CBDC developments fuel debate as well as political rhetoric

At the start of the year, former US President Donald Trump announced that if he were re-elected, he would “never allow the creation of a central bank digital currency”. This campaign promise was made to “protect Americans from government tyranny”, according to the 45th president. 

While various public statements made by the presumptive Republican nominee for this year’s presidential election in the US have been attracting ridicule, Trump’s CBDC promise is in line with global thinking, specifically for those who align themselves with libertarian politics. 

However, these stump speeches have not stemmed the flow of global projects aimed at developing a digital form of a country’s fiat currency for both retail and wholesale use. The basic idea is that instead of printing money, the central bank issues electronic coins or accounts backed by the full faith and credit of the government.

According to a 2022 survey from the Bank for International Settlements, most central banks are exploring CBDCs, and more than half of them are conducting concrete experiments or working on a pilot. The survey included responses from 86 central banks showing that the proportion engaged in some form of CBDC work has risen to 93 per cent and that the work on retail CBDCs is more advanced than on wholesale CBDCs. 

In addition, the BIS paper showed that most central banks saw potential value in having both a retail CBDC and a fast payment system, and that there could be 15 retail and nine wholesale CBDCs publicly circulating by 2030. 

There are many reasons why CBDC projects are ubiquitous. These include the idea of promoting financial inclusion by providing safe and easy access to money for the unbanked and underbanked populations, introducing competition and resilience into the domestic payments market and creating programmable money and improving transparency in money flows. 

The Bahamas issued the first retail CBDC, the sand dollar, in 2020. Launched during the Covid-19 pandemic, the Bahamas wanted to increase financial inclusion for its citizens, who live across a series of 700 islands, some of which offer limited access to cash machines and banking services, and who can now access the digital currency via a wallet on a mobile phone.

Catching on

According to research from the Atlantic Council GeoEconomics Center, India is testing a digital rupee project and has reached the milestone of more than one million transactions per day processed by commercial banks throughout the country. India plans on officially launching the digital rupee this year. 

The council’s global CBDC tracker reports that 130 countries, representing 98 per cent of global GDP, are exploring a CBDC, 19 of the G20 countries are now in the advanced stage of development, and 11 countries have fully launched a digital currency. 

Global projects involve the European Central Bank, the Bank of England, the Bank of Japan, the Reserve Bank of India and the People’s Bank of China, among others. 

China’s CBDC pilot, currently reaching 260mn people, is being tested in more than 200 scenarios, some of which include public transit, stimulus payments and e-commerce.

The global activities have names like Project Rosalind in the UK, Aurum in Hong Kong, Polaris in the Nordics and Tourbillion in Switzerland, and those are just the projects focused on retail offerings. Pilots focused on wholesale CBDCs, for easing issues associated with cross-border trading, are also plentiful. However, it is not the wholesale versions of the central bank digital money that causes such disquiet in certain political circles. 

A private matter

According to Richard Holden, professor of Economics at UNSW Business School in Sydney and author of Money in the 21st Century: Cheap, Mobile and Digital, those who lean towards the libertarian are very concerned about governments knowing what people are doing with their money. “They take privacy concerns to the extreme: cash is anonymous, and they like that,” he adds. 

However, these privacy concerns often ignore the fact that banks already know everything you spend on a credit or debit card, and that “cash is often used for illicit activities like drug dealing or human trafficking”, says Holden. In terms of CBDCs developed in Western countries like the US, a firewall can be created so that governments could not access CBDC transaction records without going through proper channels. “In the US, this would be like a Foreign Intelligence Surveillance Act warrant for wiretapping from a FISA court,” says Holden.

Manuel Klein, product manager, blockchain solutions and digital currencies at Deutsche Bank, agrees with Holden that those who deride a government-issued digital currency “fear abolishment of physical cash and the Big Brother state” similar to that described in George Orwell’s Nineteen Eighty-Four. 

However, some concerns about privacy are not unreasonable, he adds. 

“If the central bank managed accounts for all citizens and processed all payments, they could indeed have full transparency over consumer habits of citizens,” he says. “However, central banks include private banks as intermediaries that have the end-user contact, even if central banks settle the transactions, many, including the ECB, plan to include privacy-preserving features.”

This added privacy protections need to be clearly communicated to the end user to ease any fears, he adds. 

In a speech, last year in Washington, DC, Cecilia Skingsley, head of the BIS Innovation Hub, addressed the notion that CBDCs are a threat to privacy and an instrument for social control.

“Let’s take a step back and remind ourselves that the privacy we have has not come about by chance,” she said. “Our banks know absolutely everything we spend, where and how. This information is protected by robust legal frameworks in most countries. So, these mechanisms can and should be preserved if and when countries decide to launch a retail CBDC.”

Skingsley pointed to the conclusions gained from Switzerland’s Project Tourbillon, which directly addressed privacy concerns. 

Project Tourbillon, run by BIS’s Innovation Hub Swiss Centre, demonstrated a new privacy paradigm for retail CBDCs. The experiment tested the concept of payer anonymity, which provides cash-like anonymity to payers, although not for payees. 

In her speech, Skingsley made the point that any CBDC would be offered as an alternative to consumers and not forced on the public. 

“Let me also state for the record, once again, that central banks have no commercial interest in personal data, unlike the private sector,” she added. “Privacy is a social and legal construct, which correlates with the level of development and the strength of democratic institutions in each country.”

Government overreach

Martin Hargreaves, chief product officer at Quant, which works with financial institutions on blockchain, tokenisation and other types of programmable money projects, says most central banks can already gain access to individual transactions with a warrant. However, “the idea of having it centralised is quite scary”, he adds. “In the UK, the BoE is super-sensitive to that, all of the design that it has talked about is to make sure it never sees any of that information that goes between the banks. It knows the amounts but not who the amounts belong to.”

Quant worked with the BoE on Project Rosiland, which is part of efforts to develop a digital pound in the UK. 

However, in other parts of the world, concerns around privacy and government overreach are justified, he adds. 

China has been working on the development of the digital yuan, the e-CNY, since 2014. Officially, the People’s Bank of China has said the goal of the CBDC is to build “an open, inclusive, interoperable and innovative currency service system for the … digital economy”.

China’s central bank has also said via state media that “privacy and protection of personal information” will be respected in regards to the digital yuan, by what it describes as “limited anonymity”. However, there are not many people who have faith in those statements, given China’s track record on civil freedom and human rights, say experts.

That lack of faith fuels the wider global discussion around government-issued digital currencies. 

Outside countries like China, “it’s quite performative”, says Hargreaves. “It plays back into this arms race narrative, where anybody who’s in the private sector, their narrative is around how it would be awful if the government had access to any of this data, it’d be much better if it just stayed with them in the private sector, [supposedly] where it was safe.”

Where Facebook failed

The arms race narrative has its roots in the failure of Meta’s (then known as Facebook) attempts to launch a global stablecoin in 2021. Serious talk around the development of CBDCs increased globally when the Meta stablecoin — named at various points either Libra or Diem — was systematically rejected by regulators in the US, the EU and other countries. 

Hargreaves explains that global regulators were concerned about handing an element of sovereign monetary control over to large technology companies. Instead of outright banning the private stablecoins, central banks decided to create their own digital currencies. 

“I think that’s quite a big driver behind CBDCs, even if consumers can’t really see what the point of it is. It will stop them going to private sector equivalence, as and when, in the future, it comes up,” he adds. “There’s this ideological arms race between these two different visions of the future that plays out quite heavily across the political, regulatory as well as the technical payments landscape.”

Beyond the libertarian concerns around government overreach, there are those who question whether we need a fiat digital currency at all. In 2022, the Lords Economic Affairs Committee in the UK called CBDCs a “solution in search of a problem”. Others question whether current global projects will even address more pressing monetary concerns. 

Ralf Kubli, board member of blockchain project the Casper Association, argues that while CBDCs are a divisive topic, the real issue at hand is that they do not address one of the most fundamental shortcomings of current financial systems: the ability to tokenise and automate cashflows.

Kubli describes current financial services as “hamstrung by sluggish manual intervention and continuing to suffer from human error”, while CBDCs are “dumb tokens” that do little to innovate beyond offering a digital form of settlement. 

Instead, Kubli believes that it is vital that all liabilities and cashflows of a given asset or organisation are tokenised and automated in a machine-readable, executable and standardised way.

“Everybody talks about CBDCs because all they think about are payments,” he says. “Payments are important, as the end of the chain or the beginning of financial contracts, but the centre of finance is the financial contract, [such as] when we enter into a loan agreement … that is finance, that’s not payments, payments are just a subset of the financial system.”

Kubli says that the industry needs to start creating a standardised, machine-readable token for financial contracts first before we create government-issued digital money or “we will continue to perpetuate this chaos in the definitions of these payment terms on these tokens”.

More than money

However, Alisa DiCaprio, chief economist at enterprise blockchain firm R3, believes that as the exploration and development of CBDCs accelerate across the globe, they will evolve beyond a standalone innovation that digitises money into the cornerstone of broader digitisation efforts in the financial sector. 

DiCaprio says these developments are driven by commercial banks and other institutions that are now actively engaged in CBDC development and will soon start exploring including a digital currency into their growing pool of digital financial instruments. 

“When CBDCs started, they didn’t really have a particular goal in the economy,” she says. “It might be good for the unbanked ... but there wasn’t a whole lot of research behind it and there certainly wasn’t any evidence.”

However, now that work on digital currencies has matured, use cases that are “more than just money” are emerging, she adds, such as commercial banks looking to include CBDCs into the digital asset tokenisation flow. 

However, despite being “pretty happy” with the direction development on CBDCs are going, DiCaprio warns that many are ignoring an important participant in global commerce: the merchant. 

“We don’t see a lot of merchant uptake in the countries which have released it,” she says. “Everybody’s paying attention to the banks because they want to make sure there’s financial stability. People are paying attention to consumers because they want to make sure that they use it, but what about the merchants? How expensive is it going to be for them to use this as a processing mechanism?”

DiCaprio also warns about making assumptions when building a digital currency. Money kept in deposit accounts gains interest, which would make deposited cash more valuable than physical cash. However, consumers still use physical cash, which leads economists to wonder: what is it about cash that makes it attractive to people? 

“Central banks are assuming that there is something special, that this special thing about currency will also translate into the digital form of currency, and it’s unclear,” she says. “Actual details of consumer behaviour are something we don’t understand.”