A CBDC could undermine the foundation of financial markets

The concept of Central Bank Digital Currency (CBDC) has been attracting interest across the globe with most central banks exploring and examining the CBDC. Globally the key trends of payment modernization include transformation of immediate interbank gross settlement and emphasis on faster retail payment system. Therefore many central banks foresee potential innovation in CBDC.

What is CBDC?

CBDC is a legal tender issued by Central Bank in a digital form. It is the same as a fiat currency but issued in digital form. With increasing globalization and digitalization of financial services, CBDCs have potential to create a future value transfer platform that contributes to a more innovative and competitive payment system.

CBDCs are likely to drive efficiencies and effectiveness of payment systems by ensuring that its users access safe digital money. A Central Bank Digital Currency is an innovation in the form of money issued as well as the underlying infrastructure on which transactions can happen.

  Why it is needed to issue a CBDC? 

  • CBDCs can bring innovations in payment systems.
  • To foster financial inclusion, rendering the process easier for people that currently do not have bank accounts.
  • To improve retail cross-border payments.
  • To prevent fraud.

Why have central banks become interested in CBDCs?

  • Cash usage is falling: Nowadays cash usage is falling. Cash transactions are very less as compared to online transactions.
  • Growing interest in privately issued digital assets: People show more interest in digital assets such as Bitcoin. This may create a threat to fiat currencies.
  • Rising global payment systems: Many central banks are attempting to develop strong local jurisdiction over increasingly global payment networks. CBDC is seen by central banks as a possible stable way for local digital payment systems.

Pros:

  • Payments are more efficient and safe.
  • Simple to use.
  • Managed by central authority.

Cons:

  • All control rest with Central Banks.
  • User privacy is compromised.
  • Challenging to get widespread adoption.

CBDC Vs Cryptocurrencies

CBDCs are not cryptocurrencies. Every transaction using CBDCs has the central bank as its core. Cryptocurrencies are distributed networks that use cryptographic techniques to produce digital tokens.

Cryptocurrencies utilize public blockchain whereas CBDCs use private ones. On public blockchain anyone anybody can join and participate in the blockchain network. Private blockchain is a distributed ledger that is not decentralized and works as a closed, secure database based on cryptography principles. 

CBDCs are centralized whereas cryptocurrencies are decentralized. Cryptocurrencies are peer-to-peer, users may decide how much and what information they want to share. In CBDCs data transmit automatically.

Countries that have introduced Digital Currencies and Pilot Projects

China (e-CNY): China was one of the early adopters that initiated research on CBDC in 2014. In 2016 central bank established a prototype for digital currency by the end of 2017 financial institutions were involved in testing the fiat currency. Presently the pilot has been initiated in selected regions to ensure safe and efficient transactions.

Ukraine (e-hryvnia): Ukraine announced its CBDC pilot project with the view to speed up its digital transformation and it can be rollout by 2025.

Russia (e-rubble): Russia is preparing to roll out its first consumer pilot project for digital rubble by 2025.

Nigeria (e-Naira): On October 2021 Nigeria launched its CBDC project eNaira, it is CBDC locked by law and the full sovereignty of Nigeria.

Turkey: In 2022 Central Bank of Turkey announced that it had successfully executed its first payment transactions using digital Lira and intends to launch CBDC in 2023.

Related: Stablecoins: A reliable store of value amidst crypto market volatility

Conclusion

Central banks work and focus on CBDCs widespread acceptance is certain. As more individuals start using CBDC the global acceptance of CBDC will accelerate.

CBDC will assist central banks in reaching out to the unbanked people. Nations may ultimately benefit from CBDCs as it will improve financial stability. CBDCs will ultimately take over as the norm for domestic and international payments. The future of finance will be significantly impacted by CBDCs. 

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