This article was guided by insight from YCP Solidiance Associate Benjamin Yong, who previously worked in a venture capital firm focusing on the blockchain industry. He has experience in advising clients across several industries on market entry and growth strategy, commercial due diligence, and internal audit exercises.
In an era of rapid digital transformation, the financial industry is at the cusp of a groundbreaking revolution with the emergence of central bank digital currencies or CBDCs. These digital representations of national currencies, directly issued and backed by central banks, are set to redefine the way we transact, store value, and engage with the global economy. With their potential to disrupt traditional financial systems and address key challenges, CBDCs hold immense promise for shaping the future of finance.
Our Associate, Benjamin Yong, discussed CBDCs, how they work, and their important applications in the financial industry at the recent Asian Banking and Finance Forum hosted by Charlton Media in Kuala Lumpur, Malaysia.
History of Blockchain and CBDCs
CBDCs represent a significant shift from conventional forms of currency. This innovative approach enables central banks to create secure, transparent, and efficient digital currencies that can be seamlessly integrated into existing financial ecosystems.
The origins of cryptocurrencies and CBDCs provide valuable insights into understanding their fundamental differences. While they share a common history rooted in digital currency initiatives, their intentions and applications diverge significantly.
As Benjamin discussed, “A blockchain is a type of distributed ledger technology, that's decentralized, meaning it is not controlled by a single individual or institution. Instead, blockchains are controlled by a vast network of individuals and institutions who are unrelated.”
On the other hand, a distributed database – on which CBDCs are built on – is a type of distributed ledger technology that is centralized, meaning it is controlled by a single individual or institution. A distributed database can be seen as being the same thing as a blockchain, except that one is centralized and the other is decentralized.”
The Development of CBDCs
Central banks worldwide are eager to create their own CBDCs, and currently, over 90% of central banks are actively engaged in CBDC-related efforts. The development of CBDCs has gained momentum during the recent downturn in the cryptocurrency market. China released the Digital Yuan in 2022, while the Federal Reserve Bank in New York and the Bank of England are considering the introduction of Digital Dollars and the aptly nicknamed “BritCoin,” respectively.
According to Benjamin, “CBDCs will play an important role in the day-to-day lives of everyone, as it will in some way or another affect how everyone transacts value and money between one another. It is important to begin dialogues around this topic even during these early stages, because recent CBDC developments suggest that they may possess some dystopian qualities.”
Recent CBDC developments demonstrate central banks' authority over savings, spending limits, and transaction monitoring. Conversely, CBDCs have the potential to enable financial inclusion, particularly in developing countries, by offering banking services to unbanked populations and serving as a powerful tool for this purpose.
Challenges in Implementing CBDCs
Benjamin shared a cautionary tale of how CBDCs can have technical drawbacks and implementation issues. “Nigeria fully launched its CBDC, the e-Naira. If you look at the Google search trends for CBDCs, you'll notice they a sudden spike in December of 2022. This is because December is when the Nigerian government set limits on cash withdrawals in the country to US 45 dollars per person per week. This was done to try and force, or rather, “highly encourage” the population to adopt its eNaira, which was released back in October 2021. To put things into perspective, only 0.05% of Nigerian citizens adopted the eNaira in its first year.
“Unsurprisingly, the governments moved to restrict cash use only increased the opposition to its CBDC. By February this year, adoption had not increased, and cash was in short supply. The Nigerian government attempted to revamp the eNaira with the help of an undisclosed American company. In March, the Nigerian Supreme Court struck down the attempt to redesign the eNaira and stated that cash use should be allowed until at least December this year.
“Although it cannot be considered a direct acceptance of failure or an acknowledgment that Nigerians are opposed to CBDCs, it represents the nearest instance where the citizens have managed to persuade their government to retain physical currency in circulation. It also foreshadows what happens when CBDCs are rolled out without the buy-in of the public and the struggles of other countries will have to endure to preserve their own cash.”
As CBDCs gain momentum, it is crucial to address potential challenges associated with their implementation, including privacy concerns, cybersecurity threats, and ensuring a balanced regulatory framework. By carefully navigating these complexities, central banks and financial institutions can maximize the transformative potential of CBDCs while mitigating associated risks.
The future of finance is undergoing a paradigm shift, with CBDCs emerging as a game-changer. As central banks continue to explore, develop, and pilot their own digital currencies, it is imperative for stakeholders across the financial industry to adapt, collaborate, and embrace the transformative possibilities that CBDCs offer.
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