As the world increasingly moves towards a cashless society, the adoption of central bank digital currencies (CBDCs) is gaining momentum. According to a recent report by the Bank for International Settlements (BIS), more than 90% of the world’s central banks are exploring the introduction of CBDCs to complement existing banknotes.
Understanding Central Bank Digital Currencies
A CBDC is not a new currency; it is a digital representation of an existing national currency, such as an Australian CBDC which would have the same value as an Australian dollar and would be legal tender. CBDCs could be available in both retail and wholesale formats, allowing point-of-sale purchases, government payments, and transfers between individuals. However, their usage would be optional, and they would not replace hard currency.
Retail CBDCs are likely to facilitate more sophisticated and innovative financial transactions, such as “smart contracts,” compared to existing electronic money forms like credit cards. In contrast, the wholesale version would be available only to financial institutions, similar to the deposit accounts these institutions currently hold with the central bank.
Global Trends and Adoption
The BIS report indicates that 94% of central banks are considering CBDCs, with about one-third running pilot projects. However, most are cautious and do not expect to issue their own digital currency in the immediate future.
Several countries are already using retail CBDCs. The Bahamas launched the Sand Dollar in 2020, followed by the Eastern Caribbean Central Bank’s DCash in 2021. Nigeria and Jamaica have also implemented CBDCs. Among major economies, China is the most advanced in retail CBDC development, with its digital yuan, or e-CNY, widely trialed.
The United Kingdom is also considering a CBDC, nicknamed “Britcoin.” However, a decision has yet to be made, and if it proceeds, it would require parliamentary approval and several years to implement.
Motivations and Challenges
Central banks may adopt CBDCs to preserve the role of central bank money, ensuring monetary policy remains effective for managing the economy. CBDCs could also make cross-border payments faster and cheaper, benefiting countries where families rely on remittances from abroad. In countries with a large unbanked population, CBDCs could enhance financial inclusion.
However, there are concerns that retail CBDCs might replace commercial bank accounts, as customers might transfer funds to the absolute safety of a CBDC. This shift could facilitate illegal activity if CBDCs are fully anonymous, raising privacy concerns if registration is required to use them.
Smart Contracts and Financial Innovation
CBDCs could support smart contracts, which involve instant payments made simultaneously with the transfer of asset ownership. Currently, smart contracts are primarily used for digital asset purchases like NFTs, but they could be extended to more significant transactions such as buying shares or homes, ensuring automatic and simultaneous ownership transfer and payment.
Stablecoins, which are cryptocurrencies purporting to hold reserves in high-quality assets to maintain parity with national currencies, have been suggested for smart contracts. However, stablecoins are rarely used for payments outside the crypto ecosystem, and projects like Meta/Facebook’s Libra/Diem have been abandoned. A CBDC could provide a more trustworthy basis for smart contracts, as emphasized by BIS chief economist Hyun Song Shin: “Anything that crypto can do, CBDCs can do better.”
The Reserve Bank of Australia’s Perspective
Australia’s Reserve Bank has been cautious about issuing a CBDC. Former governor Philip Lowe stated in 2021 that there was no strong public policy case for moving in this direction, given Australia’s efficient electronic payments system. With more than 99% of Australian adults having a bank account and few families relying on international remittances, the financial inclusion motive is less relevant in Australia.
Nevertheless, the Reserve Bank has shown increased interest in recent years. An assistant governor highlighted that a CBDC could “spur innovation,” and a study identified potential uses, including smart contracts, faster financial transaction settlement, and a backup payments system. The Reserve Bank plans to release a paper outlining a “roadmap for future work.”
As central banks worldwide explore and pilot CBDCs, the trend towards digital currencies is undeniable. While the transition to a fully cashless society may take time, the integration of CBDCs into financial systems appears to be a significant step forward in the evolution of global finance.
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