This is the first of two articles. You can find the second article here.
Mike Novogratz, founder of Galaxy Digital, recently quipped, “bitcoin is a report card on how central banks are doing.” Could one of the emerging Central Bank Digital Currencies (CBDC) trump Bitcoin’s card? With the impending climate change remit for Central Banks, what could CBDC mean for climate change?
Major Central Banks across the world are in a tight race to deliver the first credible version of digital money. China is testing a digital renminbi version, whereby customers can transact payments over their mobile phones. Europe announced the launch of a digital Euro as part of the five-year plan. The Fed announced it would release a discussion paper this summer regarding digital payments, including respective appeals and threats of a central bank digital currency.
What follows are some considerations ahead of the Fed’s discussion paper.
In what way would CBDC differ from Bitcoin?
From a taxonomy point of view, digital money is a currency not held in physical form. It can either be token- (digital) or account-based. Crypto currency, like Bitcoin, is digital money in token format, which is supported by blockchain technology. This technology hinges on a distributed database managed by several participants. Furthermore, it uses cryptography to satisfy a consensus protocol and validate underlying transactions. This combination allows for peer-to-peer transfers over a network.
Crypto currency doesn’t represent a claim on an issuing entity; as such, its tender status relies on adoption dynamics, influenced by human behavior and psychology. And lastly, (private) crypto currency is fully decentralized, away from a central governing structure. The main reason crypto currency came into existence was to effect payments in a trustless manner (avoiding counterparty risk), in the face of the 2008 financial crisis, outside of the traditional bank network and its ensuing payment rails.
On the other hand, CBDC is digital money issued by a Central Bank, without, in the first instance, falling back on Distributed Ledger Technology (DLT). Given its decentralized and distributed nature of managing databases, this technology is not equipped towards safeguarding privacy, especially if the CBDC would be account-based. CBDC has legal tender status, and private citizens would hold a direct claim on public money, next to their claims on private money via the banking system. CBDC could be implemented in two ways, via the existing banking system as an intermediary or directly via mobile phones.
Stablecoins, such as Tether or Facebook’s Diem, are private (so far) entity-issued…