CBDC Round-Up

CBDCs a Positive Option for Storing Value

A technical article by Manuel Muñoz and Oscar Soons, unusually, considers the role of CBDCs as a store of value instrument for consumers ¹.

Its finding is that there would be a degree of bank disintermediation. However, lending would fall less than one-for-one against deposits and relative maturity- transformation increases. Even with some disintermediation, social welfare increases in a wide range of relevant cases because of the powerful benefits of increasing the efficiency of storing public money in an environment characterised by disagreements about banks’ stability.

Indian CBDC to Test Programmability and Offline Capability

India, which has been testing a retail CBDC since early 2023, is adding programmability to the programme. This will enable transactions for specific and targeted purposes, for example allowing specific expenditure such as business travel for employees.

In addition, the Reserve Bank of India will also test offline functionality. A number of pilots will be run in locations with poor internet connectivity, such as mountainous areas.

Dramatic Change Will Need Careful Handling

Atlantic Council has reviewed the International Monetary Funds (IMF) CBDC Virtual Handbook, and its other work on CBDCs, and written about the key issues that the IMF has identified.

It starts by reviewing the use cases for a retail CBDC, replacing cash in island economies, enhancing resilience in advanced economies and improving financial inclusion, and noting that the tokenisation of financial assets, such as bonds issued on blockchains, allows CBDCs to be used in wholesale forms of payment. Enhancing cross-border payments is a clear opportunity to make payments more efficient and cheaper.

It makes the point that governance and oversight will be needed to address interoperability, innovation, competition, financial inclusion, data integrity and privacy, safeguarding monetary policy, monetary sovereignty and financial stability.

The challenges of maintaining effective anti-money laundering and countering the financing of terrorism will need monitoring mechanisms and legal measures, particularly cross-border.

New capabilities such as programmability and encryption will create new solutions and business models. Stablecoins and crypto assets will compete. The risk of fragmentation could undermine the current existing order.

No wonder movement on CBDCs is so measured!

Work Continues on a Digital Pound

The UK’s Treasury and the Bank of England ran a CBDC consultation that started in February 2023. They have now announced that while no final decision about a future digital currency has been made, work is continuing on a design phase to explore its feasibility and design options.

Feedback overall was supportive of the design proposals laid out in the consultation, although concerns about user privacy, control of money and the implications of a digital currency for access to physical cash were raised.

HM Treasury has said that if a digital currency were to go ahead, primary legislation would guarantee users’ privacy and control. Any introduction of a digital pound would be alongside physical cash.

Russian CBDC Pilot Grows

The Bank of Russia has been working on a digital ruble pilot since mid-2023. Once a legal framework was in place, 13 commercial banks, 600 retailers and 30 merchants joined the trial. A further 17 commercial banks have since signed up, including Sberbank, Russia’s largest financial institution, which has now joined the trial, having not taken part in the first phase.

The pilot is testing both retail and wholesale CBDCs, including cross border functionality. Inevitably there is speculation that this is to work with China and other BRIC countries. Programmability is part of the pilot. The banking regulator is keen for digital ruble transactions to be free of charge to encourage use of the currency.

Cross Border CBDC Transactions Make Progress

mBridge, a wholesale CBDC platform created by China, Thailand and Hong Kong as part of a Bank for International Settlements (BIS) project, has been used by the Central Bank of the United Arab Emirates (CBUAE) to settle a bilateral transaction that transferred 50 million dirhams, about $13.6 million, to China. This was the first digital dirham payment. The transfer took part at the end of January, marking the 50th anniversary of the central bank.

mBridge makes cross border transactions more efficient, quicker and less expensive, because fewer organisations are involved in transfers and settlement - two commercial bank counterparties and their two central banks. The central bank whose CBDC is used identifies the parties and decrypts the payment transaction meta data.

During a one month pilot in 2022, central and commercial banks in the countries taking part carried out 160 international transactions worth over $22 million. The participants believe mBridge will be widely used and is looking for other central banks to join the platform. It is planning the launch of the platform as a ‘minimum viable product’.

The UAE is looking to make retail and wholesale CBDCs legal tender. It has also signed a bilateral agreement with India to explore cross border transactions.

Huawei Operating System Could Offer Radical New Opportunities

Huawei is expected to introduce a new operating system, known as HarmonyOS Next, before the end of 2024. Reports about what to expect include offering ‘atomicity’, the ability to execute instant settlements between consumers and merchants. This is a key feature of the digital yuan, and the operating system is expected to support China’s CBDC.

It is believed that the digital yuan will be able to be used to do Internet of Things (IoT) transactions. A wholesale integration with IoT could make possible a new range of use cases. There is speculation that the operating system will support smart contracts and an integrated AI model for instant payments. Whether this is either possible or popular remains to be seen.

There are possible challenges ahead. It is believed the new operating system will drop Android compatibility. Android has a 60% mobile phone market share and Huawei’s existing HarmonyOS with Android has 13% of the Chinese market.

Whether all of these initiatives actually happen is not known, but it is clear the future of the digital yuan is full of ambition.

1 - Public money as a store of value, heterogeneous beliefs, and banks: implications of CBDC (europa.eu)