Central Bank Digital Currencies (CBDCs): Play now or Wait?
2nd January 2023
The introduction of Central Bank Digital Currencies (CBDCs) is an inevitable economic, policy and regulatory step in the near future. But is it a good idea for today’s societies and future generations?
History shows that strong economies are based on resilient economics and sound money. When these aspects fail their associated societies wither and fail.
Despite the uncertainties as well as unfinished risk/reward assessment of CBDC over 90 nations are currently considering their introduction, in some form or fashion.
Currently “money” is designated in a CB currency and that makes it legal tender. Other forms of cryptocurrencies (such as Bitcoin, even Ethereum) are merely forms of exchange or barter, even if asset backed (such as Stablecoin) Their value is speculative rather than intrinsic.
Those nations who want to have sound money in the future and which have the resources, skills and capabilities to nurture CBDCs should actively explore and assess the net cost/benefits. But Central Banks don’t, by definition, actively decide; it is their political masters who do. Hence the inherent risks of ballot-box-bias compounds the uncertainties of any CBDC
DAT is not (yet) money
The facilitating nature of Digital Asset Technology (DAT) is the basis of any CBDC, using a form of Distributed Ledge Technology (DLT). Yet DAT, in its current forms, does not represent a store of value that money does.
Money has always benefited from technological advances; from the first smelting of precious metals top today’s multitude of money forms. The first central bank, Riksbanken of Sweden, was founded in 1668 and set a standard that others have followed over the last 500 years. Fiat currency was a solution to the impracticalities of physical specie and debasing practices. Then the printing press allowed for more standardised letters of credit as well as printing of bank notes; backed initially by the gold and silver stores of the issuing nation, then promises. The Gold Standard was abandoned as well as fixed exchange rates in a more interconnected world.
While these technological advances solved many issues and spurred trade, it introduced a dangerous aspect of erosion of value; either by debasing, devaluation and/or inflation – that has never been effectively managed. Inflation, is a real and ever-present factor; given further bite by government policies. Witness the corrosive aspects of the recent Quantitative Easing programmes since 2008 as well as Covid palliative measures.
Take for example the Swedish krona. Since 1975, its value has depreciated in nominal terms by 90%. Of this total, 50 points are due to Inflation, the balance due to government policies and related lack of growth. US property prices rose 492% in the same period, much if the rise related to Inflation. In contrast, the price of Gold has increased from USD139 to a 1,900/oz level today. Fiat currency while being a notional store of value is subject to erosion.
Technology creating a financial genie in a bottle?
Yet in an increasing technology led world; "money” as currently defined as well as classical economics may no longer be valid. Governments have actively deviated from established sound policies. Social acquiescence may be the political driver.
Technology has fuelled a sense of social engagement leading to social entitlement. The advent of Universal Credit: that every citizen is simply allotted a certain amount of income and capital is already being tested in certain countries. If made truly universal, then the impact on human endeavours, motivations risks & rewards for individual enterprise and innovation will be profound. Fundamental effects as to how Society functions will ensue, with unintended/envisaged consequences.
The introduction of CBDCs is step towards such a universal future, as well as being a seeming immediate panacea to current economic woes.
CBDC assessments incomplete
There are an increasing number of champions for the CBDC, as private enterprises seek to push boundaries for strategic and commercial gains. Such as the various cryptocurrencies as well as initiatives like Visa.
The proponents of a CBDC have easy and alluring explanations as well as hopes. The detractors are conservative in nature, some fear change. A dynamic middle way needs to be developed. A CBDC can take a variety of forms at a wholesale as well as retail level. The pros and cons of a CBDC remain poorly articulated.
Pros: Efficiency; Accessibility; Disintermediation; Security; Product/service innovation
Cons: Control/personal freedoms; Lack of choice; Risk; direct call on government balance sheet.
Regardless, Payments will be the first area of CBDC introduction, probably focused on government-oriented as well as wholesale items. As such, any CBDC poses a real risk to the current banking system as it represents a giant step of disintermediation from the ossified processes of today. Hence the move by some banks to tinker with their own digital alternatives.
What is poorly understood is the environmental impact of DAT. CCs andDCs are massive consumers of energy. Their ‘green credentials’ have yet to be explored.
It is an open debate whether the adoption of DATs will add to or futher erode long standing mantras of financial prudence. The seeming advantages of a CBDC are too seductive and the cost/risks too complex to articulate and assess. It has all the hallmarks of many past hasty political decisions at a national level. BrExit being just a recent one.
Why now?
So why now are the governments of over 90 nations investigated CBDCs? There are a a variety of reasons.
First-mover advantage is sometimes touted as a strategic rational. There is a tangible value in setting a standard in the DAT as well as Financial worlds. Just as: English has become the global lingua franca; Greenwich, the spatial and temporal centre-point; and LIBOR, until recently abused, was a source of competitive advantage to London and New York.
In addition, the current drive is an attempt by governments to try and leapfrog as well as contain the damaging speculative dynamics of other cryptocurrencies (CCs). DATs and CCs remain an unregulated activities as central authorities are uncertain: what to do, why and how. Also, governments are seeking to leverage the seeming benefits of DLT (costs, transparency, speed) and ancillary ones associated with a CBDC.
For smaller economies maybe adopting or playing a lead role in a transborder DC is a better option than just digitising a small, thinly traded fiat currency.
The risk is that the leap may not be well considered in terms of either easy-to-claim/difficult-to-realise benefits as well as associated risks.
What is interesting to note the most reluctant participants are the established pillars of the current system (the US and UK). The more innovative fall into 5 broad categories
Seeking to find an edge (such as Singapore for its growing financial hub)
For political domestic reasons (China for domestic oayments and controls; EU to keep the Euro relevant)
To salvage an already ravaged fiat currency (Nigeria, Russia)
To claim a niche (such as the Bahamas)
Social innovators (Norway, Sweden, Iceland).
However, current developments are small steps. Central Banks are not known for their speed; their deliberation are glacial. Yet their decisions, when made, have immediate and far-reaching effects. The lack of expertise of regulators remains a drag on the pace. The recent case of the Bahamas and FTX shows how the inexperience of central authorities can cause tangible and lasting economic and reputational damage.
Play now or Wait?
For the decision-makers they need to consider whether a CBDC first-move has merit, or if they can afford to be fast-followers.
Regardless, a sovereign state or agency must be in possession of a rare assembly of assets (economic, political, social), resources (energy, financial and human capital) as well as an attitude to make it work.
Only a few dozen countries fit that bill. For a country such as Abu Dhabi, given its position, capabilities and strengths, what would it decide?
