What is CBDC?

There exist thousands of private cryptocurrencies, namely, Binance Coin, Bitcoin, Cardano, Dogecoin, Ether, Litecoin, Ripple, Solano, Terra, and Tether, among others. The inevitable introduction of Central Bank Digital Currencies (CBDCs) would result in transformational change to the global financial system since Bretton Woods. Each country will have its own CBDC, owing to it's different economy, financial stability and paramount privacy, and adopting an equilibrium between developments on the policy front and on the design front. CBDC would be considered as a virtual currency backed by the sovereign guarantee of the country issuing it.

With the rising popularity of cryptocurrencies, it is time for the world’s central banks to come out with an alternative for private cryptocurrency. While the launch of digital currency would mean - money entering a new era - yet countries are considering preserving key aspects of traditional monetary and financial systems.

CBDC launch status

The Atlantic Council Research, Bank of International Settlements, and International Monetary Fund, in its latest report, stated that - 9 countries have already launched CBDCs, 15 countries were in a pilot stage, 16 were under the development stage, and 40 countries were in the exploratory stage of research.

The smaller countries have already launched CBDCs for domestic use. These are Antigua and Barbuda (Dcash), Bahama (Sand dollar), Dominica (Dcash), Grenada (Dcash), Montserrat (Dcash), St Kitts and Nevis (Dcash), St Lucia (Dcash), and Nigeria (e-Naira). As regards bigger countries - China has reached an advanced stage of the pilot launch, whereas the Bank of England, Bank of Japan, European Central Bank, and the US Federal Reserve are still in the exploratory stage. Reserve Bank of India is contemplating its digital currency launch in early 2023.

Digital currency infrastructure

Though the CBDC decentralised technology might be similar to that of private cryptocurrencies, the permissioned access, if any, will make the former different. CBDCs permissioned approach might allow multiple financial entities, which is also called the indirect approach, to maintain financial records under the overall control and supervision of the central bank. The central bank would control the access to the blockchain having financial records, but these might also be accessible to permissioned entities.

Benefits outweighing challenges

The key areas under evaluation phase by the central banks include a scope of retail and wholesale payments; direct approach vs indirect approach; adoption of blockchain technology, centralised ledger or distributed ledger technology (DLT); validation mechanism to be token-based or account-based; besides distribution architecture between central bank issuance and indirect one.

The launch of CBDCs might lead to a reduction in transaction costs owing to its centralised and regulatory framework. The payment and settlement mechanism might undergo radical change as DLTs might provide a complete record of the transactions. CBDC is likely to provide an impetus to financial inclusion, enhance transparency, and restrict illegitimate activities. Private cryptocurrency investors would have the option of getting protection from the volatility risk prevalent in the crypto market.