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Referring to the digital RMB, will the digital dollar come? Analysis of the report of the Fed’s CBDC discussion board

The Fed released the “Money and Payments: The Dollar in an Era of Digital Transformation” discussion paper to the public last Thursday to solicit public input on the feasibility of issuing digital dollars.

After comparing the ALPEX Research Institute with the “White Paper on China’s Digital RMB R&D Progress” released by the Central Bank’s Digital RMB R&D Working Group in July 2021, we found that China and the United States have different ideas when designing their own CDBCs, but at present be consistent overall. For example, they all emphasize centralized management, protecting consumer privacy, applying smart contracts to support multi-scenario needs, promoting international and cross-border payments, etc. However, unlike digital RMB, which has gone through multiple rounds of pilots and is supported by actual user data, the digital USD is still under conceptual and rationale planning.

The ALPEX Research Institute believes that the digital dollar can now be regarded as the U.S. response to the pressure of the digital RMB by reading both texts. The main point of competition between the two sides is the international status of the US dollar. Although the central bank’s report does not focus much on the internationalization of the RMB, it does explicitly mention “actively responding to the international community’s initiatives to explore improvements in cross-border payments” and that “the digital RMB has the technical conditions for cross-border use”, so it can be assumed that there are only non-technical barriers left.

The international status of the US dollar is still strong, and the digital renminbi still has a long way to go. The interpretation of this report mainly focuses on the interpretation of the digital dollar. ALPEX will release a new interpretation text with the development of the digital dollar in due course, please stay tuned.

The legal status of the digital dollar

Like the legal tender status that the U.S. dollar has, the digital dollar still has the same status, and that fiat currency status is not backed by some asset, nor is it backed by existing physical dollars as items of value, which is emphasizing the legal status of the digital dollar.

We actually need to reverse two perceptions:

1. Believing that banknotes and coins are the real “currency”

2. Bank accounts, Alipay balance, etc. are only a form of storage of personal assets

As for the digital dollar, the Fed report makes it clear that the digital dollar is the real “dollar” and not a mapping relationship, which is not technically difficult to achieve, but rather difficult in terms of the perception in the human mind. Especially the older generation who “migrated” from the former digital age, they can’t accept that things on the Internet are not virtual but real “objects” like this era.

The digital dollar does not necessarily conflict with existing banks and Alipay, the role of the Fed is still the issuer. As for other institutions on the basis of this management, value-added, trading and other activities, does not belong to the Federal Reserve’s functions, which is a division of responsibilities in management.

This is still confusing because the digital dollar is still a “future tense” and it is difficult to compare something that doesn’t exist with something that does. In view of this, we use the digital renminbi to compare.

The digital RMB is clearly stated as “digital RMB is a digital form of legal tender. The digital RMB and the electronic account funds of designated operators are universal and together constitute a cash-based payment instrument,” making it clear that the central bank and commercial banks, Alipay and other companies will co-exist in the long term and will not directly replace each other.

The legal status of the digital RMB is now guaranteed.

> The current draft amendment to the People’s Bank of China Law (draft for public comment) further clarifies that “the RMB includes both physical and digital forms”.

The digital dollar is still in the Fed discussion paper, and has not entered the actual congressional legislation or legislative discussion. This is mainly because the United States has not reached a consensus on whether it needs a digital dollar. Common objections are as follows:

1. The digital dollar will lead to an expansion of assets and liabilities, a problem identified in the report. The logic is that if digital dollars are issued, more assets will be needed to hedge them in order to solidify their value, which in turn will lead to a continued increase in the issuance of digital dollars.

2. The digital dollar will lead to new regulatory problems, typical representative such as the Trump era Treasury Secretary Mnuchin, who believes that digital dollar is not needed at this stage mainly because it will cause new economic problems.

3. It is believed that existing USD stablecoins can take on the duties of digital dollars. The biggest advantage of USD stablecoins such as USDC and USDF is that they are closer to the regulator than USDT, which is the key reason for USDT’s decreasing market share.

In the Fed’s vision, the digital dollar seems to be just a digitized version of the existing dollar, and does not involve too many solutions to the above problems, which reflects a cautious attitude.

The Value Base of the Digital Dollar

Digital dollars have the same legal tender status as the dollar. However, the fiat currency status of the digital dollar is not backed by assets, nor is it backed by existing physical dollars as items of value. This emphasizes the legal nature of the digital dollar.

According to the asset classification disclosed in the report at the same time, the Fed divided the existing dollars into three types of Fed holdings, commercial bank holdings and non-bank holdings, and ALPEX found that in the above chart, a large number of dollars belong to the banking sector in the broad sense. The US financial industry is growing, but this development will also have a significant economic and realpolitik impact on the industry.

Is it in the interest of existing financial institutions to issue digital dollars?

For this question, the Fed’s answer is that he will continue to be an intermediary and is not intending to directly replace the public in the existing financial system. The Fed has also extrapolated and assessed the potential risks of the digital dollar.

1. The CBDC does have the ability to change the structure of the financial market sector and could fundamentally disrupt the relationship between private financial institutions and the Fed.

2. The design principles of CBDCs will influence monetary policy, where the Fed’s role under the current “adequate reserves” principle is primarily to regulate the amount of dollars circulating in the market by influencing the federal benchmark rate and other short-term interest rates.

3. The issuance of CBDCs will necessarily take into account the stressful nature of the network, for example, multiple payment and usage portals will complicate the operational network and make it difficult to ensure absolute security.

After comparing the scheme design of the digital RMB, we can presume that the digital USD will also follow this kind of technical route. However, we need to monitor the progress of the detailed scheme.

The Intermediation of the Digital Dollar

As mentioned earlier, the digital dollar is lagging behind the digital RMB in terms of development and promotion, mainly because the Fed has to test the national interest of the United States. In reality, there is a huge real demand for the US dollar in both Wall Street and foreign capital markets, a fact we can observe from the data in the chart below.

According to the asset classification disclosed in the report at the same time, the Fed divided the existing dollars into three types of Fed holdings, commercial bank holdings and non-bank holdings, and ALPEX found that in the above chart, a large number of dollars belong to the banking sector in the broad sense. This shows the developed US finance, but this development will at the same time bring huge realpolitik and economic influence to the financial industry.

Is it in the interest of existing financial institutions to issue digital dollars?

For this question, the Fed’s answer is that he will continue to be an intermediary and is not going to directly replace the public in the existing financial system. The Fed has also extrapolated and assessed the potential risks of the digital dollar.

1. The CBDC does have the ability to change the structure of the financial market sector and could fundamentally disrupt the relationship between private financial institutions and the Fed.

2. The design principles of CBDCs will influence monetary policy, where the Fed’s role under the current “adequate reserves” principle is primarily to regulate the amount of dollars circulating in the market by influencing the federal benchmark rate and other short-term interest rates.

3. The issuance of CBDCs will necessarily take into account the stressful nature of the network, for example, multiple payment and usage portals will complicate the operational network and make it difficult to ensure absolute security.

After comparing the scheme design of the digital RMB, we can presume that the digital USD will also follow this kind of technical route, but we need to observe the subsequent development of the detailed scheme.

Inclusiveness of the digital dollar

In the current US dollar circulation pattern, money laundering and lack of financial services are a seemingly contradictory existence. On the one hand, no matter how strong AML and KYC measures are imposed, money laundering activities are still endless. The fundamental reason is that the US dollar issuers and The management side cannot completely grasp the circulation of every dollar.

On the other hand, the Unbanked population is still quite large, mainly because financial institutions will scrutinize the user’s qualifications to reduce the risk. There is a view that the financial crisis in the United States in 2008 lies in allowing a wide range of low-income classes to participate in lending activities, and they do not have the ability to repay, and eventually become the first card to push the dominoes.

The arrival of the digital dollar is equivalent to directly incorporating this group of people into a unified account system, which is actually reducing the risk control capability of commercial banks. In this situation, adding more preventive measures will involve the problem of consumer privacy, because the capabilities of commercial banks far exceed that of ordinary consumers.

“Surface more water, more surface water” does not help solve the problem.However, in the current economic environment in the United States, the Democratic Party has repeatedly asked the Fed to improve “inclusiveness” and take more measures to support low-income groups, especially for economically vulnerable families and communities. Once the economy enters a downturn, this inclusiveness What monetary policy will ultimately lead to is difficult to predict.

We can look at digital RMB in a different way. In the white paper, this American-style inclusion is replaced with financial inclusion, and both sides agree that CBDCs should coexist with cash to accommodate the diverse needs of different people and regions.

While further improvements to existing performance are possible with extensive data support, the more important design idea lies in the “pilot” path of the digital RMB. Extensive testing has identified the basic features of the current two-tier operating system, M0 positioning, loose coupling of bank accounts, and controlled anonymity.

How the digital dollar will be resolved afterwards remains to be seen. However, unlike the RMB, mobile payments in USD are not really popular, and there is a high stock of credit card payments, which may promote the hard wallet model of digital USD to be more popular.

The International Status of the Digital Dollar

It may be noted that if digital RMB is to “explore cross-border payments”, it is mainly to compete for the international share of the existing dollar, which the Fed has expressed as improving cross-border payments and enhancing the international role of the dollar.

1. Improve cross-border payments: CBDCs have the potential to simplify cross-border payments by using new technologies, introducing simplified distribution channels, and creating more opportunities for cross-jurisdictional collaboration and interoperability.

2. The international role of the dollar: Another potential benefit of a US-issued CBDC could be to retain the role of the dominant international dollar.

The digital RMB, on the other hand, is more on the conceptual side, with fewer pilots in reality, but at least it leaves a window for exploration. As for future developments, we’ll have to leave that to later.

At this point, we have summarized the focus of the Fed’s report on the digital dollar, as the digital dollar is still being conceived, while the real dollar stablecoin and the digital RMB are already in the real-world testing phase. Therefore more comparative research and path speculation has been taken, which we hope will be helpful.

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ALPEX is a cutting-edge digital asset and derivatives trading platform, created to provide the world’s best and most secure online trading experience.

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