CBDCs: New hybrid of CBs and cryptocurrency
Cryptocurrencies
Many have already heard of Bitcoin. Bitcoin is the leading cryptocurrency today, alongside many others, commonly referred to as “alt-coins”, that are more or less decentralized like Bitcoin. Cryptocurrencies are digital, meaning they are neither bound to borders, nor are they supported by cash or cards.
What makes cryptocurrencies an innovation is how they are operated, which differs greatly from the traditional banking system. They operate on a computer-based mechanism also known as blockchain. This chain of transactions is validated by so-called « decentralized consensus ». It is designed in a way that makes it a functioning alternative to the banking system, without necessarily being subject to a centralized authority.
Furthermore, it claims to effectively reduce double-spending, as it does not allow to spend more than what is owned. This creates the possibility of a debt-free economic system that, precisely because it is not bound by regulations, remains very volatile.
Essentially, cryptocurrencies take the banking system out of the equation, removing State-controlled regulations with it. Finally, it should be noted that they are conceived in a way that only a certain amount of currency can exist at any given time.
Central Bank Digital Currencies
Facing the emergence of decentralized cryptocurrencies, more and more central banks have shown interest in developing their very own digital currencies, also known as Central Bank Digital Currencies (CBDCs). According to a 2020 report by the Bank for International Settlements, 80% of central banks consider issuing them in the future.
CBDCs bring various advantages in the eyes of central banks. First and foremost, adopting such currencies would reduce the threat of an emerging alternative system of decentralized currencies. They would also enhance efficiency, and make it easier to apply monetary policies, the Covid-19 aid package amongst others. They are claimed to be able to solve the problem of the so-called « unbanked », individuals with no physical access to commercial banks. Although this last point begs the question: what of the sizable amount of the world’s population that does not have access to a smartphone?
Blockchain technology is appealing for central banks, as it unites both the privacy of cash, and the security of deposits. After the 2008 crisis, a blatant lack of trust in the banking system has developed. This means a technology like blockchain making finance more transparent is very welcome in these times.
Issues, and the potential future of cryptocurrency
The main identified issue of CBDCs is that there would be no division between the institutions that control world finances and lawmakers, which is exactly what decentralized cryptocurrencies intend to remedy to. The digital renminbi, issued by the central Bank of China and in public testing as of April 2020 is already raising privacy concerns.
However, regarding the core functioning of this new system, it is likely to be far more widely adopted if officially legitimized by governments. Critics of cryptocurrencies are also surfacing: on the fact that they are extremely energy consuming, or that their processing capacity remains very limited compared to that of banks.
One hypothesis on the future of world finances is that central banks would have incentives moving towards a debt-free economic system, possibly doing so by issuing CBDCs. Therefore, commercial banks would be excluded, and everything would be centralized under, and owned by central banks.
Some users may therefore have concerns for their financial privacy, and their privacy in general. This could in turn trigger the co-existence of two monetary systems. Decentralized cryptocurrencies would be used on some occasions of private concern, whilst users would still be bound to CBDCs to some extent, as they are likely to be adopted at least by some States, and therefore mandatory for certain transactions.
This remains speculation, but decentralized cryptocurrencies such as Bitcoin, and CBDCs, could come to act as counterweights to each other within a bi-dimensional and global monetary system.