CBDCs: The Future of Money?
Money is one of the oldest and most essential inventions of human civilization. It facilitates trade, exchange, and cooperation among people and societies. However, money is also constantly evolving and adapting to the changing needs and preferences of its users.
What if you could pay for anything with just your phone or your face? What if you didn’t need cash or cards, or worry about losing them or getting scammed? What if you could access digital payments and financial services anytime, anywhere, and with anyone? This is not a fantasy. This is what CBDCs are trying to achieve. CBDCs stand for central bank digital currencies, and they are the new money revolution that the whole world is talking about. In this article, we will explain what CBDCs are, why they are taking off, how they work, and what they mean for you.
What are CBDCs?
CBDCs are a form of digital money that is issued by the central bank of a country and backed by its full faith and credit. Unlike physical cash, which exists as banknotes and coins, CBDCs exist as electronic records or tokens that can be stored and transferred digitally. Unlike bank deposits or electronic money (e-money), which are liabilities of commercial banks or other private entities that provide payment services, CBDCs are direct claims on the central bank, which means that they have the same legal status and value as physical cash.
There are different types of CBDCs for different purposes. Some CBDCs are for big banks and businesses that need to move a lot of money fast and cheap. Some CBDCs are for regular people like you and me who need to make everyday payments.
Some CBDCs require you to have an account with the central bank or a bank that works with it. You can access your CBDC balance and transactions through an app or a website that checks your identity and password. Some CBDCs don’t require you to have an account with anyone. You can store and transfer your CBDC tokens using a digital wallet or a device that doesn’t need any verification or password.
Some CBDCs use a central system that is managed by the central bank or its partners. Others use a decentralized system that is shared and updated by many participants in a network. Some CBDCs use blockchain technology or other forms of distributed ledger technology (DLT) that enable transactions without intermediaries or third parties.
Why are CBDCs taking off?
CBDCs have many benefits for governments, central banks, financial institutions, businesses, and consumers. Some of these benefits are:
CBDCs can help people who don’t have bank accounts or use expensive services like money orders or payday loans. This can reduce poverty and inequality, and boost economic growth.
CBDCs can cut the cost, time, and hassle of making payments across different platforms and countries. This can improve the convenience and user experience of making payments, and increase the competition and innovation in the payment industry.
CBDCs can improve the security and resilience of the payment system by reducing the risks of fraud, counterfeiting, cyberattacks, and operational failures. CBDCs can also provide a backup or alternative way of payment in case of disruptions or crises in the existing systems.
CBDCs can encourage innovation and experimentation in the payment industry by providing a common and compatible platform for developing and testing new products and services. CBDCs can also enable the integration of payments with other digital applications and services, such as smart contracts, digital identity, or the Internet of Things (IoT).
CBDCs can make it easier and faster for governments and central banks to implement and transmit monetary and fiscal policies by providing more accurate and timely data on economic activity and financial flows. CBDCs can also enable the use of new policy tools, such as negative interest rates, helicopter money, or programmable money.
But what is driving this sudden surge of interest in CBDCs? According to a survey by the Bank for International Settlements (BIS), 86% of central banks are actively engaged in some form of CBDC work as of 20211. However, only a few countries have launched or piloted CBDCs so far. Some of the factors that have accelerated the development of CBDCs in recent years are:
The decline of cash
The use of physical cash has been declining in many countries due to the rise of digital payments, especially during the COVID-19 pandemic. This poses challenges for the central bank’s role as the issuer of cash and the provider of public goods such as financial inclusion, security, and resilience. By issuing digital cash, CBDCs can help the central bank to maintain its role and relevance in the digital age.
The rise of crypto
The emergence and popularity of cryptocurrencies such as bitcoin and ethereum have created new forms of money that challenge the traditional role and functions of fiat money. Cryptocurrencies offer some advantages over fiat money in terms of privacy, anonymity, censorship-resistance, innovation, and global reach. However, cryptocurrencies also have some disadvantages compared to fiat money in terms of volatility, scalability, security, regulation, adoption, and usability. By issuing digital fiat money, CBDCs can compete with or complement cryptocurrencies by offering some of their advantages while avoiding some of their disadvantages.
The pressure from big tech
The expansion and diversification of big tech companies such as Facebook, Google, Amazon, Alibaba, or Tencent into the payment industry have created new threats and opportunities for the central bank and the government. Big tech companies have huge user bases, data resources, technological capabilities, and market power that enable them to offer innovative and convenient payment solutions that may challenge or disrupt the existing payment systems. By issuing digital fiat money, CBDCs can provide a public alternative or counterbalance to the private payment solutions offered by big tech companies.
How do CBDCs work?
CBDCs work differently depending on their design and implementation. But most CBDCs follow these basic steps.
The central bank creates and issues CBDC tokens or balances to authorized entities such as commercial banks or payment service providers.
The authorized entities distribute CBDC tokens or balances to users such as individuals or businesses through digital wallets or devices.
The users make payments using CBDC tokens or balances through online platforms or mobile applications that verify and authenticate their transactions.
The transactions are recorded and verified on a database or ledger that is controlled or shared by the central bank or its intermediaries.
What do CBDCs mean for you?
CBDCs mean different things for different people depending on their needs and preferences. Some of these things are:
CBDCs provide you with a new option or alternative for making digital payments. You can choose whether to use CBDCs or other payment modes such as cash, cards, e-money, or crypto.
CBDCs provide you with a convenient way of making payments that is fast, cheap, and easy. You don’t need to carry cash or cards, or worry about losing them or getting scammed.
CBDCs provide you with different levels and options of privacy that suit your needs and preferences. You can choose whether to use CBDCs that require your identity and personal information, or CBDCs that don’t require any verification or password.
CBDCs provide you with a secure way of making payments that is backed by the central bank. You don’t need to worry about the volatility, scalability, security, regulation, adoption, or usability of other types of digital currencies.
What are some examples of CBDCs?
Many countries are exploring or developing CBDCs, but only a few have launched or tested them so far. Let us look at a few examples.
The Bahamas launched its retail CBDC called Sand Dollar in October 2020. Sand Dollar is an account-based CBDC that is issued by the Central Bank of The Bahamas (CBOB) through authorized financial institutions (AFIs). Users can access their Sand Dollar balances through mobile apps that are linked to their bank accounts or e-money wallets. Sand Dollar aims to improve financial inclusion, especially for remote islands that lack access to banking services.
China has been developing its retail CBDC called e-CNY (or Digital Currency Electronic Payment) since 2014. e-CNY is a hybrid CBDC that combines account-based and token-based features. It is issued by the People’s Bank of China (PBOC) through commercial banks that distribute it to users through digital wallets. Users can make online or offline payments using e-CNY through QR codes or near-field communication (NFC) technology. e-CNY aims to enhance the efficiency and security of payments, as well as to compete with private digital payment platforms such as Alipay and WeChat Pay.
Sweden has been conducting a pilot project for its retail CBDC called e-krona since 2017. e-krona is a token-based CBDC that is issued by Sveriges Riksbank (the Swedish central bank) through a distributed ledger platform based on blockchain technology. Users can store and transfer their e-krona tokens using digital wallets that are provided by Riksbank or its intermediaries. e-krona aims to address the declining use of cash in Sweden, as well as to provide a public alternative e-krona aims to address the declining use of cash in Sweden, as well as to provide a public alternative to private digital payment solutions.
What can we expect in the future?
The future of CBDCs is uncertain and unpredictable, as it depends on many factors such as the technical, economic, social, and political developments and dynamics in each country and region. However, some possible scenarios or trends that may emerge in the future are:
CBDCs may become more diverse and customized in terms of their design and implementation, reflecting the different objectives and preferences of each central bank and country. CBDCs may also become more interoperable and compatible with other types of digital currencies, creating a more inclusive and innovative digital currency ecosystem.
CBDCs may become more widely adopted and accepted by users, especially in countries or regions that have a high demand for digital payments, a low use of cash, or a supportive legal and regulatory environment. CBDCs may also become more accessible and user-friendly, especially for underserved or marginalized groups or segments of society, such as the unbanked, the elderly, or the disabled.
CBDCs may foster more innovation and experimentation in the payment industry, especially in terms of new products and services that leverage the features and functionalities of CBDCs. CBDCs may also enable the integration of payments with other digital applications and services, such as smart contracts, digital identity, or the Internet of Things (IoT), creating new value propositions and use cases for users.
CBDCs may face more competition from other types of digital currencies, such as e-money or crypto, that may offer some advantages over CBDCs in terms of privacy, anonymity, censorship-resistance, innovation, or global reach. CBDCs may also face more competition from other countries or regions that may issue or adopt CBDCs with different features or standards that may attract or influence users.
CBDCs are a new kind of money that is digital, secure, and easy to use. They are issued by the government, so you don’t have to worry about losing them or getting cheated. They have many benefits for governments, central banks, financial institutions, businesses, and consumers. But they also face some challenges and risks that need to be carefully addressed before they can become widely used and accepted.
CBDCs are not meant to replace or eliminate other payment modes such as cash, cards, e-money, or crypto. Rather, CBDCs are meant to provide a new option or alternative for users who prefer digital payments. CBDCs may also complement or support other payment modes by providing interoperability or convertibility between them.