Central Bank Digital Currency Explained

central bank digital currency article cover with the sign of the government on the green background

For the past decade, we’ve been living in a world of cryptocurrencies vs. centralized financial institutions constant showdown. But it seems like that is about to change. The Central Bank Digital Currency concept is starting to take the spotlight, serving as a bridge between the traditional paper money market and a fully digitized economy. 

In this article, we’ll talk about the basics of CBDC, compare it to modern decentralized cryptocurrencies, discover its pros and cons, and see what countries have already adopted this concept or are considering doing it shortly. 

If you are not familiar with how cryptocurrencies work, it could help start with our article on blockchain and distributed ledger technology

What Is Central Bank Digital Currency?

CBDC, or Central Bank Digital Currency, is a form of digital money representing a particular country’s fiat currency. As far as the concept goes, CBDCs are not meant to replace paper money, but merely complement the existing financial systems of the countries that will dare to embrace them.

Technologically speaking, Central Bank Digital Currencies don’t represent anything brand-new. The idea is that they work on a blockchain (or any other ledger) controlled by a government, a political entity (in the case of the EU), or a private entity trusted with the task. CBDC is a giant centralized database that reflects how much assets every citizen or entity has at all times and records the assets’ movement. 

As CBDCs are supposed to be a full equivalent of the fiat money, they will be issued, distributed, and governed by central banks and serve as a means of payment and a unit of account. Supply and demand will determine its value, but, just like with fiat money, other factors will also influence CBDC’s value, including monetary policies, overall world economic situation, trade surpluses, etc. 

As of September 2020, CBDC stays on a proof-of-concept stage: some governments consider implementing digital money, but no one has actually done it yet. However, several countries have come close to issuing digital fiat money. For instance, this year, CBDC in China reached another milestone in its development: the government is testing the digital yuan across Hong Kong’s Greater Bay Area. Let’s dive deeper into different countries’ attempts to adopt CBDC.

CBDC in Different Countries

China is undoubtedly ahead of the game when it comes to Central Bank Digital Currencies. For the past several years, the Chinese government has been working on DCEP – Digital Currency Electronic Payment system. This highly centralized national cryptocurrency has already been tested in four large Chinese cities, Shenzhen, Suzhou, Xiong’an, and Chengdu. 

Check out our article about crypto regulations in China to stay up-to-date news. 

Among other CBDC news, in 2020, Japan and England gathered their own groups of prominent economists and market analysts to elaborate CBDCs based on yen and pound, respectively. 

Thailand and the Philippines announced their desire to get involved with Central Bank Digital Currencies. Philippine governor Benjamin Diokno explains:

“Cryptocurrency for us has always been beyond the asset itself but more on the blockchain technology that underpins it.”

The USA confirmed their plans to work on a digital dollar. Meanwhile, Sweden is thinking about issuing an e-krona, which is being tested this year by Riksbank, the country’s Central Bank. The Riksbank economist, Gabriel Söderberg, is not so sure about the correctness of this decision:

“There is currently no decision on issuing an e-krona, how an e-krona might be designed, or what technology might be used. This decision is too big for a central bank alone, at least in the Swedish context.”

As for CBDC in Canada, the Bank of Canada is developing a contingency plan that involves a cash-like CBDC. The European Central Bank is also working on a digital euro project, and if launched, it will be a CBDC with the broadest range, covering at least 19 countries. 

Central Bank cryptocurrency is promised to be designed in a private, secure, and cryptographically protected way. But can it even be called crypto? Well, most experts are quite skeptical of the matter, as there are several critical differences between cryptocurrencies and CB digital currencies. 

CBDC vs. Cryptocurrencies

Let’s take a look at the key differences between CBDC and crypto.

CBDCCryptocurrencies
Nature of authorityHighly centralized Mostly decentralized or headed towards fully decentralized
Nature of valueDerives from the market and is influenced by many other outside factorsDerives entirely from the market
Scope of applicationAs soon as the system is launched, it will be mandatory to accept CBDC as an equivalent to fiat money in a particular countryAll market actors decide for themselves if they want to accept a particular cryptocurrency or not
Geographical allianceTied up to the economy of one particular countryNot geopolitically allied  

Why Should the Government Use CBDC?

When it comes to central banks and cryptocurrency, the main disagreement between the two has always involved decentralization. CBDC offers the governments an opportunity to use all the benefits of the new financial technology without giving up the power of a primary regulator.

Central Bank Digital Currencies promise to be more efficient than traditional fiat money in terms of transfer fees and time reduction. They also pull down the cost of money minting as there is no physical money to be printed. Moreover, CBDC banking operations will be available 24/7 because they will no longer be limited by banks’ opening hours. 

CBDC will give the world’s significant underbanked population access to payment tools and provide financial inclusion. Anyone who owns a smartphone will be able to conduct banking operations, so there is no need for a banking facility, or an ATM nearby. At the same time, it will become harder to commit tax evasion and other fiscal crimes. Overall, the world has already been moving towards a cashless economy, and CBDC will make the transition smoother for all the parties involved.