On the 9th of March, U.S. President Biden gave an executive order instructing government bodies to urgently regulate the digital asset space and to increase efforts on the development CBDC’s.
Whether countries will roll out this technology across their economies is still speculative. However, nine nations, including The Bahamas, have already launched their digital currency. Countries like China, Sweden, and 13 others are currently running pilot testing and appear increasingly likely to establish their own (Atlantic Council, 2022. Bank of England, 2021).
According to The Bank of England (BoE) (2020), during the beginning of the pandemic, consumer spending dropped significantly across all forms of payment. However, electronic payments recovered and began to grow while reliance on cash and cash-based transactions consolidated at a lower level than before the start of the pandemic. We can assume similar trends across the developed world. While this is partly due to the ongoing likelihood of transmission, it’s also fuelled by the convenience of electronic transactions that influenced their initial rise in adoption (Klapper and Miller, 2021).
In addition – deflationary cryptocurrencies based on blockchain technology have rapidly grown in popularity and adoption. This growth in crypto came correlated to fears of significant inflation from central banks debiting and crediting large amounts of new fiat currency to purchase debt (Refinitiv, 2021. NEF, 2021. Feldberg and Lawson, 2021).
In response to these global shifts, opportunities, and threats, central banks have been developing and testing their digital currencies that combine useful features of cash, bank deposits, and cryptocurrency (BIS, 2021. BoE, 2020).
Many consumers and business operators regard Fiat currency as being mostly digital – so the notion of CBDC may not seem like anything new. Therefore, it is essential to distinguish between current electronic payments and CBDCs.
Existing electronic payments work on a credit-based system where fiat currency is tracked, recorded, and transferred on secure banking databases or ‘ledgers’. This credit can be withdrawn into physical cash.
While CBDCs are also pinned to national, central bank-issued fiat currency – they are entirely exclusive to a digital medium and cannot be withdrawn into cash.
Furthermore, instead of holding financial data on one database, CBDC uses distributed ledger technology (DLT) used by cryptocurrencies, where financial information is copied and synchronised across multiple ledgers. On DTL, the network can validate transactions without having to achieve consensus (agreement) across the entire network of ledgers, or ‘blockchain’. Unlike cryptocurrencies, CBDCs will run on ‘permissioned’ DTL, where central entities control the network.
CBDCs are technically ‘digital cash’ issued by the central banks and directly available to households and businesses, enabling everyone to trade in central bank-issued money rather than the current credit-based payments system.
Of U.S. GDP saved in transaction costs per year.
Saved per annum in U.S. physical infrastructure costs.
No runs on banks. No need for depositor protections.
As digital payments and banking grow in contrast to the dwindling use of physical cash, new forms of money and digital assets emerge. Central banks and governments respond to market changes and opportunities by developing and testing their own digital currencies. While there are significant benefits and advantages to CBDCs, one of the most pressing issues in their success is cyber security. Compromised systems can result in immediate and wide spread damages.
To get a closer look at the current cyber security implications, read our accompanying article here.
Atlantic Council, 2022.
Federal Reserve, 2022.
Feldberg and Lawson, 2021.
Hayashi, F. and Keeton, W.R., 2012. Measuring the costs of retail payment methods. Federal Reserve Bank of Kansas City Economic Review, pp.37-77.
IMF, 2020. Kiff et al, IMF WORKING PAPER. “A Survey of Research on Retail Central Bank Digital Currency”.
Klapper and Miller, 2021.
UK Parliament, 2021.