What is a Central Bank Digital Currency (CBDC)?
With lots of talk around blockchain technology, cryptocurrency and digital assets, many people are asking “what is a central bank digital currency” and “is the Bank of England going to introduce a CBDC in the UK”?
What is a Central Bank Digital Currency (CBDC)?
A Central Bank Digital Currency (CBDC) is essentially a ‘digital token’. These tokens are issued by the Central Bank of a country and are tied to the value of the nation’s fiat currency. For example, one token of a CBDC in the UK would be worth one GBP.
It is early days for CBDCs and, given the impact they could have, it’s important to be aware of what CBDCs are, how CBDCs work and what a CBDC could mean for you.
The Central Bank Digital Currency basics.
If you haven’t already done so, read our article ‘what is a Central Bank and what is the Bank of England’ to quickly refresh your understanding of what Central Banks do.
Typically, a Central Bank issues a nation’s currency in a fiat format. Fiat money is not linked to the price of a commodity (as it was when the gold standard was in place) but it is still used as a transferrable store of value that citizens can use instead of the barter trade. Historically, fiat currency has taken the form of paper or coins, however, in recent times, cash has fallen out of favour and many of us now see money as just numbers on a screen.
This move to a cashless society, alongside the development of cryptocurrencies and blockchain technology, has made governments around the world look ever closer at introducing Central Bank Digital Currencies. However, it’s important to remember that the Bank of England has said that a CBDC can work alongside cash and they will continue to issue cash as long as it is in demand.
In the UK, some names for the CBDC that have been suggested include ‘Britcoin’ and ‘Digital Sterling’.
It’s also worth mentioning that there are two types of CBDCs: retail for consumers and businesses; alongside wholesale CBDCs for banks and interbank transfers (similar to the reserve system).
What are the benefits of a CBDC?
There are several arguments used to support the creation of CBDCs, including:
Unlike cash, a CBDC cannot be counterfeited.
Payments can be made faster and more reliably.
There may be more choices in how we pay for things in person and online.
An alternative form of access to funds if payment or banking services were disrupted.
CBDC wallets will offer services to those without bank accounts.
CBDCs will be pegged to the nation’s currency and will therefore be a stable way to hold and exchange value domestically.
What are the pitfalls of a CBDC?
There are several arguments used against the creation of CBDCs, including:
The unknown effect on a nation’s economy and financial systems.
How a central bank will implement monetary policy against a CBDC.
How privacy will be maintained.
How to protect a CBDC from hackers and thieves.
What is the difference between a cryptocurrency and a CBDC?
The main difference between crypto and a CBDC is that Cryptoassets like Bitcoin, XRP and Ethereum are not issued or controlled by any Central Bank. As anyone that has followed the crypto markets can tell you, Cryptoasset prices are highly volatile and are therefore not a steady store of value, whereas a CBDC would be linked to a Central Bank's issued currency and would, theoretically, be much more stable.
Cryptocurrencies are mainly decentralised (not controlled by any one party), whereas a CBDC would be. Equally, CBDCs don’t necessarily need to be based on a blockchain and that distributed ledgers could impact the speed and scale of a CBDC.
Conclusion.
As you can see, it’s still very early for the introduction of a CBDC in the UK, however the Bank of England is actively investigating the possibility. You can get the latest news on a UK CBDC from the Bank of England’s website.
What’s next?
If you need help or advice on your personal or business finances or if you want to consider investing to make your money work harder, you can get in touch with one of our advisors for independent financial advice. We offer a free initial consultation and although we are based in Tunbridge Wells, we advise clients across the UK.
Don’t forget, this article offers general financial information and should not be taken as personal advice. Remember that investments and pensions can go up and down in value, so you could get back less than you put in. Cryptoassets are not regulated in the UK and reference to them within this article should not be taken as an endorsement or advice to invest.