The concept of central bank digital currency (CBDC) is gaining global traction and the attention of central banks and financial institutions around the world. Not to be confused with cryptocurrency, CBDC is a form of digital money that represents a direct claim on the central bank.
CBDCs have the potential to provide significant benefits, such as reduced dependency on physical cash, higher seigniorage due to lower transaction costs. It also reduces counterparty risk by establishing a direct claim on the central bank and increases financial inclusion as the mandate of central banks would require them to ensure that CBDCs are supported by infrastructures that are widely available to their communities.
Over the next few years, there will be a continued growth trend in digital payments. According to the latest e-Conomy SEA 2021 report, Southeast Asia’s (SEA) Digital Payment Gross Transaction Value is estimated to nearly double to US$1.2 trillion by 2025, from US$646 billion in 2020.
In Southeast Asia, CBDCs can be proven to be useful in emerging markets where financial institutions may not be easily accessible or robust to the underbanked and unbanked communities with little or no access to the full range of financial services, such as loans, mortgages, and brokerage accounts, and are heavily reliant on cash and barter systems. Hence, CBDCs’ entrance into these emerging markets as a form of replacement or an alternative to fiat cash, can potentially address current problems faced by unbanked and underbanked communities, establishing a more inclusive digital payments ecosystem and creating financial data identities.
As such, the future of money is both diverse and exciting, as in the future, money will be run on a very wide variety of infrastructures and networks, including account-based and token-based systems, permissioned and permissionless networks. But the end goal here will be to make money available on many different infrastructures to support both financial inclusion and optimal user experience.
The traction of CBDCs are undeniably fast-forwarding with its development in the Southeast Asia region due to its low barriers to entry spurring financial inclusion, making CBDCs attractive to emerging economies. Currently at a more nascent stage, CBDCs have seen itself gradually gaining momentum with countries such as Thailand exploring the use of digital fiat currency for cross border payments with Hong Kong, mainland China and the United Arab Emirates; Cambodia with its nationwide launch of its blockchain-based Project Bakong, a tokenized version of Cambodian riel or U.S. dollars backed by the reserves of the National Bank of Cambodia in October 2020; and Indonesia with its latest announcement of its central bank planning to launch a CBDC back in May 2021.
In developed countries such as Singapore where there is strong rising interest in CBDCs, the Monetary Authority of Singapore (MAS) being a forward-looking regulator, has begun CBDC projects that are exploratory in nature as early as 2016 under Project Ubin, and recently announced it would be taking part with Project Dunbar, which brings together the Reserve Bank of Australia, Bank Negara Malaysia, Monetary Authority of Singapore, and South African Reserve Bank with the Bank for International Settlements Innovation Hub to test the use of central bank digital currencies (CBDCs) for international settlements. This development would not just allow businesses to improve cost efficiencies, it can also pave the way towards live adoption of blockchain technology while providing the allowance of other central banks to collaborate with the financial industry to develop a next-generation cross-border payments infrastructure.
To lessen the disruption to existing financial systems that provide credit to the economy today, central banks will need to identify a solution that enables CBDC distribution, as the availability of credit represents a major systemic risk if CBDCs were to be issued directly by central banks. For this reason, there is now a hybrid CBDC issuance model whereby existing financial institutions continue to provide credit to the economy, while making sure that the distribution of money is safe and compliant.
As such, MAS has also partnered with International Monetary Fund, World Bank, Asian Development Bank, United Nations Capital Development Fund, United Nations High Commission for Refugees, United Nations Development Programme, and the Organization for Economic Co-operation and Development, in co-organizing the Global CBDC Challenge where financial institutions, fintech companies and, technology providers are invited to present and develop retail CBDC solutions. With over 300 submissions from 50 countries, the Global CBDC Challenge sought to address multiple problem statements through a variety of technology approaches, including hardware wallets, digital identity and asset tokenization solutions. The competing teamss were invited to address 12 problem statements relating to the CBDC instrument, CBDC distribution, and CBDC infrastructure while concurrently covering topics such as inclusivity, interoperability and programmability.
Additionally, CBDCs allow more visibility into the movement and velocity of money, which can significantly improve insight into the economy, aid in monetary policy and heighten anti-money laundering (AML)/ counter-terrorism financing (CFT) efforts. With that said, for CBDCs to be acceptable to the public and to lawmakers, it must comply with both the privacy expectations of the public and privacy regulations. That would also mean that CBDCs will need to adopt an infrastructure incorporating privacy-preserving capabilities while remaining high performing, with fast response time, low latency and scalability to support large deployments. More specifically, the implementation of CBDCs can allow personal and consumer transactions data protection, while allowing for the monitoring, detection and prevention of illicit activities on the network, e.g. money laundering/terrorism financing, fraud, scams and corruption.
Given the potential to accelerate the growth of digital-first economy, allowing businesses to expand beyond borders with ease, lessening the administrational charges that traditional financial institutions are currently imposing, much education should still be done to onboard people on the benefits of using CBDCs as the world embarks on the rapid transformation of a cashless society.