What is a Central Bank Digital Currency (CBDC)

Central bank digital currencies are digital currencies issued by a central bank. There are many of them coming up, and some countries have already launched theirs while others are still working on theirs.

The goal of a CBDC is primarily to give financial control to the central bank. This is because the central bank is the issuer of the currency, and has absolute control of the transactions carried out using such digital currency

Digital currencies are also programmable, that is they can be programmed for specific uses at specific times. For example, you can program a CBDC to stop anyone using it from buying certain things with the money. You can even make it such that the money “expires” if not used within a specific time.

While transactions using fiat money cannot be traced to a particular person with details of what they did with the money, a CBDC makes this possible, making transactions 100% traceable at all times. 

How CBDCs Came About

CBDCs became popular when it became obvious that decentralized cryptocurrencies like Bitcoin and Ethereum were superior to fiat money issued by the government. They are faster to transact with, and also cheaper. 

Even beyond that, they cannot be seized by the government. This made governments in different countries think of coming up with money that could compete with decentralized cryptocurrencies, and CBDCs came about. 

With a CBDC however, you can have the speed, efficiency and affordability of transactions but not the privacy that you enjoy when using a decentralized cryptocurrency.

Types of CBDCs

There are two types of central bank digital currencies, depending on what they are used for. The first are retail CBDCs and the second are wholesale CBDCs. 

Retail CBDCs

Retail CBDCs are CBDCs issued by the central bank for public use. They are for transactions by the end user. These are CBDCs that replace physical cash or any other form of money, and are accessible by any person or business. They are used for everyday purchases and payments.

They are primarily aimed at promoting financial inclusion, that is banking the unbanked, which is what cryptocurrencies also seek to achieve. This is why they are popular in third world countries where a large percentage of the population don’t have access to traditional banking services.

Because they are meant for the end user, they come with high encryption and prioritize pseudonymity as well as user privacy. They also effectively replace other patent methods such as debit/credit cards, mobile wallets etc, and are directly regulated by the central bank to ensure adherence to financial regulation.

Wholesale CBDCs

Wholesale CBDCs are those designed to be used by financial institutions rather than by individuals. They are also used by the central bank and other banks involved in large and regular transactions.

Wholesale CBDCs are used mainly for inter-bank settlements, especially those involving high-value, time-sensitive transactions like those in the financial markets. They are also for large-value transactions such as cross-border payments, securities trading, and clearing and settlement operations.

Because of these uses, wholesale CBDCs are high-efficiency CBDCs that guarantee instant settlement, reducing counterparty risk, and streamlining post-trade processes.

Pros of CBDCs

CBDCs come with a few advantages, top among which is financial inclusion. Through retail CBDCs, those who don’t have access to financial institutions can also access financial services.

They are also more efficient than traditional fiat monetary systems. They are also useful for fighting crime, and facilitating low-cost international transactions.

Cons of CBDCs

CBDCs also come with some concerns, including privacy concerns. Because CBDC transactions are 100% traceable, it has raised concerns on the privacy of users.

Fears have also been expressed that CBDCs can be used as instruments of control. This is a valid concern because CBDCs are programmable, meaning they can be programmed to behave in a certain way, such as not allow certain uses or even disqualifying people from using their own money.

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