Central bank digital currency

Although central banks have directly released e-money previously - such as Finland's Avant stored value e-money card in the 1990s[8] - the present concept of "central bank digital currency" may have been partially inspired by Bitcoin and similar blockchain-based cryptocurrencies. It is also a known concept in the field of economics, whereby the central bank enables citizens to hold accounts with it, providing a reliable and safe public savings or payments medium ("retail" or "general-purpose" CBDC).

One of the earliest examples of retail CBDC was in Ecuador from 2014-2018, when the central bank created a broadly accessible pilot retail CBDC that operated through citizens' mobile phones (it did not employ blockchain technology). The program closed in part due to low citizen adoption.[9]

The Bank of England discussed a blockchain-based central bank currency in a September 2015 speech by chief economist Andrew G. Haldane, on possible ways to implement negative interest rates.[10] A March 2016 speech by Ben Broadbent, the bank's deputy governor of monetary policy, appears to be the first use of the phrase "central bank digital currency", and notes direct inspiration by Bitcoin.[11][12]

The central bank of Sweden mooted an "e-krona" in November 2016,[8] and started testing an e-krona proof of concept in 2020.[13][14][15]

In November 2017, the central bank of Uruguay announced to begin a test to issue digital Uruguayan pesos.[16][17]

In March 2019, the Eastern Caribbean Central Bank announced it would engage in a pilot CBDC project with Barbados-based FinTech company Bitt.[18]

In the Eurozone, the Bank of Spain's former governor Miguel Angel Fernandez Ordoñez has called for the introduction of a digital euro, but the European Central Bank (ECB) has so far denied such possibility.[19] Nevertheless, in December 2019, the ECB stated that "The ECB will also continue to assess the costs and benefits of issuing a central bank digital currency (CBDC) that could ensure that the general public will remain able to use central bank money even if the use of physical cash eventually declines".[20] On 2 October 2020 the ECB nonetheless published a report on the proposed digital euro and kickstarted a phase of experiments to consider the merits of minting such a central bank digital currency. Based on this, it will then decide whether to pursue or abandon plans to issue a digital euro toward mid-2021.[21][22][23][24]

On 20 October 2020, the Central Bank of the Bahamas introduced the "Sand Dollar" as a digital legal currency equivalent to the traditional Bahamian dollar.[25][26]

Since 2014, China’s central bank has been working on a project called DCEP (Digital Currency Electronic Payment).[27] The DCEP is often referred to as the "digital yuan" as it would be backed by the yuan.[28]

At the end of 2017, the People's Bank of China organized a number of banks and institutions to jointly develop Digital Currency Electronic Payment (DCEP) system.

In April 2020, Digital Currency Electronic Payment began to be tested in 4 Chinese big cities, including Shenzhen, Suzhou, Xiong'an, and Chengdu.[29]

After the successful CBDC pilot, Suzhou City Municipal has signed on a Memorandum of understanding (MoU) with the New York based third generation blockchain startup, Cypherium. The company will help the city in the development of products within the city's ecosystem.[30][31][32][33][34]

It is aimed to have the currency in use in time for the 2022 Winter Olympics[35]

The Bank for International Settlements published a report in December 2020 listing the known CBDC wholesale and retail projects at that time.[36]

A central bank digital currency would likely be implemented using a database run by the central bank, government, or approved private-sector entities.[27][37] The database would keep a record (with appropriate privacy and cryptographic protections) of the amount of money held by every entity, such as people and corporations.

In contrast to cryptocurrencies, a central bank digital currency would be centrally controlled (even if it was on a distributed database), and so a blockchain or other distributed ledger would likely not be required or useful - even as they were the original inspiration for the concept.[27][37]

Researchers propose multiple ways that a retail CBDC could be technologically implemented.[38]

CBDC is a high-security digital instrument; like paper bank notes, it is a means of payment, a unit of account, and a store of value.[39] And like paper currency, each unit is uniquely identifiable to prevent counterfeit.[40]

Digital fiat currency is part of the base money supply,[41] together with other forms of the currency. As such, DFC is a liability of the central bank just as physical currency is.[42] It's a digital bearer instrument that can be stored, transferred and transmitted by all kinds of digital payment systems and services. The validity of the digital fiat currency is independent of the digital payment systems storing and transferring the digital fiat currency.[43]

Proposals for CBDC implementation often involve the provision of universal bank accounts at the central banks for all citizens.[44][45]

Digital fiat currency is currently being studied and tested by governments and central banks in order to realize the many positive implications it contributes to financial inclusion, economic growth, technology innovation and increased transaction efficiencies.[46][47][48] Here is a list of potential advantages:

• Technological efficiency: instead of relying on intermediaries such as banks and clearing houses, money transfers and payments could be made in real time, directly from the payer to the payee.
• Financial inclusion: safe money accounts at the central banks could constitute a strong instrument of financial inclusion, allowing any legal resident or citizen to be provided with a free or low-cost basic bank account.
• Preventing illicit activity: A CBDC makes it feasible for a central bank to keep track of the exact location of every unit of the currency (assuming the more probable centralized, database form); tracking can be extended to cash by requiring that the banknote serial numbers used in each transaction be reported to the central bank. This tracking has a couple of major advantages:[49]
  • Tax Collection: It makes tax avoidance and tax evasion much more difficult, since it would become impossible to use methods such as offshore banking and unreported employment to hide financial activity from the central bank or government.
  • Combating crime: It makes it much easier to spot criminal activity (by observing financial activity), and thus put an end to it.[49] Furthermore, in cases where criminal activity has already occurred, tracking makes it much harder to successfully launder money, and it would often be straightforward to instantly reverse a transaction and return money to the victim of the crime.
• Protection of money as a public utility: digital currencies issued by central banks would provide a modern alternative to physical cash – whose abolition is currently being envisaged.[50]
• Safety of payments systems: A secure and standard interoperable digital payment instrument issued and governed by a Central Bank and used as the national digital payment instruments boosts confidence in privately controlled money systems and increases trust in the entire national payment system[51][52] while also boosting competition in payment systems.
• Preservation of seigniorage income: public digital currency issuance would avoid a predictable reduction of seigniorage income for governments in the event of a disappearance of physical cash.[53]
• Banking competition: the provision of free bank accounts at the central bank offering complete safety of money deposits could strengthen competition between banks to attract bank deposits, for example by offering once again remunerated sight deposits.
• Monetary policy transmission: the issuance of central bank base money through transfers to the public could constitute a new channel for monetary policy transmission[54][55][56] (ie. helicopter money[57]), which would allow more direct control of the money supply than indirect tools such as quantitative easing and interest rates, and possibly lead the way towards a full reserve banking system.[58]
• Financial safety: CBDC would limit the practice of fractional reserve banking and potentially render deposit guarantee schemes less needed.[59]

A general concern is that the introduction of a CBDC would precipitate potential bank runs[60][61] and thus make banks' funding position weaker. However, the Bank of England found that if the introduction of CBDC follows a set of core principles the risk of a system-wide run from bank deposits to CBDC is addressed.[62]

Since most CBDCs are centralized, rather than decentralized like most cryptocurrencies, the controllers of the issuance of Central Bank Digital Currency can add or remove money from anyone's account with a flip of a switch. In contrast, cryptocurrencies such as Bitcoin prevent this unless a group of users controlling more than 50% of mining power is in agreement.[63] Current CBDCs such as China's DCEP permit the issuance of new currency, meaning inflation is possible. Bitcoin, in contrast, cannot create inflation since the supply of currency is locked at a maximum of 21 million coins, unless a majority of mining power agrees to increase it with a hard 'fork'. This means the risk of currency being devalued over time is still possible with a CBDC.[64]