What is CBDC?
The next revolution in digital finance is coming!
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Welcome back, readers! Today, we’re going to learn about Central Bank Digital Currency (CBDC). With the recent development of IT, the world is very interested in the digitalization of money. Recently, after the Bank of Korea announced that it was promoting a simulation of “Central Bank Digital Currency,” many people in Korea also became interested in digital currency. Today we are going to look at what Central Bank Digital Currency really is.
What is CBDC?
CBDC refers to a currency that has its value stored electronically, unlike real money (fiat money). Payments are made by transferring funds between users.
CBDC is a legal tender that is distinguished from virtual currencies issued by private companies (like Bitcoin) because it is backed by a bank. It has the same exchange rate as that of real money, so there is no risk of value change. Public confidence in the currency is guaranteed because it is issued by a central bank.
Wholesale Digital Currency VS Retail Digital Currency
Digital currency issued by a central bank can be divided into “wholesale digital currency” issued only to financial institutions such as banks; and “retail digital currency” issued to private economic entities such as consumers.
In the case of wholesale digital currency, an individual acquires digital currency indirectly through a bank that has been supplied with digital currency from a central bank. When an individual owns CBDC, the digital currency is backed by privately held real money and the bank’s capital. This means that individuals will also be able to hold electronic digital currency together with real money and use it as a means of payment. Retail CBDC’s are consumer-focused and therefore more complicated. Institutions and governments have to take into account the speed of transactions and the stability and safety of the currency.
Interest Rates When Issuing Digital Currency
If central banks grant interest rates to digital currencies, it’s expected that the way interest rates are determined will be different than what we’ve come to expect.
The interest rate paid on digital currency is expected to be determined from the base rate minus the convenience of digital currency circulation. So, the interest rate system will be formed in the order of digital currency rate > base rate > short-term market rate > bank deposit rate. The digital currency interest rate is expected to be on the lower end of interest rates in the short-term financial market.
Advantages and Disadvantages of Introducing CBDC
Advantages
- Transaction costs will be reduced by simplifying the payment process.
- Increase access to finance for the 1.7 billion financially underprivileged people who do not have bank accounts.
- As central banks do not go through intermediaries (commercial banks, financial institutions, etc.), monetary policy effects — like interest rate adjustments — can be expected immediately.
- Governments can save money by not having to print bills or coins, track illegal funds, or increase tax revenue through transactions recorded on the blockchain.
Disadvantages
- Central banks can view all of the transaction details of companies and individuals, which may infringe on privacy.
- If private banks are excluded when a CBDC is designed, there is a possibility that customers will reduce commercial bank transactions, which may result in large withdrawals (bank runs).
- Simple payment companies or credit card companies could also be hit hard.
CBDC is a hot topic in the digital financial sector. We hope this clear outline helps you understand them a little bit better. It'll be interesting to see how this technology develops in the future and how it will affect cryptocurrencies like Bitcoin. Thanks for reading!
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