Central bank digital currencies (CBDCs) are a virtual form of money issued by a country’s reserve bank.
A CBDC can easily be implemented using a traditional database management system operated by central bank in collaboration with approved private sector entities.
Blockchain technology is not needed for developing or issuing a CBDC, according to Kasper Rasmussen from Delta Exchange, a digital asset derivatives exchange.
As mentioned in a detailed report shared with CI:
“CBDCs can go a long way in modernizing payments and value transfers in a digital economy, holding the potential to radically alter the way individuals and organizations transact.”
CBDCs can potentially enable faster transactions that don’t require as many manual processes or documentation. Transactions performed using virtual currencies might also require significantly less time to settle, Delta Exchange’s report notes.
Users may also be able conduct transactions at lower than average costs, when using CBDCs, the report states.
Other benefits of CBDCs include more efficient cross-border transactions, a more efficient distribution of resources (e.g. emergency stimulus cheques). CBDCs may also help establish stronger links between consumer identity and payments. Additionally, reserve bank backed virtual currencies can potentially prevent money laundering and terrorist financing, because of improved tracking and monitoring of transactions, the report from Delta Exchange explains.
Some of the benefits or advantages of using CBDCs could also come at “the expense of privacy and anonymity,” which could motivate consumers to use peer to peer (P2P) cryptocurrencies instead, the report’s authors argue.
The report points out that cryptocurrencies have been issued by non-governmental entities “as non-legal tender” (like Bitcoin).
The report explains:
“CBDCs add a novel spin to this, existing as a legal tender issued by a central bank. Both CBDCs and cryptocurrencies exist in a purely digital format – with no physical complement – allowing for instantaneous transactions and seamless transfer across geographical regions.”
CBDCs have a centralized system of control while many cryptocurrencies aim to maintain a decentralized system of control. The majority of cryptocurrencies are based on blockchain or distributed ledger technologies.
However, CBDCs tend to be “technology-neutral” and may not even use a blockchain.
When launched, most CBDCs will enforce KYC checks, meanwhile, most on-chain transactions with cryptocurrencies can be conducted without KYC if it’s a P2P transaction. However, the FATF’s rules and those being developed by various other government agencies will most likely make it increasingly difficult to conduct payments in an unregulated environment.
As noted in Delta Exchange’s report:
“CBDCs are a digital version of central bank liability (cash in the economy & commercial bank reserves). They can combine the digital aspects of bank deposits with P2P transactional anonymity of cash. In fact, the design space of CBDCs lies between cash and bank deposits. The beauty of CBDCs is that they can combine the characteristics of both cash and bank deposits to create novel payment & store-of-value instruments.”
The report adds:
“A cash-like CBDC will essentially be digital tokens (think digital representations of currency notes) that can be exchanged for goods and services. Like cash, these tokens will be bearer instruments with full anonymity. A cash-like CBDC can potentially replace physical cash.”
A bank deposit-like CBDC could represent an account opened with a country’s reserve bank. It might have all the features found in digital bank deposits. The main difference from status-quo here would be that consumers would have the option of directly opening accounts with the reserve bank.
At present, only commercial banks have this option available to them. A bank deposit-like CBDC could lead to the “disintermediation of banks.”
The report explains:
“If banks are unable to raise deposits, they won’t be able to make loans, contributing to a knock-on effect on the credit supply in the economy. On the flip side, the disintermediation of banks will increase the central banks influence over the money supply and the economy.”
The Delta Exchange team argues that CBDCs are “likely to be closer to cash than to bank deposits,” because the “implications on banks from a CBDC that’s closer to bank deposits can be quite serious.”
They add that banks play a key role in credit flow and resulting economic growth. But even a cash-like CBDC may come with features that are similar to bank deposits, such as interest and “some level of identity verification,” the report notes.
More than 80% of analyzed developed economies are working on the development of CBDCs, according to report from the Bank for International Settlements (BIS) released earlier this year.
This includes the US Federal Reserve, European Central Bank (ECB), the Bank of England (BoE) and the Bank of Japan ( BoJ). Almost 40% of banks responding to BIS’ survey said that it’s likely or possible that they’ll issue a general-purpose CBDC in the medium-term.