Digital Currency Update - When Innovation meets Regulation
There has recently been a lot written about the imminent arrival of a new digital financial infrastructure. Along with Blockchain, a key topic of this dialogue has been Digital Currency or Stable Coins. Central Bank Digital Currency (‘CBDC”) represents a new form of currency to replace the traditional forms of cash and revolutionise the global payments systems. BIS maintain a database of countries pursuing CBDC projects showing that multiple countries are researching or has projects already in train, and the current pandemic appears to have had little impact of this anticipated transition.
As social distancing and working from home have reshaped our lives over 2020. The growth of online commerce has rapidly accelerated, bringing forward market share and acceptance to levels that likely would have taken 5 years to achieve. According to Statista data in 2019 e-commerce made up 14.1% of retail sales worldwide or $3.5 trillion, this is estimated to increase to 22% by 2023. In addition to the increase in online commerce, the market is also seeing an acceleration of cashless transactions with increased use of debit cards and other electronic points of sale removing the need to handle notes and coins. Countries like Norway and Sweden are leading this trend with only 4% of payments now being conducted with cash.
Other countries such as China, Australia, United Kingdom, South Korea and UAE are close behind, so it seems the time for CBDC’s seems right. What are the impediments?
Firstly cash is not going away and despite the shift the more cashless payments the amount of cash in society globally has actually increased in recent years, moving from $5.6 trillion in 2016 to an estimated $8.5 trillion in 2021 according to the Global Cash Index. This is despite of a declining share as a % of GDP.
Cash has inherent advantages and familiarity that create barriers to change as it needs very little infrastructure to be effective. From a societal perspective cash is extremely user friendly, customer centric, trusted, cyber proof and does not require third party intermediation, nor a power supply to work.
For the shift to occur there is the need for well developed infrastructure to support a digital economy, such as internet penetration, high smartphone adoption and widespread payments terminals. There are incentives for the Central Banks to promote/support the development of this infrastructure. Cash is expensive for Central Banks and other cash handlers in the economy and the evidence from BCG Research (see link) indicates going cashless helps economies grow.
“Only 23% of the world’s 174 Central Banks are legally able to issue Digital Cash”
- IMF Blog - Legally Speaking
Digital Cash offers benefits to Central Banks, it is transparent, traceable, generates data points and identity profiles that assist in managing the economy and avoiding money laundering. It has also proven to close gaps in the grey economy and in Sweden led to a 30% increase in VAT receipts as societies go cashless according to BCG Research.
While the benefit appear clear, the legal framework around the creation and deployment of CBDC remain slow to keep pace. In a recent IMF survey of the World’s 174 Central Banks, the researchers Catalina Margulis and Arthur Rossi discovered that the laws governing 61% of the Banks allows the issue of Banknotes and Coins only. Digital Cash will require new legislation in 77% of the Central Banks to permit issuance. Given currency is sovereign debt of the issuing nation the need for appropriate legislation and legal clarity to support the terms and conditions of any CBDC and the enablers of any digital currency (Wallets, Wholesale vs retail etc) are a necessity and the drafting/passing of such legislation is likely to be the key factor in determining the arrival of CBDC’s.
