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Today, 80% of national financial regulators are interested in Central Bank Digital Currency (CBDC), and 40% have already begun testing CBDC. According to forecasts, three to five countries will fully implement CBDC by 2030.
What is CBDC
Central Bank Digital Currency is a digital form of fiat money (the value comes not from its own value and the guarantee of exchange for gold, but from a government order), the issuer of which is a national central bank. CBDC in theory can be used for all types of payments on various technologies.
CBDCs are created and fully controlled by a country’s central bank and are legal tender, unlike digital currencies, virtual currencies and cryptocurrency (decentralized Bitcoin and Ethereum and centralized Ripple and Cardano).
Digital currencies are usually backed by national currencies at a ratio of 1:1 and can be exchanged without restriction for cash or non-cash. That is, one e-grivna, one digital yuan, or one digital dollar will be equal to one hryvnia, one yuan, or one dollar.
CBDC models
When we talk about CBDC, we usually mean the centralized model, according to which the central bank is the issuer of digital currency. It owns and operates the single centralized registry with the CBDC, controls and sees all digital currency transactions of the central bank. Validation of the transaction (the decision to include any transaction in the register) is made solely by the central bank. Redemption and settlement are also guaranteed by the central bank.
Under this scheme, other non-banking financial institutions and banks are agents of settlement and distribution of CBDC. They provide clients with access to the single platform of the central bank through their resources and offer other CBDC services (for example, they create applications for mobile devices that provide services for convenient analysis and viewing of transactions).
At the same time, there is also a decentralized model, where CBDCs can be issued by banks and non-bank financial institutions under the control of the central bank. This model implies that the accounting of wallets and transactions of CBDCs is decentralized – in the systems of each issuer. And the central bank ensures that one issuer’s digital currency can be used in the networks of merchants and/or settlement agents of other issuers and the settlement of transactions in CBDCs between issuers. However, the decentralized model cannot be called a digital currency by a central bank in the classical sense.
Why has there been a boom in central bank digital currencies?
Central banks around the world began analyzing CBDCs in the mid-2010s. Experts say that interest in central bank digital currencies was largely driven by bitcoin and cryptocurrency in general.
The first case of successful CBDC implementation is the Ecuadorian central bank’s project, which ran from 2014 to 2018. The system with digital currencies worked through cell phones, not blockchain. However, the program was shut down because of the low level of citizen engagement.
In the second half of the 2010s, the central banks of England, Sweden and Uruguay reported interest in CBDC. The People’s Bank of China, which is now the most advanced in launching a digital yuan, says it began analyzing CBDC back in 2014-2015.
However, the real boom in central bank digital currencies came in 2019, when big private players began to share plans to create their own crypto-assets. The announcement of Facebook’s Libra (now Diem) cryptocurrency forced central banks to pay attention to the status of staplecoins (cryptocurrencies that are tied to stocks of conventional currencies or physical commodities and whose exchange rates are subject to less fluctuation than those of typical cryptocurrencies). Financial regulators feared that they threatened the leading role of central banks.
“The use of cash in many countries, including Ukraine, is decreasing. Thanks to fintech, there are more and more ways to make electronic payments without using payment cards or banking services. And the second wave of crypto-asset creation – this time by private players – is not giving state regulators a break. In such an environment, central banks have to find ways to maintain their leading role in the payment system, ensuring the public has access to central bank money, while not impeding innovation in the financial sector.”
Following a meeting between G7 central bankers and the leaders of major stebblecoin projects (Libra Association, JP Morgan and Fnality International), the European Commission, European Council and the Bank for International Settlements issued an official statement saying that stebblecoins are a source of risk, so they must be properly identified, assessed and regulated, and until then the EU will ban the issue of stebblecoins on its territory.
At the same time, EU leaders have urged central banks to consider issuing their own digital currencies, confirming the role of stablcoins as a kind of catalyst for CBDC implementation. Last year, central banks in Sweden, Switzerland, Great Britain, Canada, Japan and the European Central Bank and Bank for International Settlements created a working group to study CBDC, which will focus on economic, technological and architectural issues.
Roman Gartinger, head of innovative projects at the NBU’s Department of Payment Systems and Innovative Development, believes that central banks’ wariness of stablcoins is part of a broader issue – the confrontation between “private” money and “public” money.
“This debate is a special case of a broader one that has been going on for years. In English “Private money vs. Public money”. In other words: what should be the division of roles between public and private institutions in the process of creating money (including digital currencies)?…Many central banks were interested in the subject of central bank digital currencies, but only a few came close to pilot projects, much less actual issuance of digital currencies. But things are changing, and the emergence of Stablecoins has been a triggering event that has intensified research into digital currencies.”
Head of Innovative Projects Division of the Department of Payment Systems and Innovative Development of the NBU
In early June, the European Central Bank in a report on the international role of the euro pointed to the risk of losing monetary sovereignty in the case of the launch of technogiants and large corporations in the absence of their own digital currencies in the regulators. At the same time, CBDC will raise the global status of the currency in which it is denominated, particularly if it is adopted in countries with unstable currencies, the ECB said.
20th annual review of the international role of the euro by the European Central Bank
“Attention should be paid to the stability risks that may arise if the central bank does not offer a digital currency. One problem could be a situation in which domestic and international payments are dominated by foreign providers, including foreign technology giants that will potentially offer artificial currencies in the future. This could not only threaten the stability of the financial system, but also individuals and companies would be vulnerable to a small number of dominant providers with strong market power. The ability of central banks to fulfill their monetary policy mandate and their role as lender of last resort would also be compromised. CBDC issuance would help preserve the autonomy of domestic payment systems and the international use of currency in the digital world.”
Another trigger for the development of CBDCs was the coronavirus pandemic, which encouraged people to give up cash because it could be a source of infection. In addition, there has
long been a deep tendency to go cashless – not just because of convenience and savings (issuing, collecting cash is expensive), but because cash feeds the shadow economy and the criminal business.
Who’s the most advanced in launching CBDCs
Today, the central banks of China (DCEP or digital yuan), Sweden (“e-krona”), Canada (project “Jasper“), Japan (digital yen, and with the ECB the “Stella“), as well as Uruguay (e-peso), South Africa, Ecuador, the Netherlands, Great Britain, Finland, Indonesia, Australia, New Zealand, Spain, Portugal, Poland and Korea, the Bahamas (Sand Dollar) and Brazil.
China, which has long been testing the digital yuan in six major cities and has issued and distributed the equivalent of $39 million in DCEPs to people in total, has advanced the most in the creation of CBDCs.
Much resistance to the introduction of CBDC was shown by the United States, which feared that the central bank’s digital currency (in particular the People’s Bank of China) would deprive the U.S. dollar of its dominant status in global finance. However, as early as May, U.S. Federal Reserve Chairman Lael Brainard announced the Fed’s growing interest in CBDC and announced the release of a formal document on the digital dollar in the summer of 2021.
According to Bison Trails, about 80% of central banks are exploring options for CBDC, and 40% of central banks are testing their digital currency in one way or another. Forecasts by the Dutch think tank dGen suggest that three to five countries around the world will introduce CBDC by 2030. Also, dGen predicts that the euro will be displaced by China’s digital yuan project unless Europe develops its own CBDC by 2025.
