The road towards central bank digital currencies

As central banks move towards integrating central bank digital currencies (CBDCs) in national financial systems,’s Simon Chantry focuses on the network effects that may encourage their adoption and use in part two of his two-part series.

Simon Chantry is co-founder and Chief Business Development Officer at He is a member of the OECD’s Blockchain Expert Policy Advisory Board (BEPAB) and the WEF’s Digital Currency Governance Consortium.

In my last blog post titled ‘Central bank digital currencies in the interconnected future’, I described some of the considerations that central banks, regulators, policymakers, and other financial stakeholders are working through in the process of developing and deploying digital versions of their national currency, currently referred to as CBDCs. In this post, we will focus on the network effects that may encourage the adoption and use of CBDCs, as well as cross currency and cross border exchange scenarios – one of the more widely touted value propositions and opportunities for increased efficiency.

Many Central Banks have now formed their own internal CBDC focused working groups, and some have engaged in CBDC development and testing efforts with external stakeholders. In doing so, one of the practical issues being explored is the types of use cases best suited for CBDCs. While a number of use cases have been defined that apply across many countries, given the unique nature of each country’s financial system and economy there may be additional use cases that apply more to one country than another, which may be obvious given the many economic and financial differences between developed and developing countries. In all cases, the success of CBDC networks will be directly tied to the activity on the network, and the value provided to all stakeholders utilising the network.

CBDCs were a key topic at the 2020 Global Blockchain Policy Forum, OECD’s flagship event on the policy implications of blockchain and other distributed ledger technologies.
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A common use case that emerges is public payments, of which there are various types including benefits, public servant salaries, and relief payments such as those being distributed during the COVID-19 crisis. A number of desirable outcomes could be realised in migrating public payments to a CBDC network including:

  • Timely delivery of payment in times of crises, especially in comparison to the cheque payments distributed to Americans as part of the CARES Act which in some cases took up to 20 weeks. If citizens and businesses were equipped with mobile wallets capable of CBDC transactions, relief payments could be distributed in short order, and used immediately for necessities. This could be why an early version of the CARES act included provisions for a digital USD.
  • Transparent, accurate, continual transaction information for financial reporting, and accountability for the central budget authority, the program authority, and the delivery entity.
  • The ability for the monetary authority to collect vast amounts of aggregated anonymised transaction data – including transaction activity by region and industry – for the purpose of economic analysis, monetary policy strategy definition, and monetary policy transmission. Fiscal policy could also be informed by the resulting analyses.

Finally, migrating public payments to a CBDC network would increase network usage as each ‘stream’ of payments produces further downstream payments which would in turn increase monetary velocity. The instant availability of funds received in CBDC transactions (because the transaction includes the settlement) provides a number of opportunities with respect to enterprise cash flow management, the likes of which may give way to new business and operating models across multiple industries. All in all, there are a number of compelling reasons to execute public payments on CBDC networks that are derived from two main motivations:

  1. Increasing the allocative efficiency and effectiveness of capital deployed to a given public outcome, and
  2. Increasing the utility of and activity on CBDC networks.

While utilising CBDC networks for public payments may contribute to increased activity and adoption, the onboarding of other key stakeholders to the CBDC network will be required in order to achieve the macro benefits that have been identified by many researchers over the past few years. Perhaps an obvious necessity of CBDC networks is interoperability with the existing financial system. CBDCs will not succeed as standalone systems – they will need to integrate with current platforms in order to facilitate ease of access, onboarding and offboarding, and seamless exchange with traditional financial instruments. 

Technology service providers (such as Bitt) have been architecting CBDC networks to enable efficient and secure integrations with core banking platforms and existing payment systems to provide all financial stakeholders with secure and easy access to CBDCs. Direct convertibility of deposits and CBDCs will be required in order to onboard enterprises and firms through commercial banking channels. Payment service providers (PSPs) will have the option to migrate all of their user balances and ongoing transactions to the CBDC network entirely, and would benefit from the decreased operational burden of running their own transaction and settlement systems. New PSPs would likely emerge given the lowered barrier to entry, and each would compete to onboard clients to their payment applications. These firms would rely on the CBDC network, administered by the Central Bank themselves (in many cases via public/private partnership), to maintain the integrity and immutability of balances and transactions. In this sense, central banks become the operator of a CBDC network as a public good, as stated by the BIS in their April 2020 paper titled Central banks and payments in the digital era:

Payment systems are networks with participants that fall into two groups – PSPs and users. The PSPs compete with each other, but this competition takes place in the presence of complex interactions that bring subtle trade-offs. In this context, the public provision of the core infrastructure can be important in reconciling competing policy objectives. It can allow network effects to thrive while promoting a competitive level playing field. The central bank performs such a function by supplying the accounts on which payments settle. In this sense, the central bank is instrumental in the provision of a key public good

It is important to note that similar payment systems are currently in operation in some developed nations – such as Target2 in Europe – however such networks do not offer 24/7 operation and do not make use of advancements in blockchain and distributed ledger technology, among other differences. In addition, existing networks do not integrate seamlessly with foreign payment systems; cross currency payments require a correspondent bank to settle the payment in the target currency.

It is possible that cross border payments will be the killer feature for CBDCs as more and more CBDC networks integrate and enable users of all types to seamlessly exchange and transact in multiple currencies from a single application. Before we dig further into how this will be accomplished, it is important to mention a new category of platforms that are ripe for facilitating international payments: social networks. Social media platforms have grown in size to unfathomable levels, with Facebook having more than 2.7 billion users worldwide. CBDC integrations with social media platforms may enable success in terms of retail and enterprise adoption, especially given the amount of businesses that are utilizing such platforms for commerce, marketing, customer engagement, and more. In this sense, CBDCs could gain traction by leveraging the network effect that has been experienced by social media platforms such as Facebook to gain widespread use and adoption.

Network effects will undoubtedly play a large role in the success of CBDCs, which is arguably why Facebook’s Libra initiative attracted so much attention from international Central Banks and financial regulators. The more people and businesses utilising a platform, the more value it provides in the form of access, utility, economies of scale, and other factors. With such a large international social media platform, Facebook realised that not only is it well suited to provide payment services for retail and enterprise users, but it could launch its own private digital currency in the process. A private currency with immediate accessibility for 2.7B people poses a range of  threats to the international financial system, and has spurred further criticism of Facebook, mainly in the context of (lacking) data protection practices. International regulators have voiced their concern over Libra, even going as far as to threaten bans should Facebook attempt to integrate the currency and launch Libra payment services in their respective countries.[1]

However, following the hearings of both David Marcus, CEO of Libra, and Mark Zuckerberg, CEO of Facebook, with the US Senate and House, the Libra whitepaper was reworked to address the many concerns put forward by regulators and policymakers. The second version of the Libra whitepaper takes an accommodating stance with respect to CBDCs in stating the intent to integrate into the platform:

Moreover, our hope is that as central banks develop central bank digital currencies (CBDCs), these CBDCs could be directly integrated with the Libra network, removing the need for Libra Networks to manage the associated Reserves, thus reducing credit and custody risk. As an example, if a central bank develops a digital representation of the US dollar, euro, or British pound, the Association could replace the applicable single-currency stablecoin with the CBDC.

The new whitepaper still proposes a native Libra currency (≋LBR) which could become the dominant currency transacted on the platform despite the plans to integrate CBDCs, and the fact that national currency stablecoins will be available to users at time of launch. Add this to the fact that Facebook has many world class engineers who can continuously design and improve powerful and persuasive user experiences, and its clear to see why financial authorities were concerned about Libra’s potential to become systemically important.

A positive element of enabling users to transact on Facebook’s platform is the fact that counterparties are directly connected to one another, and could transact with each other without the need for intermediaries even if they are separated by borders. In addition, the Calibra wallet would be integrated into their Facebook account for free, furthering the financial inclusion agenda. Perhaps one of the more concerning elements of the Libra project is the fact that it involves the creation of a new currency: ≋LBR, a so-called stablecoin backed by a basket of foreign currencies. Such a model has many pros and cons that we won’t dig into in this post, however the concept seems to have merit based on a comment made by former Governor Mark Carney in his August 2019 speech titled The Growing Challenges for Monetary Policy in the current International Monetary and Financial System:

As a consequence, it is an open question whether such a new Synthetic Hegemonic Currency (SHC) would be best provided by the public sector, perhaps through a network of central bank digital currencies. Even if the initial variants of the idea prove wanting, the concept is intriguing. It is worth considering how an SHC in the IMFS (international monetary and financial system) could support better global outcomes, given the scale of the challenges of the current IMFS and the risks in transition to a new hegemonic reserve currency like the Renminbi. Even if the initial variants of the idea prove wanting, the concept is intriguing. It is worth considering how an SHC in the IMFS could support better global outcomes, given the scale of the challenges of the current IMFS and the risks in transition to a new hegemonic reserve currency like the Renminbi.

It is clear that Governor Carney recognises the opportunity for an interconnected network of CBDCs and/or a SHC to exist in the global financial system of the future. In order to get there, I make reference to an excerpt from my previous blog post:

CBDC networks may be built to common international standards in order to better achieve interoperability, cross currency exchange, and to leverage operating and design experience across multiple central banks. Such standards are being developed by top tier educational institutions in collaboration with bodies like the ITU and the ISO.

Those of us participating in the design, development, and deployment of CBDC networks have the opportunity to collaborate on common standards that will ensure technical functionality meets if not surpasses the expectations that have been discussed to date. A key outcome will be executing exchange and swap transactions and settlement between two or more CBDC networks, likely via atomic swaps. These transactions can be executed in real time by smart contracts (eg. hash-time-lock contracts) that reference an agreed upon value or data source for the exchange rate, have a defined expiry date, and many other customizable conditions for execution. This technological capability results in an opportunity for a variety of stakeholders to participate in exchange transactions at will based on a set of counterparty-defined criteria. Cross CBDC exchange functionality can serve Central Bankers in managing their foreign exchange reserves, financial institutions in managing their foreign currency holdings, and enterprises and individuals remitting funds internationally.

Should policy allow, PSPs could offer multi currency wallets by integrating their payments applications into multiple CBDC networks, enabling users to hold balances of more than one national digital currency. PSPs providing these sorts of multi currency services would be required to hold the requisite financial services licenses which could be administered by the local monetary authority, or in collaboration with the relevant foreign central banks. Extensive programmable tools exist for regulators in licensing, monitoring, and managing firms in accessing and providing services on their CBDC network. It is this enhanced functionality, as well as the friction and costs associated with international monetary exchange, that provide motivating factors for central banks, financial institutions, and technology firms to pursue the development of solutions that will further bring down cost and provide a better experience for all users.  

As the cross CBDC exchange projects continue, it will be interesting to see how these advanced systems translate for each stakeholder. One of the benefits policymakers and central bankers can look forward to is access to meaningful data regarding economic activity across industries, inter-country regions, and international borders. As big tech has shown us over the past two decades, the use of data can enable enterprises to constantly iterate and improve their offering in order to achieve a variety of mandates. If public institutions can learn to leverage such data, while protecting the privacy and sovereignty of its citizens, it could spell a bright future for the international financial system, and the citizens and enterprises who rely on it for their livelihood every day.

[1] French Finance Minister Bruno le Maire stated that he and his German counterpart would ensure that Libra would not operate in Europe, at the 2019 OECD Global Blockchain Policy Forum in September 2019.

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