise for private banks that can assimilate CBDCs into their operations through the uptake of blockchain in banking, and new centralized data transfer technology such as ISO20022. This would allow for CBDCs to, in the future, be used for cash management, and be used in rapid cross border payments, which can reduce credit risk, improving security. Further, financial services may soon look to create wallets for CBDC’s, as Mastercard has done, to gain an early stake in aiding Central Banks to pilot their CBDCs.


The future of CBDCs:

CBDC’s have been predicted to be used increasingly by nations, fueled by economically prominent countries such as China being far into the development of them. Introducing CBDCs to the economy can improve the efficiency of the globalized world and hold numerous opportunities for international transactions to evolve. Although, their uptake must be done slowly, as advised by the IMF, to ensure that the effects on traditional financial infrastructures is limited.



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