CBDC: Redefining the Monetary System

In the continuously evolving digital world, it has become impossible to ignore the growing demand for central bank digital currencies (CBDCs). Central banks around the world are accelerating their digital currency projects to be prepared against a parallel financial system that is developing beyond their control.

This process is reshaping traditional monetary systems, offering both opportunities and challenges to central banks. CBDCs promise a wide range of innovations, from faster and cheaper transactions to enhanced security within the financial system.

In Turkey, a CBDC (Central Bank Digital Currency) event was held from September 12-14, 2023, with valuable participants from various countries. As Chainerist, we hosted our guests from BIS, IMF, many international banks, and central banks aboard the UDPN (Universal Digital Payment Network) ship on the Bosphorus, uniting the East and West under the sponsorship of UDPN.io.

In the rapidly developing digital world, central banks cannot ignore the demand for digital currencies anymore. Facing a parallel monetary system beyond their control, central banks around the world are stepping up to create their own digital currency options. (https://cbdctracker.org/)

When we evaluate Central Bank Digital Currencies (CBDCs) for stakeholders in the financial system separately:

• For Individual and Retail Customers, CBDCs provide a digital payment option that is unaffected by the fluctuations of decentralized cryptocurrencies like Bitcoin, Ethereum, etc. They have the potential to make domestic and international payments faster and cheaper, offering the possibility of free transfers for millions of consumers.

• Corporate customers are largely aware of the value and potential of digital currencies. They understand the advantages and are excited about the potential of CBDCs to reduce international transfer costs and times without the uncertainty and settlement risks associated with cryptocurrency transactions. Corporate customers may benefit more from the widespread adoption of CBDCs than other stakeholder groups.

• CBDCs, which allow for the use of smart contracts, can be used as part of routine operations to automatically pay taxes or make other payments to the government. Additionally, digital audit trails can simplify and facilitate financial compliance. However, this change will lead to wide-ranging shifts in how businesses operate and transact with each other.

  
  

For Corporate Investors, it’s important to note that adapting to CBDCs will require navigating a period of transition, evolution, and confusion at some level. Local banks are not particularly optimistic about CBDCs. When central banks issue digital currencies directly and earn interest from them, the roles of local banks as deposit collectors and key intermediaries weaken. Collecting fewer deposits means working with fewer resources, which limits the ability of local banks to provide loans to customers. CBDCs have the potential to completely transform the role of international banks. One of the biggest barriers to widespread adoption of CBDCs is enabling international and cross-currency trade. International banks may succeed in a global CBDC-driven economy if they position themselves as intermediaries to facilitate these transfers.

For Fintechs, CBDCs create new opportunities for innovation at every level. From creating user-friendly transaction services for consumers to helping establish a stable and scalable foundation for cross-currency transactions, the shift to cashless digital finance represents the biggest opportunity fintechs have ever seen. From a regulatory perspective, domestic and international CBDC transactions require new standards that have yet to be defined. Banks will likely want to collaborate with established blockchain innovators to define the best standards for their currencies and build a solid distributed ledger infrastructure.

Financial network giants like Swift, China Union, Visa, and Mastercard must evaluate their positions in this emerging field and ensure they have the necessary skills, capabilities, and technologies to remain key players in a CBDC-focused global economy, as many of them are already involved in numerous projects.

For Central Banks, CBDCs represent a major operational shift. They could significantly reduce the costs of printing, transporting, and managing cash by freeing up resources to tackle the new challenges of CBDC management. Policies embedded in the currency and transaction code could automatically combat fraud. However, the rise and expansion of these currencies will trigger significant geopolitical changes. The desire to act quickly and seize the first-mover advantage, the creation of a new global reserve currency, and the growing disruption threat from decentralized finance players could fundamentally change the global financial and political landscape.

CBDCs have implications for every data-driven aspect of finance. The detailed audit trail that comes with digital currencies could help central banks address some of their biggest challenges, from managing Know Your Customer (KYC) data to tracking illegal activities in billions of transactions. However, these advantages come with high upfront costs. Ensuring the participation of all stakeholders, especially at the consumer level, will not be easy. Retraining and education will be necessary, and new infrastructure, like UDPN.io, where we at Chainerist provide technical services and conducted PoCs with a large bank in Turkey, will need to be established. Central banks must define and specialize in this new era of digital finance.

According to Ernst & Young's April 2023 report, the majority of institutional investors believe digital assets and/or blockchain technology will provide long-term value. They expect blockchain technology to be widely adopted and that the programmability of smart contracts will enable financial services use cases. Institutional investors expect increased investments in digital assets and/or related products within the next two to three years. About one-third of investors plan to allocate 1% to 5% of their funds to digital assets and/or related products, while around 36% of hedge funds plan to allocate more than 5%. Fifty-seven percent of institutional investors are interested in investing in tokenized assets.

Ercan TANRIBAK - Vice President of Istanbul Digital Economy Club | Co-founder of BSN Turkey | Chainerist |TaCaS Global

This article was published in the September 2023 issue (Issue 63) of the Turkey Institutional Investor Managers Association journal.

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