July 22, 2024

Over the ages, money has taken on several forms. It hasn’t even always been about the money. Commodities were traded for bits of metal, which later turned into paper money, debit cards, and credit cards. Central bank digital currencies are perhaps the next development in this progression (CBDCs).

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CBDCs are now in use. According to the CBDC Tracker of the Atlantic Council, 21 nations have pilot programs in place, and a total of 11 have begun one. Seventy-nine more people are working on or studying digital currencies.

According to the Harvard Business Review (HBR), well over 90% of money in circulation today is already digital, and the epidemic has hastened the already fast reduction in the usage of cash.

Does the adoption of digital currencies by central banks follow from the increased number of digital payments?

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A central bank issues digital currency known as CBDCs. It would supplement money rather than take its place. According to HBR, “in a CBDC world, each virtual currency unit’s digital code will be stored in a digital wallet that the wallet holder can easily transfer to other people’s digital wallets.”

Unlike cryptocurrencies, a CBDC would be issued by a central bank as opposed to being a private coin like Bitcoin. This implies that, in contrast to cryptoassets, which can experience significant value swings for a variety of causes, the currency would be guaranteed by the issuing government, guaranteeing a steady value.

What motivates nations to issue CBDCs?

By updating current financial systems and implementing CBDCs, countries stand to gain the following anticipated benefits:

CBDCs can shorten transaction durations and expenses.

According to the World Bank, there is an average transaction fee of 6.25% for migrants who send money home to family members. Remittances are being attacked, which is detrimental to emerging countries.

According to the Bank for International Settlements (BIS), CBDCs might lower the costs associated with these cross-border transactions by doing away with the requirement for money transfer operators.

Additionally, CBDCs could expedite international transactions. While some might take up to five days, most international payments take one or two days. Digital payments might be made at any time of day and in a matter of seconds with CBDCs.

As BIS research notes, there is a counterargument that technologies that potentially allow for nearly instantaneous international payments are already under development. Nevertheless, according to payment provider Swift, there are interoperability problems with the present real-time payment methods due to the disorganized, non-standardized payment systems that have progressively grown around the world.

When a person needs money in an emergency, CBDCs can help.

Adopting a CBDC was first done by the Bahamas. It intended to improve financial inclusion for its 700 island-dwelling citizens—some of whom have restricted access to ATMs and banking services—so it introduced the Sand Dollar in 2020.

According to John Rolle, Governor of the Central Bank of the Bahamas, “we didn’t start with the idea of a central bank digital currency.” “We concentrated on removing as many barriers as we could for people to conduct transactions using the equivalent of a mobile wallet or deposit account.”

The Sand Dollar was created soon after Hurricane Dorian, the deadliest natural calamity to ever affect the Bahamas. After such incidents, when bank branches or cash machines could have been damaged or rendered unusable, digital currencies were considered as a means for the government to provide residents with emergency financial assistance.

According to HSBC Global Economist James Pomeroy, CBDCs may have also assisted governments all over the world with recent energy bill assistance payments brought on by skyrocketing gas prices. A portion of these assistance payments were made in the form of energy bill reductions, although doing so ran the danger of excluding those who own prepayment meters, which are frequently found in areas with lower incomes.

“You could basically drop payments into people’s accounts in a world where everyone has a CBDC account,” Pomeroy said on the Poundcast program.

CBDCs can increase access to finance

One of the reasons Nigeria unveiled the eNaira, its CBDC, in 2021 was to promote greater financial inclusion. In Nigeria, almost one-third of the population lacks a bank account.

As per the World Bank, the advantages of financial inclusion encompass mitigating poverty, generating employment opportunities, enhancing gender parity, and elevating healthcare benchmarks.

Large-scale reductions in poverty have been observed in rural India as a result of initiatives to increase access to banking. Additionally, improved financial access is enabling Malawian farmers to invest in equipment, increasing crop yields and potential revenues by more than a fifth.

Access to financial services is thought to be essential to reaching the Sustainable Development Goals set forth by the UN. Because they can be utilized directly through a mobile device, CBDCs have the potential to revolutionize financial inclusion. This is especially beneficial for the 600 million individuals worldwide who lack access to a bank account but have mobile phones.

CBDCs are able to combat illegal behavior

According to BIS, CBDCs would make it possible to create digital records and traces, which would facilitate the halting of money laundering and the flow of funds used to support terrorism.

However, there’s a chance that the increased transparency of CBDCs may drive these kinds of transactions farther away from established banking institutions and force criminals to look for alternative ways to evade laws.

One of the main criticisms of digital currencies is raised by the possibility of traceability for CBDCs.

Responses to CBDCs

According to the World Economic Forum’s Digital Currency Governance Consortium White Paper Series, privacy is one of the most often raised issues with CBDCs.

Given the development of online privacy and data protection problems in our increasingly digital environment, it’s a valid concern. Yet, the Forum notes that just as governments everywhere have passed new laws to address these issues, they will also need to enact regulations pertaining to CBDCs, such as mandating the use of technology that enhances privacy and guaranteeing consumer protection.

These sorts of regulations will also be necessary to safeguard personal information from the unavoidable cybersecurity threats associated with digitizing private financial data.

Banks are already working hard to figure out how to include anonymity into CBDCs, notably the European Central Bank (ECB). “Even though policy decisions still ultimately determine whether or not to issue CBDCs, those decisions cannot be made without a thorough grasp of the many unique design elements that a CBDC could have,” the ECB notes.

Additionally, the US Federal Reserve states that security will be taken into account carefully before deciding to move forward with CBDCs. However, it makes clear that many of the fundamental technologies included in today’s digital payment systems are already in use. According to the Fed, CBDCs would also profit from the extra security features of blockchain and encryption.