Progress of CBDCs in 2021 - Pros and Cons of Central Bank Digital Currencies
Discussion of CBDC’s (or Central Bank Digital Currencies) tends to be quite highly-charged.
Many crypto advocates see CBDCs as nothing more than a shameless copy of the technology pioneered by the pseudonymous Satoshi Nakamoto, but with all the good stuff (like financial freedom and inclusivity) taken out.
But what are CBDCs, which countries are developing CBDCs in 2021, and what positive changes could come about as a result of the deployment of CBDCs in national governments?
What are CBDCs?
Central Bank Digital Currencies will be completely digital versions of government fiat currencies, such as the US dollar, the Chinese Renminbi, or the Euro.
CBDCs are similar to real cryptocurrencies, but lack the distributed network of nodes, censorship resistance, and immutability that make cryptos like Bitcoin such a valuable proposition.
That’s because CBDCs will be developed on centralized blockchains by governments who (naturally) wish to maintain full control over the network. CBDCs will not be immutable, because individuals in government will have the power to reverse transactions, change the way that the network works, and prevent foreign nationals or undesirable individuals from using them.
Many governments had already been moving toward ‘cashless’ societies, where credit and debit card transactions, which leave harvestable data trails, are preferred to cash payments.
The global pandemic however has seemingly quickened the transition from the manual to the digital world.
Which countries are working on CBDCs?
According to a new CBDC tracker from The Atlantic Council, 83 countries — making up over 90% of the world economy, are exploring CBDCs:
Five countries have already launched their own digital currency, all of them being Caribbean tax havens, who perhaps want to safeguard against the prospect of economic sanctions. These are Grenada, The Bahamas, Saint Lucia, St Kitts and Nevis, and Antigua / Barbuda.
Another 14 states are currently testing pilot versions of their own digital currency. This includes China, where the centralized, government-controlled Digital Yuan is seen as a key part of their economic expansion. The Digital Yuan will help the Chinese government streamline international trade with countries and organizations that are signed up for the ambitious Belt and Road Initiative.
Other nations that are currently in the testing stage include Sweden, South Korea and Thailand, which is working on a “Multiple Central Bank Digital Currency Bridge” in partnership with China and the United Arab Emirates.
And then there’s oil-rich Bahrain, which is still in the research stage, and has chosen to actually partner with corporate banks such as JP Morgan to patent their own original system of cross-border payments, which will be settled in US dollars.
The United States is also still in the research phase, with the Boston Fed and researchers at MIT tasked with figuring out how to make a digital currency that is fast, secure and resilient, and basically good enough to fulfill the needs of the world's largest economy.
Some countries, like Israel, are experimenting with Ethereum, with the central bank of the middle-eastern nation putting out a call for ideas about applications that could be developed via Ethereum’s smart contracts.
Building out onto a widely distributed, decentralized platform (which is much more difficult to hack) is probably a wise idea. At least, assuming that Ethereum 2.0 manages to get gas fees under control. But there may still be some benefits to a government-controlled CBDC.
Benefits of CBDCs
With cryptocurrency in general, paying a friend who lives in the same country should only take a few seconds, and the same should be true of friends that live in different countries. Cross-border payments have the potential to be settled instantly, and with a minimal fee.
Compare that to today’s reality, where some of the world’s poorest people are still reliant on payment intermediaries like Western Union, which take fees of up to 10%. Using cryptocurrency, fees would be reduced drastically for both retail users and merchants, who will be able to circumvent credit card processing fees. This would be good news for both small and large businesses.
CBDCs also promise efficient stimulus payment delivery. The COVID-19 pandemic highlighted this weakness in the U.S. financial system, when the government struggled to deliver stimulus checks quickly. Those most in need of financial relief were often found to be at the end of the line, due to their lack of access to financial services.
Assuming that access to digital state money will only require a phone, CBDCs could make it easier for governments to provide targeted welfare payments.
Centralized government currencies can effectively be “tagged” to make them valid only for purchasing certain goods, like food. The same principle can be applied to ensure that foreign aid reaches the people who need it most, reducing the possibility that the financial aid is squandered by inefficient or corrupt governments.
Downside of CBDCs
To most crypto enthusiasts, the idea of having a centralized cryptocurrency that hands power back to world governments (and the banks that sponsor them) is a pointless exercise at best.
One of the obvious downsides of CBDCs is that governments will still be able to freeze individual accounts, reverse transactions, and prevent people from spending their money on things like Bitcoin, which may be seen as an unwanted competitor.
Governments will also have access to an unprecedented amount of financial data. In the case of countries that indulge in serious oppression and human rights violations, this centralization of data could lead to very grave consequences for individuals seen as a threat to the state.
A danger inherent to centralized blockchains in general is the possibility of a total loss of funds, as the keys and data are held in one single place. A similar weakness was seen recently, with the Facebook blackout meaning that other apps hosted by Facebook, including Instagram and Whatsapp, were all pulled offline. In the case of a state government keeping a large part of their national economy locked in one centralized location, a single successful hack from a competing government with a strong cyber warfare team could be disastrous.
CBDC holders could also still suffer the effects of inflation, as the supply of the currency can be changed at any time. Minting new digital dollars for further bailouts and economic stimulus will see the purchasing power of the currency decline, just like it has with the “physical” US dollar.
The future of CBDCs
However the future of cryptocurrencies plays out, CBDCs will likely be a part of it, for better or for worse.
The digital economy will almost certainly become a multiverse of centralized and decentralized blockchains, some of which will host hundreds of different cryptocurrencies and utility tokens.
After a run of thousands of years, we are living in an era that will see the final shift away from cash, and the next few decades should be fascinating.
Arguments for and against Bitcoin and CBDCs tend to become political, but in reality, it will probably come down to trust and convenience.
Those who trust their government or who don’t have time to research and understand their options properly, will happily adopt CBDCs when incentivized. Those who understand the benefits of decentralized currencies will use crypto, and will find numerous benefits in exiting the system of legacy finance.
This content is for informational purposes only and is not investment advice. You should consult a qualified licensed advisor before engaging in any transaction.