Recently, every major government has started cracking down on cryptocurrencies. Whereas some of them were clearly
Even before the crackdowns started, several governments attempted to lure people away from cryptocurrencies by creating similar products, collectively known as
In my research into the applications of CBDCs and governments' claims about them, I found that many of the approaches and anticipated benefits that various governments are considering are strikingly similar.
But can CBDCs accomplish the policy goals that governments aim for? Let's explore four key claims and benefits that have been put forth about CBDCs.
CBDCs can be either centralized or decentralized. If the CBDC is decentralized, what kind of consensus mechanisms will the government use? A proof-of-work is unquestionably unacceptable due to the high energy cost. In addition, governments may have substantial computational resources, thus eliminating all the promise of decentralization. Although a proof-of-stake would not incur a large cost of consensus, there is still the issue of the government possessing a disproportionate amount of stake in the system. In the case of a permissioned ledger where each party has an equal number of votes, the permission would be heavily determined by governments.
Therefore, in practice, every consensus mechanism would be effectively centralized anyway. Thus, every CBDC system will also become centralized.
Another claim is that CBDCs will provide easier payments, including cross-border payments.
While blockchain systems provide a lack of full centralized control (although they are not as decentralized as they may appear at first), many people use blockchain for the sheer convenience of payments, especially for cross-border payments. This has the highest potential of being facilitated by the CBDCs.
However, let's consider why cross-border payments are complicated in the first place. The difficulties mainly come from the complex regulatory requirements of governments themselves. If governments can simplify regulations for the CBDCs, they can surely do the same for the existing modes of payment.
In reality, governments have practical reasons to have specific regulatory requirements, and they will not be relaxed for CBDCs, especially if CBDCs are designed for privacy.
The regulatory burden for nonprivate CBDCs can be reduced through the implementation of a centralized documentation management system, prompting governments to consider simplifying regulations due to the increasing adoption of CBDCs. However, there is no requirement for such simplification to be exclusively tied to CBDCs.
Proponents also claim that CBDCs will meet the needs of the unbanked.
Government digital currency projects have the potential to displace banks and fintechs from the payment process. But three major participants — Accenture, Ant Group and Swift — argue that incumbents have a role to play.
This proposition is extremely questionable. We need to understand why people are unbanked. The main reasons include not being near a physical bank, not being convinced about the point of having a bank account and/or a desire to transact privately.
There are also people who have been denied access to banking because of regulatory reasons or bad credit, etc. In such cases, CBDCs can offer a way to circumvent those restrictions and bypass regulations. Alternatively, the government can revise the norms to allow individuals to maintain their bank accounts. For example, in India, there is the "Jan Dhan Account" initiative to provide unbanked citizens with zero-balance accounts.
However, software solutions require a similar level of infrastructure as traditional banks. People still need to have stable internet connectivity, and they need some way of getting into the system. Governments do not like having people in a system without knowing anything about them. Therefore, people would need to physically register and complete documentation similar to what is needed to open a bank account.
Moreover, they will need to transfer money into and out of the CBDC account. If they do not already have a bank account, transferring money to and from a CBDC account must involve physically going to an establishment — like a bank, or maybe even a shop. It is true that CBDCs would allow them to make online transactions, but they already have a stable, trustworthy mode of transaction — through cash.
Therefore, unless voluntarily unbanked people are interested in long-distance transactions, an online system that is not fail-proof is not very useful to them. In the cases where someone is unbanked due to regulatory or financial reasons, these are better resolved by regulatory improvements and having specialized bank accounts with limited features suited to such cases.
One key benefit that is often raised is that the CBDC payment is anonymous. While this is technologically achievable, it is difficult to believe that any government would be interested in providing such a mechanism for transactions.
To be fair, governments have legitimate reasons to prevent anonymous long-distance transactions. One major reason governments want to push more online forms of transactions as opposed to cash is the ability to track and analyze them. In some cases, the governments are contemplating the idea of allowing privacy for transactions with lower than a set value.
Governments want to monitor transactions that may be breaking the law even when anonymous transactions provide more data on the well-being of the economy. They would never forego the opportunity to collect this data without significant public pressure.
Government attempts to only track transactions over a certain amount represent a compromise that fails on both fronts. While it permits the government to compromise the privacy of high-value legitimate transactions, malicious actors can easily exploit this by using multiple anonymous transactions, each below the set limit.
My take on CBDCs is that some benefits can be achieved simply because governments are taking an interest in making payments easier and accessible. But the stated goals are way loftier than what would be achieved and, in reality, only a fraction of the problems addressed by real cryptocurrency will be addressed by CBDCs.
