Central Bank Digital Currencies: Implementation, Applications and Challenges

In 2020, China rolled out its version of Central Bank Digital Currency (CBDC) in Shenzhen. This calls into question the implementation, applications, and challenges of CBDC. In this timely webinar moderated by Professor Edwin Lai of HKUST Center for Economic Policy, Professor Barry Eichengreen of UC Berkeley and Mr. Yong Xia, Global Head of HSBC Lab, discussed the purposes and advantages of CBDC as well as its impact on financial stability. A digital version of currency note in your purse serving as legal tender and direct claim on the central bank, CBDC is a cryptographic representation of value and contractual right that uses distributed ledger technology. 

While some have hyped CBDC as an instrument that significantly reduces transaction costs, contributes to financial inclusion, and helps the internationalization process of RMB, a skeptical Professor Eichengreen views the issuance of CBDC in China as merely a defensive move by the central bank to avoid missing out to the private payment system. According to Professor Eichengreen, CBDC’s impact on transaction cost reduction is minimal as transactions are already digitalized without CBDC. Think about Alipay, Visa, or the FPS system in Hong Kong, transaction cost is already very low given existing traditional financial infrastructure with or without CBDC. In this regard, Mr. Yong Xia raised a very valid point that the traditional financial infrastructure maybe applicable only to developed areas of the world and that in rural area where access to banking system is traditionally missing, alternative financing structure such as CBDC can fill the vacuum and raises financial inclusion. However, on the issue of accessible finance in rural areas, CBDC is not the magical bullet either as the current bottleneck lies with access to internet. Without infrastructure that connects to the Internet, it is clear that neither traditional finance nor CBDC can function. 

To advance his argument that CBDC is a defensive move by the central bank, Professor Eichengreen speaks further of CBDC as a way to suppress competition. As CBDC is supported and developed by the central bank, it can more readily out-compete private payment systems such as Alipay and Tencent Wechat Pay. This is contrary to common belief that CBDC can foster competition and improve efficiency of banking system. Meanwhile, Professor Eichengreen sees little value for CBDC to improve privacy of transactions as the same confidentiality issue arises in CBDC as well. True that the tech giants cannot monitor the transactions, but CBDC simply delegates the same confidentiality issue to the central bank. 

On CBDC’s impact on financial stability, both speakers agree that there is a balance that needs to be achieved between facilitating large-value transaction and maintaining stability of traditional banking system. If value stored in CBDC becomes so large, every person may put their entire wealth in CBDC, which can lead to bank run and threaten financial stability, as CBDC has the advantage of being backed by the central bank as compared to commercial bank deposit. If valued stored in CBDC is small, then it cannot facilitate large-value transaction. This becomes a pertinent point in the discussion of the potential help CBDC can have on the internationalization of RMB. According to Professor Eichengreen, as long as the issue of large-value cross-border transaction cannot be resolved in CBDC, CBDC’s help in RMB internationalization is going to be fairly limited. 

An interesting facet of the discussion lies in the ability of CBDC to influence monetary policy and make possible negative interest rate. As CBDC allows for storage of value completely in digital form, negative interest rate on CBDC balance is made possible and can replace the role of asset purchase program or quantitative easing. However, such policy change can be infeasible in jurisdictions like the US as actual implementation of negative interest rate can arouse serious controversy. 

Lastly, amidst an intense discussion that is largely skeptical of the uses of CBDC, Mr. Yong Xia closes the discussion on a positive note that CBDC is not a finished product but a work-in-progress. This means that despite many of its short comings, people are still working on different implementations of CBDC such that a more workable and potentially influential version may come up in the future.