The 2020-2021 Acceleration of the Digitalization of our Economies is remarkable and measurable in so many ways. It has actually become a cliché but not all of these transformations have the same impact.
More consumers for example, shifted to online shopping, contactless payments, and pure mobile banking. Institutional investors & publicly traded companies invested in cryptocurrencies, retail stock trading rose to unprecedented levels, issuance of private USD-backed stablecoins skyrocketed and Global Financial institutions partnered with these issuers (e.g. Paypal and VISA with USDC).
The list is exhaustive. However, the race to research, build, pilot, and launch Central Bank Digital Currencies (CBDCs) is by far one of the most important Digitalization trends. It has the potential to replace existing payment infrastructures, transform monetary policy, and reshape the global economic dynamics.
CBDCs are at the infrastructure layer of economic activity and successful adoption in domestic economies (especially for the underdeveloped countries) and in cross-border activities will have sizable ripple effects globally.
During the recent 5 quarters, over 80 countries globally are actively looking into CBDCs. These countries represent over 90% of the global GDP.
The globally recognized Think Tank,the Atlantic Council, has developed a CBDC tracker and reports that 40% of the 83 countries interested in CBDCs designs for their economies, are in the Research phase. Those include several major Central Banks, like the US Federal Reserve, the Bank of Japan, the Bank of England, and the ECB. Fifteen countries representing 18%, are in Development phase. These include Brazil, France, Nigeria, Russia and Bahrain. Roughly equal number of countries are in Pilot phase. Sweden, Thailand, Saudi Arabia, and China are amongst the 14 countries testing their new infrastructure and choice of design. The 5 countries that have recently fully launched their CBDCs, are all small countries with predominantly Retail designs. The Bahamian Sand Dollar can claim the fame of being the first.
Undoubtedly, the most discussed and anticipated CBDC launch is China`s Digital Yuan. The development was formally announced in 2017 and in April 2020 the Pilot phase started and continues expanding in different cities and different economic activities through collaborations with the traditional Banks and with the TechFin Chinese giants who pioneered digital payments with QR codes within their Super App ecosystems. The goal is to scale the domestic use of the Digital Yuan domestically in 2022.
The People`s Bank of China (PBOC) motivation for their CBDC is loud and clear in the statement of the Deputy Director of the PBOC`s Institute of Digital Currency
`The idea behind the digital currency is to enable anyone, across and beyond the nation, who doesn’t have an account in the Chinese banks, to use a digital wallet and enjoy mobile payment services in China`.
Given this goal, China has designed a Retail CBDC, which means a CBDC for general use by anyone and for all transactions. It stared piloting in four cities by giving away the Digital Yuan as public transport subsidies to government employees. Subsequently the PBOC started piloting with private sector companies like JD.com and McDonald`s. The method followed is similar to airdropping in the cryptocurrency world. Users have to download an app-wallet and the PBOC will airdrop some Digital Yuan which can be used for payments with the piloting companies.
The ongoing piloting involves traditional Chinese banks and the regulated Big Tech firms that offer payment services.
The Digital Yuan goes by many names. From foreign exchange type of abbreviations, like e-CNY or e-RMB, to the official PBOC name DCEP, an acronym of Digital Currency Electronic Payments.
The fact that the DCEP is Retail doesn`t mean that the PBOC will become a retail depositary institution and that commercial banks will have no role and that anyone can open directly an account with the PBOC holdings their Digital Yuan holdings.
The DCEP is designed so that when launched the commercial banks will provide the typical circulation services for any legal tender. Therefore, individuals and businesses will open depositary accounts for their Digital Yuan at commercial banks and this will mean exposure to the issuer-bank. This architecture for the distribution of CBDCs is called hybrid.
The PBOC of course, will control the amount that commercial banks can issue and therefore the digital money supply. For now, the DCEP has no programmable features built-in but has the capability to switch features on like built-in interest or rewards for certain transactions.
"The e-CNY adopts a centralized management model and a two-tier system. It is mainly positioned as M0, and will coexist with physical RMB." (Working Group on E-CNY Research and Development of the PBOC)
The DCEP infrastructure is not a permissioned Blockchain or even a DLT. It is inspired by the Distributed Ledger architecture, but the way transactions are verified and secured is not through any type of consensus mechanism.
The DCEP system uses cryptographic features and processes. The best way to think of it is as a hybrid Token-based cryptographic system as opposed to an Account based system (which is the way currently commercial bank operate). A DCEP token has built-in cryptographically data: amount, owner, issuer & a unique serial number. There is a private and public key for decryption and for traceability. The verification and security of DCEP transactions is done centrally at the Data centers built specifically for this purpose.
China continues airdropping and piloting and has even piloted across its border with a Hong Kong Bank and some merchants. In the July PBOC white paper, Progress of Research & Development of E-CNY in China it is reported that over 20 million individuals and 3.5 million corporates have opened wallets that can store the Digital Yuan. Over USD 5 billion worth of transactions have been processed through the various trials. The Digital Yuan issued during this pilot phase are not included in M0, as they are programmed with an expiration date to test systems in a wide variety of use cases. In a way, the Digital Yuan aims to move an already predominately Cashless society to an even deeper level of cashlessness for both retail and businesses.
The Digital Yuan is a new retail infrastructure. It is very different from the Digital Euro piloted by the Banque de France which uses a blockchain infrastructure to processes interbank settlements of securities. The Banque de France Digital Euro tests are part of the ECB`s CBDC research. They have included the issuance, settlement, and the entire post trade cycle of covered bonds and of listed securities. This interbank piloted Digital Euro uses the Société Générale Forge Blockchain technology. Pilots include cross-border settlements with the National Bank of Luxembourg in which SEBA Bank has also been involved and the Bank of International Settlements and the Swiss stock exchange SIX.\ The latest cross border pilot involved two CBDCs for post-trade procedures. The Digital Euro and the Digital Singapore Dollar were used on a multiple CBDC network (m-CBDC) built on the permissioned Blockchain Quorum .
Payments both at the retail and the wholesale level remain core to all economic activities. In the close future, the CBDC experimentation underway will impact the domestic economies that successfully innovate on this front. In the second phase and in the medium term, CBDCs can affect the reserve currency global dynamics if they penetrate successfully international trade.