Central bank digital currencies are in the spotlight

The benefits are clear but questions remain | Global co-operation becomes crucial

The future of money remains uncertain but there is no mistaking the intense focus that central bank digital currencies (CBDCs) are attracting among the world’s central banks, governments and businesses.

The rapid emergence of Bitcoin, other decentralized cryptocurrencies and stablecoins continues to fuel the global debate over digital money. And as more countries explore the promise of ‘programmable money,’ central banks are sharpening their focus on CBDCs.

Not to be underestimated as well is the impact of the global pandemic in accelerating the development of CBDCs for their potential advantages as a monetary policy tool, as governments currently address the need to transparently distribute and track economic-stimulus programs emerging since early 2020.

A CBDC is a digital version of a fiat currency and they vary significantly in their design. The technology behind each CBDC depends on the preferences of individual nations and central banks. In some cases, CBDCs rely on distributed ledger technology (DLT), a database that stores multiple copies of financial records across multiple entities that can be managed by a central bank. DLT use differs from the use of blockchain among popular decentralized cryptocurrencies like Bitcoin.

China is leading the way on digital currency development. It has been expanding pilot use of its digital yuan (e-CNY) in major cities and is expected to be among the first countries to officially launch a digital currency. It is estimated that about 150 million people have opened e-wallets for China’s digital yuan to date amid the nation’s pilot programs and the digital yuan has been used to conduct the equivalent of US$9.7 billion in transactions as of the end of October 2021. China also plans to extend its CBDC trials to foreigners visiting during the 2022 Winter Olympic Games.

Other CBDC first movers include the Bank of England, Sweden’s Riksbank and the Bank of Canada. The Bank of France this year launched one of the European Union’s largest CBDC trials to date, and other European nations pursuing them include the central banks of Italy and Germany. Also on the forefront are the central banks of Uruguay, Thailand, Venezuela, Singapore and the Bahamas.

While the rapid emergence of CBDCs inevitably includes questions regarding security and trust, it is worth noting that central banks may indeed hold an advantage regarding public trust in CBDCs as a digital currency. According to a global 2020 poll by the Official Monetary and Financial Institutions Forum (OMFIF), more than half of potential users surveyed in 13 countries said they would prefer a digital currency issued by their central bank, while private digital currencies issued by tech companies were deemed least-trusted.

CBDCs, depending on the geographies, present the opportunity to deliver significant benefits to individuals and businesses. Programmable money offers a broad range of new use cases that include spending restrictions, triggers and limits. The use of digital distribution channels and infrastructures can provide broad new levels of global access to central bank money and payment services.

As noted, CBDCs are also showing their potential to enhance central banks’ transparency and efficiency in distributing capital based on monetary policy decisions. As climate-related disasters continue to rise, for example, CBDCs could enhance the ability of governments to provide broadly accessible public support as needed. CBDCs have also been touted as more secure than decentralized cryptocurrencies like Bitcoin and their existing challenges related to consumer and investor protection, money laundering and enforcement of tax laws.

China’s significant progress in the development of its national digital currency has helped raise international focus on economic implications and challenges regarding broad global adoption of CBDCs.

In Europe, the governing council of the European Central Bank (ECB) in July 2021 launched a 24-month investigation phase of a digital Euro project to address key issues regarding their design and distribution.¹ The ECB notes that a digital Euro must fully meet the needs of users while also helping to prevent illicit activities and avoid negative impacts on financial stability and monetary policy. The project will also explore potential changes needed to the EU legislative framework.

In the US, the Digital Dollar Project (DDP) will launch at least five pilot programs over the next 12 months, with interested stakeholders and DDP participants to explore the value and future design of a CBDC or US digital dollar. The DDP initiative is the first of its kind in the US. Meanwhile, the US Federal Reserve has also expanded research on CBDC system design.

Amid the potential benefits are concerns surrounding future CBDC adoption and global alignment on their use. Giving central banks much broader access to businesses and individuals via CBDCs is raising questions over the potential disintermediation of financial institutions. The Bank for International Settlements (BIS) has clearly warned of the possible negative consequences for businesses and consumers if retail CBDCs are not carefully designed: Unrestricted introduction of retail CBDCs could result in disintermediation of banks. This, in turn, could lead to a decline in lending capacities, increase the cost of financing for businesses and thus profoundly impede economic growth for the foreseeable future.”²

Given the cross-border capabilities of CBDCs, co-operation among nations and regulators on their use will likely be critical amid the threat of potentially harmful economic competition. As highlighted in a joint report³ to the G20 by the Committee on Payments and Market Infrastructures, the BIS Innovation Hub, the IMF and the World Bank, while no major jurisdiction has launched a CBDC, they clearly have the potential to enhance cross-border payment efficiency — as long as countries work together.

The report to the G20 notes that “faster, cheaper, more-transparent and more-inclusive cross-border payment services would deliver widespread benefits for citizens and economies worldwide, supporting economic growth, international trade, global development and financial inclusion.” But it concludes that the potential for CBDCs to enhance cross-border payment programs will require “international integration and co-operation, ranging from basic compatibility with common standards to the establishment of international payment infrastructures.” This includes aligning regulatory, supervisory and oversight frameworks for cross-border payments, consistency on anti-money-laundering (AML)/combatting financing of terrorism (CFT) programs, payment-versus-payment adoption and payment-system access.

In conclusion, while CBDCs appear poised to deliver new advantages for global payment systems, questions remain over what their global implementation is expected to look like.

The central question is whether political developments are moving fast enough to keep up with the competition from private initiatives. In addition, there is limited experience with such major transformations among today’s central banks. Success also depends on efficient adoption that could be accelerated and enhanced by technology providers.

In anticipation of the multi-faceted transformations that CBDCs present, KPMG professionals are working to help global clients navigate the journey ahead in order to:

• understand the implications, risks and opportunities that CBDCs present
• design effective strategies for adoption across the business and technology
• assess, configure and deploy core technology infrastructure for CBDC systems
• harden CBDC systems for security and resilience against leading standards.

While the COVID-19 pandemic and the current need to transparently distribute and track economic stimulus programs has served to accelerate the rise of digital payments and the discussions on CBDCs, their ultimate adoption and impact on the global financial ecosystem remains to be seen and will likely be largely defined by the ability of adopting nations to design the new digital currency best for relevant use cases and with tangible benefits.