For context, a stablecoin is a cryptocurrency token that is pegged 1:1 to a fiat currency (i.e the U.S. Dollar) or commodity, such as Gold. Stablecoins are a useful tool to gain exposure to the digital currency marketplace as a useful on-ramp vehicle without the volatility exposure of such currencies as Bitcoin or Ethereum. Stablecoins have helped pave the way for Central Banks to gain an understanding of the digital currency industry and how they can go about creating and implementing their own version of digital money.
Central Bank Digital Currencies is the process of taking an existing monetary unit and making it digital. This monetary unit, which serves both as a medium of exchange and a store of value, is a mix of new and already existing forms of central bank money, which makes it somewhat challenging to clearly define what a CBDC is. As a result, a CBDC is a digital form of Central Bank money. Each CBDC unit acts like a secure digital instrument equal to paper-based currency that exists today.
A CBDC is electronic money that:
The reason that Central Banks are exploring the possibility of issuing their own CBDCs is driven by the success of new technology in the financial sector, the rise of the digital currency landscape, and the decline in the use of cash in the current marketplace. Additionally, included in the rise of digital currencies is the understanding and use of Blockchain technology which, among other things, assists in providing an easier method to transfer money internationally. The existing method of wiring money is expensive and takes multiple days, whereas sending money in the form of a token (whether it is a cryptocurrency or stablecoin) via blockchain technology has proven to be more efficient and less expensive.
Many speculate the benefits of issuing a CBDC as Central Banks continue to experiment with this technological advance, but there are four potential key advantages that a CBDC can provide:
Countries have begun exploring some test case scenarios of a CBDC with their national currency. In February 2020, six Central Banks joined together to create a working group and collaborate on use cases for a CBDC.
China has emerged as a frontrunner in creating their own CBDC with their proposed digital currency electronic payment (DCEP) system. China’s push towards an electronic payment society offers a digital yuan to increase transferability and settlement options. One of China’s goals behind their DCEP is to increase the utilization of the yuan internationally, especially among smaller countries, to help establish the yuan as a dominant global means to trade.
Additionally, the Bank of Japan announced in June 2020 that it will begin experimenting with a digital yen as they start to test the technological feasibility and demonstrate their proof of concept that they’ve been working on.
There are many other countries still working on possible CBDC options, including the United States. Central Banks are exploring possible ways to integrate this technology into their existing monetary system in order to stay current with the constantly evolving technology landscape. The means through which payments are made has drastically evolved over the last ten years and will continue to do so as new technology breakthroughs are made.