Central bank digital currency (CBDC) are digital tokens like cryptocurrencies that are issued by Central banks. Typical crypto is built on decentralized technology but CBDC database and value are regulated by central bank authorities and their value is tied to the value of a country’s fiat currency. In simple terms, CBDCs are digital renditions of fiat currencies.

‍

Many countries like UAE, Nigeria, and Canada have either launched or have CBDC projects on the way and even in the United States, the President recently signed off on a policy aimed at creating laws around digital assets.

There are two types of CBDCs:

• Retail CBDC: These are government issued digital tokens or accounts that are used for consumer-to-consumer transactions and consumer-to-business transactions.
• Wholesale CBDC: These are CBDCs used for transactions between banks and other financial institutions holding central bank accounts.

‍

Unlike cryptocurrencies, CBDCs are not fully accepted in both the tech and finance communities. With the advent of Web3, the world is moving towards digital anonymity, digital identity management and the death of third-party intermediaries. Cryptocurrencies are democratized digital assets and the idea of a central bank-backed currency runs contrary to this goal of decentralization. Despite this shortcoming, CBDCs have their benefits and are currently the most feasible option for the adoption of digital currencies.

‍

Cryptocurrencies are unregulated and unstable and this makes them unsuitable for use in larger economies that require stability. They are risky speculative assets whose value is determined by user interest and investor whims. Crypto transactions are facilitated on peer-to-peer networks putting identity and security at risk despite being built on an immutable blockchain system. On the other hand, by having a centralized, government-backed system, CBDCs have more stability and security for nationwide adoption. With a central bank-backed system the value of a digital token is attached to and remains the same as fiat currency and this makes CBDCs more stable.

‍

Most countries have unified identity management systems already. These already existing systems create a full database of identity information accessible to central banks to link digital token ownership to. This identity data that central authorities like banks and governments have, creates better security and less fraud and other financial crimes. Crypto transactions are trackable but identity on the blockchain can be masked. This anonymity which makes crypto perfect for Web3 creates a security risk for investors who aren’t tech savvy and are skeptical of investing in crypto. With CBDCs we can have real-time access to analytics on every transaction taking place within a country, digitally.

‍

CBDCs have the potential to improve financial inclusion for the unbanked and underbanked. CBDCs create ease and access to anyone anywhere through simple mobile applications. A 2019 FDIC survey showed that 7.1 million households in the United states are unbanked, meaning they niether have a savings nor checking account in a bank or credit union. Creating one central digital currency gives access to financially excluded populations which would not typically bank in traditional banks or invest in cryptocurrency.

‍

A central digital banking system also eliminates the need for private banking structures and intermediaries. This reduces cost for transactions and infrastructure like banknotes. With CBDCs, individual token holders have a direct link to one central authority so transactions between parties are facilitated by the same entity and this makes transactions faster and easier. This centralization removes a great deal of 3rd-party failures, delays and expenses which improves the efficiency of central banks.

‍

Ultimately, CBDCs defeat the purpose of digital currencies like crypto because cryptocurrencies are built on the basic principle of decentralization. With waning interest in cryptocurrencies and the constant issues with blockchain assets, CBDCs have become a more viable and safer option besides stablecoins for the global adoption and regulation of digital assets. Looking ahead, there is a better chance of CBDC adoption based on its benefits and the problems associated with digital assets that it solves.

‍