The world is changing, just as once visualized by the Lord of the Rings author J.R.R. Tolkien. Financial systems, payment systems, and transfers are all going digital. Cash usage is in decline all over the world. As an additional (but totally new generation) payment choice, central bank digital currency (CBDC) is the future of money and payment systems.
Digitization is transforming societies and the global economy. The post-pandemic demand for online services and more generally for the service sector, has had profound impacts on economies. In this regard, the pandemic of 2020 was indeed a period when five-to-10-year transformations took place all at once and technology was accepted into our lives at an incredible pace.
Even crypto technologies continue to shake the conventional financial structure today. The blockchain technology behind cryptocurrencies seems to be the main source of this change. Central banks, too, have adopted this technology and are issuing their own digital money, rivaling cryptocurrencies. Surveys show 60% of countries are interested in CBDCs just for this reason.
CBDCs are probably one of the hottest topics of discussion all over the world nowadays. In particular, the coming months seem to be an active and exciting period for CBDCs or digital currencies. That is why a commentary on this growing interest in central bank digital currencies became a must this week.
As a well-known fact, even the electronic transfers we make through banks today are actually part of a process based on paper money kept in safes. However, while the conventional financial system was built on this physical money, this process is about to transform with the digitalization process.
CBDCs are regulated digital currencies issued by central banks and distributed directly (or through banks) to the public. Therefore, at least in theory, there would be no need to hold and store physical currency as deposits in banks (to use them electronically).
They are expected to complement physical currencies and facilitate financial transformation and digitalization compliance. In this sense, CBDCs can also be seen as the reaction of central banks to the digitalization trend, cryptocurrencies, stablecoins and even the rise of other FinTech companies.
Meanwhile, unlike existing electronic money, which can be seen as the debt of today’s standard banking, CBDCs will be issued as the central banks’ own debt. Hence, it will both give more confidence to the users, strengthen the hand of central banks and policymakers, and increase their influence.
The Fed (central bank in the U.S.) is expected to step up work for a wholesale CBDC following the launch of the FedNow fast payment system in July. The ECB (central bank in the Eurozone) is also scheduled to start the pilot program of the digital euro in the fall of 2023, which has been making serious progress for several years now. The EU Commission has also prepared the legal framework for the digital euro.
Sweden has made commendable progress in Europe with their experimental e-krona pilot program. It is expected that the implementation processes of digital currency projects in the U.K. and Japan will also kick off by 2025 and 2026, respectively.
Russia, which came under unprecedented sanctions after the war in Ukraine, is expected to start pilot trials for its own CBDC, the digital ruble, in August 2023. Russia and China see CBDCs as an important alternative to Western financial hegemony.
China’s digital yuan (e-CNY) project is probably the most well-known and, by far, the most advanced among the CBDC projects in major economies. China has already reached hundreds of millions of users in different areas of trials.
Türkiye is experiencing a rapid digitalization process in finance and public services thanks to its strong digital infrastructure and high demand. In 2023, FAST and QR-code payment or transaction technologies (both of which are important pillars of a digital economy and digitalization in finance) are also expected to become widespread.
The CBRT is working hard to make Türkiye one of the first countries to adopt digital money. The central bank made the first payment in digital Turkish Liras on December 29, 2022, over its blockchain base network (the Digital Turkish Lira Network). This date is an important breaking point for the digital lira. In 2023, several new banks and FinTech ventures will be added to this process.
According to the CBDC tracker, a website supported by institutions such as Boston Consulting, Ernst & Young and DEA, the worldwide spread of CBDCs is expanding rapidly, as follows.
According to the July 2023 data in the figure above, the blue countries are the ones that have already issued a CBDC, the purple countries are those in the proof of concept phase, the earth-colored countries are the ones that are in the pilot phase, the greenish countries are the ones at the research stage and finally red countries are the countries that have canceled their CBDC projects.
Thus, except for the few countries for which data is unavailable (colorless areas in the figure above), 98% of the global economy and 93% of central banks appear to be interested in CBDCs (BIS and Atlantic Council data). This outlook is particularly eye-catching in that, just three years ago, in 2020, it was estimated that only 35 countries researched CBDCs.
Accordingly, the process of developing CBDC or digital currencies continues in most countries today. However, just as there are countries that have issued CBDCs before (such as the Bahamas, Jamaica and Nigeria), it should also be noted that the CBDC projects are shelved (because they are not in demand for widespread use) in some countries such as Senegal and Ecuador.
Of course, the reason for each country’s CBDC interest may as well be different. It is a unique opportunity for some countries to increase financial inclusion. For some others, it can be a worthy alternative to the dollar and Western-centered global financial architecture. It may also be a critical innovation that can both support and promote the idea of trading in national currencies, which has been brought up by emerging powers such as Türkiye.
It is expected to provide several other benefits, including transparency, speed and reduced costs of financial transactions. CBDCs will also help in terms of social transfers, incentives and more effective functioning of the credit mechanism. The state or central bank guarantee backup will be another huge plus. They have the potential to support the efforts to digitize and create a new multipolar global financial architecture.
As an example, for some countries such as Russia, China and Iran, this interest may be reflected as a way to circumvent financial sanctions. Meanwhile, while most of the CBDC projects tried so far have been retail CBDCs (made available to the public), the growing interest in wholesale CBDCs in Asia (especially after the war in Ukraine) is a testament to these political priorities.
The financial digitalization process actually started years ago when electronic money replaced physical money. Credit cards, bank accounts, electronic wallets, payment applications, digital tokens and online payment systems have already started the process monetary digitization. The cryptocurrency revolution in 2008 and the pandemic in 2020 accelerated the pace of this transformation.
However, while all these conventional electronic money or financial digitalization were issued by banks and under the protection or guarantee of independent banks, CBDCs will be a new type of payment instrument offered and guaranteed directly by the central banks.
Another critical advantage of CBDCs is that because accounts and money are provided directly by the central bank (customers used to have their own electronic money in banks), risks originating from banks and events such as bank runs will be easily avoided. Unlike old electronic money, it will not have to have any physical backing in bank vaults or at the central bank.
For all these reasons, 2023 looks set to be an eventful and exciting year ahead for central banks’ own digital currencies, the CBDCs, yet perhaps not for cryptocurrencies.