According to the 3^rd BIS survey on central bank digital currencies (CBDCs) in 2020, 86% of the world's 66 central banks are researching the implementation of a CBDC, of which, 10% are about to issue their own CBDCs. CBDC, the virtual form of a fiat currency, is issued by a nation's monetary authority (central bank) on the basis of the full faith and credit of the issuing government. As an extension of fiat currency in the era of digital economy, CBDC is a legal tender, as opposed to a series of crypto-assets or digital assets named after digital currencies, which are issued by private institutions and have no stable monetary anchor, let alone the qualities of a fiat currency. Following the launch of crypto-assets, CBDC was introduced to the world as an important measure for countries to respond to the threat of crypto-assets to legal tenders and take an active part in the future international currency field. Its advent has brought about a more far-reaching impact on the entire financial industry and relevant regulatory sectors. The author sorted out the current situation, development trend and regulatory polices of CBDCs at home and abroad so that regulatory authorities can better understand the development trend of digital currencies across the world, identify the potential risks of developing digital currencies, steadily and effectively advance the development of digital RMB (DC/EP), and help the country secure a good position in the change of international monetary system.      

The Current Status of Central Bank Digital Currencies (CBDCs) across the World

In recent years, along with the rapid development of digital currencies on a global scale, an increasing number of central banks have started to actively research the potential for CBDCs and some countries have even begun to build the physical infrastructure and initiate the pilot project for the introduction of CBDC. As the first country in the world to issue sovereign digital currency (DC/EP), China has successively piloted DC/EP in some domestic cities, commercial banks and cross-border payment scenarios since April 2020 and issued its first insurance policy that was paid in digital RMB in December 2020. The introduction of DC/EP issuance plan is imminent in the country. In the first quarter of 2020, French central bank planned to carry out a digital currency pilot project. In July 2020, the central bank of Singapore announced that it had developed a cross-border payment network system, which can realize a more convenient, more efficient, lower-cost international settlement system. Europe and the United States are not far behind. The central banks of Canada, Sweden, the United Kingdom and other countries have joined hands with the BIS to form a CBDC group and are about to launch pilot projects. The U.S. has also speeded up the pace of research. In May 2020, it released a white paper on the Digital Dollar Project (DDP), detailing the basic structure, purpose of issuance and potential application scenarios. CBDC has currently aroused great concern from all walks of life. It will definitely become a future trend. Therefore, countries are now actively responding to it to seize the opportunity in a better way.

The Development Trend of CBDCs around the World

Firstly, CBDCs will gradually replace crypto-assets and enhance the effectiveness of monetary policy across the board. First of all, with decentralized architecture characteristics, crypto-assets will weaken the effectiveness of monetary policy and may affect financial stability. The distributed ledger technology (DLT) adopted by CBDCs can facilitate the flattening of CBDC transaction intermediaries, which is conducive to the central bank's enhanced control over money supply, more effective liquidity management and reduction of monetary policy time lag, thus improving the effectiveness of monetary policy transmission. In addition, compared with the current legal tender, the CBDC operating system will contain a large number of monetary policy innovations, such as the conditional trigger mechanism, which will restrict credit subjects and usage scenarios, achieve targeted lending and avoid idle funds. The issuance of CBDCs can separate payment instruments from investment tools, unblock the transmission channels for monetary policy, and improve the efficiency of social economy. Therefore, in a relatively long period of time in the future, central banks of various countries will accelerate their efforts in promoting CBDCs in order to push forward the effective implementation of their own monetary policies and maintain the stability of their own financial systems.

Secondly, CBDCs will promote multilateral cooperation and advance the underlying technology of digital currencies. One of the key reasons why central banks are proposing CBDC strategies is because of the emergence of crypto-assets and DLT. From Bitcoin to Libra, their features of decentralization and anonymity pose a huge threat to the legal tender. The emergence of DLT has not only facilitated the evolution of crypto assets, but also made it much more likely for central banks to establish a larger-scale clearing system and issue fiat digital currency. CBDCs came into being as a result. It's fair to say that the development of the underlying technology of digital currencies is an important guarantee for central banks to actively promote CBDCs in the future. On one hand, multilateral cross-border and cross-regional cooperation is conducive to broadening the technical architecture; and on the other hand, it can also help central banks prudently assess the pros and cons of the technology and pick out the optimal technical path, thus bringing about profound and long-lasting influences on digital currencies. In this way, in such an era of digital economy, in the longer term, countries will make positive efforts to integrate the technological R&D fruits of large high-tech companies, press ahead with their own fintech innovation, and beef up multilateral transnational and cross-regional cooperation for mutual benefit in a bid to jointly promote the development of the underlying technology of digital currencies.

Thirdly, CBDCs will improve the cross-border payment system and change the general pattern of the international payment system. At present, most of the global cross-border payments have to rely on correspondent banks, a model which involves numerous intermediaries and are subject to different regulatory standards in different countries, thus increasing hidden costs. In addition, problems, including the unobservability of payment status, delays in payment processing, and the limited duration of payment services, have greatly reduced the efficiency of cross-border payments. CBDC can better solve the above-mentioned problems plaguing the traditional cross-border payment systems. It is a preferred choice for reducing cross-border payment costs and improving the efficiency of the sector. It is worth noting that the cross-border payment settlement network of the U.S. dollar has been politicized and weaponized in recent years. The U.S. Clearing House Bank Unified Payment System (CHIPS) and the Society for Worldwide Interbank Financial Telecommunication System (SWIFT) have a dominant position in the field of cross-border clearing, so the two systems have turned out to be important tools for the exercise of hegemony. Therefore, to break through the existing pattern dominated by the U.S., in the longer term, countries will actively boost the application of CBDC in the field of cross-border payment and settlement and change the current pattern of the international payment system step by step.

Fourthly, CBDCs will help to strike a balance between privacy and regulation and facilitate the improvement of laws and regulations in various countries. The design of CBDC should be based on existing and future national policies and give due consideration to the issues such as the demand for current fiat currency, transaction records, laws, regulatory policies, national security, etc. If the CBDC is completely anonymous, it will be untraceable and encourage illegal economic behavior, which not only violates existing anti-money laundering rules, but also undermines the value of fiat currency. If the CBDC is fully transparent, it can be fully monitored. This is really a boon for regulation. However, the probability of transaction information leakage will increase, which is not a boon for social and economic stability. Therefore, CBDCs must achieve a balance between strengthening currency supervision and protection of residents' privacy. At present, DC/EP allows for limited anonymity. Only the central bank can monitor the complete information of both parties to the transaction, such as names and transaction amounts, while the operating agencies can only capture changes in the amount received or paid by DC/EP. For US' CBDC, the United States may take a cue from the current cash handling system and design a similar system where small payments are anonymous, but need to be reported to the Internal Revenue Service (IRS) when they exceed US$10,000. Furthermore, CBDC also needs to have the principle of same behavior subject to same supervision to reduce the room for regulatory arbitrage. To deal with the regulatory challenges that CBDCs may cause, countries will work harder to improve their laws and regulations for a long time to come.

Fifthly, CBDC will consider the issue of interest-bearing currency and try to improve its current functions step by step. If CBDC does not bear interest, it will have the same functions as cash bills, that is, it does not bear interest when held in kind. But it can bear interest when deposited in an account, which is equivalent to M0(currency in circulation). If CBDC bears interest, it will be closer to bank accounts and have investment functions. Whether it is meant to be a positive or negative interest rate, it will enhance the conductivity of monetary policy in each country and bring about a more complicated impact on the financial system and the national system. At the present stage, DC/EP, as a replacement of cash, will not pay interest. With no investment value, it will not replace bank deposits and loans. In this way, the introduction of DC/EP will not produce a large impact on commercial banks and the financial system. Although the DDP's white paper does not specify whether the digital dollar bears interest, the reality of other countries shows that most of CBDCs they issued do not bear interest at the initial stage so as to avoid the complicated impact they may produce on the economy. However, with the development of CBDC in various countries, CBDC will be derived to M1 and M2. At that time, residents can transform the CBDC in their hands from e-cash to deposits, financial funds, etc. Therefore, to gradually improve the existing functions of CBDC and broaden its application scenarios, countries will actively consider the interest-bearing issue of CBDC for a long time in the future to mitigate the impact of existing crypto-assets on the stability of the economic system.   

Regulatory Policies for CBDCs around the World

The biggest difference between CBDC and crypto-assets is that CBDC is a currency in the true sense of the word. Currency, a medium of exchange, a unit of measurement and a tool for storing value, can perform its main functions as a measure of value, a means of payment and a means of storage. Along with the social and economic development, the three major functions of currency have gradually derived three major systems: value system, payment system and storage system. As the promotion of CBDC comes with some potential problems and challenges, the author considered the possible risks from the three major systems of currency so as to help regulators improve the ongoing regulatory policies.

First, in terms of value system, the accounting system, statistical system, valuation system and bond valuation system jointly constitute the value system of fiat money. In a market-oriented economy, commodities need to be valued regardless of whether they are traded or not because individuals' expectation can exert great impacts on commodity prices, in particular the prices of non-tradable goods. So, fiat money can still function as a measure of value, but commodity prices can hardly reflect the value of commodities. In this case, it is necessary to evaluate and monitor the value of commodities in all aspects, including the valuation of intangible assets. At this time, problems such as valuation distortion may arise. For example, in the process of assessing asset prices, factors such as brand, consumer psychology and monopoly power may lead to a higher proportion of virtue value in price evaluation. As a result, the asset prices are overestimated. Inflated prices of a company's assets can, on the one hand, affect its valuation in the stock market, exacerbating the risk of stock price volatility and asset price spikes and drops; on the other hand, when overvalued assets are used as collaterals, they may also transmit risks to banks and other related sectors, and even trigger a recession in the real economy. Therefore, strengthened efforts are needed to regulate the rating companies, asset price assessment companies and monopolies to prevent the bursting of asset bubbles. The issuance of CBDC relies heavily on the identification and collection of big data. Currently, the central bank can only collect the recently-formed big data and cannot fully grasp the fundamental information of the economy and various institutions. However, if CBDC is issued, the central bank has to take into account the economic cycle and need longer-period data and more representative fundamental information for decision making. Contradictions between the two will easily expose the decision-making department to data decision risk, which in turn will lead to the risk of inconsistency between the CBDC and the face value of the cash. Moreover, the adjustment of individuals' expectation based on the amount of legal tender in society can make the valuation of non-tradable goods such as intangible assets fluctuate, which will in turn affect the stability of the value system and impacts the entire financial system. Therefore, there is a need to focus on preventing the risk of CBDC issuance from impacting the overall financial systematic risk.

Second, in terms of payment system, the interbank large-amount payment system and the underlying payment system jointly constitute the payment system of legal tender. The whole payment system actually contains two major payment sub-systems: one is the physical cash payment system; the other is the electronic information payment system, which mainly includes the payments in the form of bills of exchange, checks and bank cards and the Internet-based third-party payment system platform. The homegrown third-party payment systems, including WeChat, Alipay and bank wallets, are the mainstay of the underlying payment system which has realized the networking of physical payment, improving the payment efficiency and usage experience of users. It should be noted that RMB has become the fifth biggest international payment currency. The international promotion of the third-party payment system is an important step to facilitate he internationalization of RMB in the future. It is expected that the proportion of RMB payments in the trade among countries along Belt and Road will continue to increase. Although China launched the Cross-border Interbank Payment system (CIPS) in 2015, its interface with the third-party payment system has yet to be improved. Considering that the international trade environment will become more complex in near future, and the risk of some funds from illegal channels (such as smuggling, money laundering, drug trafficking, cross-border gambling, arms trafficking, etc.) and malicious shorting of capital markets flowing into the country via payment systems may increase, the regulating authorities can cooperate with relevant foreign institutions to establish a full-phase dynamic real-time monitoring system for cross-border capital flows covering the CIPS and third-party payment systems in a bid to prevent the risk of cross-border capital flows. Furthermore, actions should be taken to ramp up the supervision of information security of payment systems so as to protect user privacy from being leaked and maintain financial security in the country.

Third, in terms of the storage system, the savings system and the financial assets system jointly constitute the value storage system of legal tender. In the whole storage system, there are two types of saving forms. One contains savings and financial assets in different forms; and the other refers to those similar financial assets, including real estate mortgages, stock pledges, and commodity mortgages. Both should be subject to financial regulation. Internationally, many countries have legalized the typical crypto-assets such as Bitcoin and Libra and turned them into financial assets for investors. At present, most of countries have already regulated crypto-assets through legislation, including the United States, Japan and Russia. In China, the issuance and circulation of crypto-assets are not allowed, and DC/EP can only replace M0. However, as the internationalization of RMB picks up the pace, DC/EP may replace M1 and M2 and assume the collateral function of financial assets. Moreover, it may derive digital financial products, such as digital bonds, notes, ETFs and other financial products, in the process of trading, thus exerting an impact on the core financial fields such as trading and asset management. Currently, China's existing laws and regulations lack relevant legal provisions for the definition of CBDC and the establishment of financial and regulatory systems. Also, there are no regulatory policies for CBDC in place. Therefore, as DC/EP has begun to be piloted, it is advisable to develop corresponding regulatory measures in a timely manner to prevent the impact thus produced on the stability of the financial market.

What's more, as CBDC may also cause certain risks in economic life, regulators need to make policy arrangements accordingly. First of all, the adoption of new technologies in CBDC is always accompanied by new risks, vulnerabilities and fraudulent techniques. The password is the technical core of CBDC. If criminals successfully crack the password, they are very likely to copy, forge, tamper with and steal the CBDC. Or worse, they may use malware, Trojan virus and other means to maliciously attack the CBDC system. The risk may rapidly spread to the rest of the monetary system and give rise to untold disastrous consequences. In addition, users need to be wary of new types of speculation and fraud committed under the name of CBDC to avoid financial losses. Secondly, CBDC may expose commercial banks to the risk of a run. If people are trying to transfer money from their deposit accounts to CBDC, banks may lack funds and have to rely on the wholesale market for liquidity, which will cause them to take on more debt and may become short of profits. The financial stability will thus be affected. Meanwhile, CBDC is backed by the national credit while commercial banks are backed by business credit. In the event of economic fluctuations or banking difficulties, customers will quickly switch their bank deposits to CBDC. This will exacerbate the risk of a run on commercial banks.     

Source: People's Tribune