The Digital Dollar Digest: Catalysts for Exploring a Central Bank Digital Currency

By Nasreen Quibria

In this edition of ICBA’s Digital Dollar Digest series, we explore the catalysts for global interest in central bank digital currency (CBDC).

Central banks around the world are advancing towards money 3.0. According to the Bank of International settlement (BIS), nearly 60 percent are conducting experiments or proof-of-concept, while 14 percent are moving forward to development and pilot arrangement. From the Peoples Bank of China, the Riksbank in Sweden, to the Bank of Russia, central banks are actively assessing national digital currencies.

What is galvanizing the world market to pursue central bank digital currencies? The factors are varied and highly dependent on the socioeconomic and technological conditions of the countries. While enhancing macroeconomic policy runs undercurrent as a key motivator, here are some of the other main drivers:

Improve Financial Inclusion. Many emerging markets are motivated to consider CBDCs to improve financial inclusion, which has gained significant traction in developed economies during the COVID-19 pandemic.

For example, the Bahamas introduced the world’s first official CBDC, the Sand Dollar, in October 2020 to reach 390,000 inhabitants across 30 islands. A digital currency could play a role in reaching the last mile to distribute fiscal stimulus to unbanked and other underserved populations in remote locations.

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Counter Cryptocurrency Substitution. Cryptocurrencies have the potential to disintermediate financial institutions, increase the volatility and cost of bank deposits, and substitute existing payment instruments, such as checks and cards.

In countries like Venezuela and Turkey struggling with hyperinflation, a growing number of citizens are increasingly holding Bitcoin. In response, Turkey is working towards a digital lira that can provide more efficient and targeted monetary and fiscal policy.

Big Tech Threat. Meanwhile, Facebook’s planned rollout of its stablecoin project Libra (now known as Diem) also fast-tracked CBDC research by many nations. Regulators warned the controversial effort “could threaten monetary stability and become a hotbed for money laundering.” Concerns about this tech giant with a global reach (2.8 billion monthly average users) and the benefit of its vast network effects is one reason for the European Central Bank’s investigation of a digital euro.

In China, the ambitions of Big Tech alternative payment rails from domestic juggernauts WeChat and Alipay to the Facebook-backed Diem project spurred the People’s Bank of China to pursue its Digital Currency/Electronic Payments (DCEP) project.

Geopolitics and challenging the supremacy of the U.S. dollar are also likely motivators for China. Through measures such as the Belt and Road Initiative—a global infrastructure investment initiative stretching from East Asia to Europe—China can wield its sphere of influence to accept the DCEP. By doing so, the adoption of its DCEP within and beyond its borders would elevate the Renminbi on the world stage.

Address a Cashless Society While Supporting National Migration to Digital Payments. In economies grappling with declining cash usage and the concentration of privatized money, the lack of access to state-backed digital currency can undermine one of the essential functions of the central bank and the safety and efficiency of the domestic payments system.

In Sweden, nearly 80 percent of the population use the mobile payment solution Swish. The move to an e-krona could counter the adverse effects of weakened central bank influence by offering access to the digital equivalent of cash while modernizing the central bank infrastructure for a digital economy.

Challenge U.S. Dollar Hegemony. Increasingly, countries seek to phase out the U.S. dollar in trade deals. Facing ever-widening economic sanctions from the U.S. and E.U., a Russian digital ruble may reduce reliance on the U.S. dollar and limit the role and oversight of foreign financial institutions and regulators. However, with 88 percent of international foreign-exchange trades dollar-based, the status of the U.S. dollar as the world’s leading reserve currency will not change so easily or quickly.

The reasons above are not exhaustive, but some of the themes suggest the possibility of a digital currency cold war, while a growing chorus calls for a U.S. CBDC. In taking a deliberate approach to the digital dollar, the Federal Reserve is striking a balance between speed and prudence. This will take time.

So, what is the first step in embarking on a digital currency? What CBDC models should the Federal Reserve consider? We will explore these questions in the next installment of the Digital Dollar Digest.

Nasreen Quibria is ICBA vice president of emerging payments and technology policy.