What is a CBDC?

A CBDC is a ‘central bank digital currency.’ The concept is akin to a hybrid version of a crypto currency (such as bitcoin) and a stable fiat currency (such as the US dollar). As CBDCs are issued, backed, and regulated by a nation’s central banking authority, these tokens allow centralized regulators to implement monetary and fiscal policy. 

Governments expect CBDCs to be the conduit that brings crypto assets into major financial markets. Advocates anticipate centralized digital assets will lower transaction costs. Moreover, they foresee underlying blockchain technology will dramatically reduce transaction costs while facilitating instantaneous transactions. It remains to be seen if the underlying market structure and resulting CBDC governance discourage competition––dependence upon preferred intermediaries could result in anti-competitive practices.¹ CBDCs’ vulnerability to cyberattacks adds another layer of concern for security administrators. And international governing bodies will need to work together to reconcile differing CBDC frameworks in order to ensure cross-border fluidity. The scope of CBDC’s programming and application potential has yet to be fully defined.

What differentiates CBDCs?

By design, CBDCs aim to share the same attributes––security, scalability, and stability––that are currently attracting investors to stablecoins, albeit with differentiated key permissions. Central banking authorities hope CBDCs will attract risk-averse DeFi proponents and allow continued management of interest rates and digital asset supplies.  

Distributed Ledger Technology (DLT) gives central banks the authority to store, manage, and scrutinize multiple copies of fintech records across select auxiliary financial entities. These select entities are now privy to all transaction details across the central bank’s permissioned blockchain. Central banking authorities' ability to track detailed transaction histories via permissioned DLT technology raises some privacy concerns. End users will ultimately have to weigh the benefits of stable, centrally regulated digital currencies against the loss of privacy offered by permissionless blockchain tokens.

The Federal Reserve Bank of Boston, in collaboration with Massachusetts Institute of Technology (MIT), is currently investigating the viability of an American digital dollar.² They're studying over 30 blockchain networks to determine which can best support and sustain a digital dollar.

South Korea and China have already built and launched pilot programs for their virtual currency demos. The objective of China’s digital yuan––DC/EP or Digital Currency Electronic Payment––is to empower banks to compete for dominance in the realm of retail consumption payments. The consumption payments landscape is competitive terrain for central banks and fintech service providers. It's not yet clear which digital payment platforms will emerge as market leaders. Goldman Sachs’ forecast suggests China will be a formidable fintech leader once the digital yuan replaces digital currency pacesetters Alipay and WeChat Pay.³ Goldman Sachs’ 81-page report attributes the early success of the standalone digital yuan wallet to its independence from a traditional bank account.⁴ As digital transactions supplant analog cash usage in China, increased power consumption becomes a national concern. China’s digital ‘RMB wallet’ resolves this issue––designed for offline use, it facilitates transactions via Bluetooth and the interconnectivity of the digital yuan’s payment ecosystem.⁵   

Centralized banking systems hope to outpace the revenue growth of established fintech companies. Designing a stable, utilitarian CBDC will further the ability to remain competitive in the retail financial services market.

1. “III. CBDCs: an opportunity for the monetary system,” BIS, June 23, 2021, https://www.bis.org/publ/arpdf/ar2021e3.htm.
2. Nikhilesh De, “The Federal Reserve Is Experimenting With a Digital Dollar,” CoinDesk, last modified September 14, 2021, https://www.coindesk.com/policy/2020/08/13/the-federal-reserve-is-experimenting-with-a-digital-dollar/.
3. Keith Zhai & Julie Zhu, “Exclusive: China's central bank urges antitrust probe into Alipay, WeChat Pay - sources,” Reuters, July 30, 2020, https://www.reuters.com/article/us-alipay-wechat-pay-china-exclusive/exclusive-chinas-central-bank-urges-antitrust-probe-into-alipay-wechat-pay-sources-idUSKCN24W0XD.
4. David Pan, “Goldman Sachs Expects Digital Yuan to Reach 1B Users Within 10 Years,” CoinDesk, last modified September 14, 2021, https://www.coindesk.com/policy/2020/11/19/goldman-sachs-expects-digital-yuan-to-reach-1b-users-within-10-years/.
5.  “Details about the digital yuan wallet officially disclosed,” Ledger Insights, June 11, 2021, https://www.ledgerinsights.com/details-about-the-digital-yuan-wallet-officially-disclosed/.