The Basics of CBDC – Atlantic Council

The basics of CBDC

By
Alisha Chhangani and Leila Hamilton

More than 130 countries and currency unions, representing 98 percent of global gross domestic product, are exploring a central bank digital currency (CBDC). But in the United States, CBDC has become highly politicized, with several prominent politicians speaking out against its development. The race for the future of money is on, so here are the key items to catch you up on what a CBDC is – and what it isn’t.

What is a CBDC?

CBDC is a digital form of a country’s fiat currency that is a liability of the central bank. A country’s central bank issues a CBDC.

Is CBDC the same as cryptocurrency?

CBDC is different from cryptocurrency. Unlike CBDC, cryptocurrency is not issued and backed by a central bank, it is usually issued by private companies. Cryptocurrencies, such as Bitcoin or Ethereum, are decentralized. This means that control and decision-making in a transaction is transferred to many different entities, instead of relying on intermediaries.

Both cryptocurrencies and CBDCs can be used on distributed ledger technology, which means that hundreds of devices around the world are responsible for executing and verifying transactions. One form of cryptocurrency, a stablecoin, can be tied to a fiat currency.

How is it different from other forms of digital money?

CBDC is also different from digital money held in bank accounts or payment apps. Digital forms of money held in these applications or accounts are a liability of the commercial bank; CBDC is a liability of the central bank. CBDC is usually mediated, meaning it is distributed through banks, payment service providers and digital wallets. Even in this case, CBDC is still a liability of the central bank.

Are there different types of CBDC?

There are two types of CBDC: retail CBDC (rCBDC) and wholesale CBDC (wCBDC). rCBDC is used by the general public for commercial and peer-to-peer transactions. rCBDC will be used to buy, for example, a cup of coffee. wCBDC is used by financial institutions to settle interbank and securities transactions. Its use is comparable to that of interbank transactions with central bank reserves.

Why are countries exploring CBDC?

There are many motivations for CBDC research and development, and each country’s motivation will determine whether they explore rCBDC or wCBDC. The motivations for rCBDC include promoting financial inclusion, increasing payment efficiency, lowering transaction costs and improving security. The primary motivation for wCBDC is the reduction of friction across borders in interbank and securities transactions.

Will CBDC replace cash?

CBDC will complement, not replace, existing payment methods. In its 2023 report, A Stocktake on the digital euro, the European Central Bank explained that a digital euro “will provide an additional payment option to complement (rather than replace) cash and current private digital payment solutions.” ” The Federal Reserve and the Bank of England have also stated that CBDC will not replace cash.

Are there any risks to pursuing CBDCs?

As countries explore the benefits and development of CBDC, there are several challenges that arise. If citizens withdraw too much money too quickly from commercial banks to buy CBDC, it could lead to a bank run that creates instability in the financial market. This is a challenge in volatile economic conditions.

Another challenge is creating a secure and resilient infrastructure to hold and use a CBDC. Cyber ​​attacks, internet connectivity issues and interoperability with existing payment systems are challenges to the effectiveness of CBDC.

Finally, central banks must also ensure the privacy and security of a CBDC, which is necessary for gaining public trust and protecting citizens’ rights.

What are the national security implications of CBDC?

The introduction of new payment systems can affect the daily lives of citizens, but can also compromise a country’s national security goals. For example, CBDC could allow countries to build links and networks outside of the dollar, which could create opportunities to evade sanctions. Therefore, cross-border cooperation is needed on issues of CBDC governance, privacy and security. Private and public entities have already begun working together to set standards and ensure interoperability. Even more can be done to ensure that the issuance of CBDC does not jeopardize the national security objectives of a country.

Alisha Chhangani is a program assistant at the Atlantic Council’s GeoEconomics Center. Follow her at @alisha_chh

Leila Hamilton is a young global professional at the Atlantic Council’s GeoEconomics Center. Follow her at @leilathamilton

At the intersection of economics, finance and foreign policy, the GeoEconomics Center is a translation center with the goal of helping shape a better global economic future.

Further reading

Wed, April 10, 2024

Standards and Interoperability: The Future of the Global Financial System

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Ananya Kumar, Alisha Chhangani, Jennifer Lassiter and Katherine Haar

Digital assets promise improved efficiency, inclusion, transparency and choice to global payments. But to fulfill this promise, the international community must first develop interoperability standards.

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