Across many lands, central banks are exploring or studying the feasibility of launching central bank digital currencies (CBDCs). It has dawned on many experts in the field of central banking that the blockchain and cryptocurrencies are inevitable innovations.
Privately issued Bitcoin has already demonstrated that digital currencies or cryptocurrencies have a place in today’s financial and payments markets, and unless they reform, central banks risk being driven out.It therefore seems logical for central banks to join in this mad rush to create digital alternatives to fiat money.
CBDC gaining momentum
While the momentum towards digital currencies grows, questions are being raised now about just how CBDC are going to be deployed, their design or if these are ever going tobe interoperable with privately issued digital currencies.
However, there seems to be somepressing issues that need tackling before CBDCs overtake fiat cash. Such issues seem not to be getting enough attention.
Questions on what will determine the value of CBDCs issued by central banks need to be answered well before any talk of rolling out the digital tokens.
For CBDCs to work smoothly and be interoperable, therehas to be a common denominator or basis that allows any such seamless movement of funds between different networks.Using a common base eliminates the uncertainty and chaos that presently besets the private currency space.
Now some influential figures have suggested using existing public blockchain networks like Stellar or Ethereum as a rail on which CBDCs will run on.
This approach eliminates the need to start everything from scratch and in addition, the authenticity of a various CBDCs will not be questioned since they will all be running on a well known blockchain.
Central bank opposition
Indeed this approach seems plausible yet it is highly unlikely this will see the light of the day. Central banks havelong exhibited a deep dislike of privately issued cryptocurrencies and their underlying technology. Thereforethey are about to countenance the idea of using a fintech created by private individuals to support their CBDCs.
There is some validity in their opposition to commercially oriented tech companies becoming currency issuers.
For example, as it stands now, no privately created blockchains canattain or support a transactionthroughput needed to for them to offer a viable alternative and that is one legitimate reason why central banks might not like this idea. Of course, there is ongoing work by different projects to address this scaling challenge although it is not clear at this when this will be achieved. However, it seems opposition to tech companies may have a lot to do with other issues besides failure to scale.
As it stands, many within the central banking circles believe and are adamant that currency issuing is their preserve and no one else has that right. That central banks are foreordained to be issuers of currency has been their consistent message.
Recent comments attributed to FrançoisVilleroy de Galhau, the governor of the Banque de France, are the latest attempt to re-emphasize this point. Villeroy de Galhau claimed in January 2020 that ‘currency cannot be private, money is a public good of sovereignty.’
So given this clear friction between central banks and tech companies that are venturing into the currency issuing space, it is understandable why it is impossible for the former to wholly adopt a privately created blockchain for instance.
Gold backed CBDC
The general idea when creating CBDCs is attaining uniformity and common standards. This helps to pre-empt chaos.
Now since central banks might not be comfortable with the idea of using privately created blockchain, the next best option would be to use a valuable commodity as a basis for creating or establishing value of CBDCs.
Such a commodity can help to stabilize the value of one unit of a CBDC that a central bank wholly creates. In fact, such backing instills confidence in the currency.
When a valuable commodity such as gold is used to back CBDCs, potential users will have confidence in that currency irrespective of the technology or design used in creating the token. Few will question or doubt the value of one unit of any such digital currency.
In addition, backing a cryptocurrency (or any currency for that matter) with gold eliminates the volatility challenge that presently besets privately or publicly issued currencies.
Gold has a track record and a history of maintaining its value in real terms. Interoperability between different digital currencies will be enhanced if all are backed by this precious metal.
Nevertheless, it may potentially take longer for central banks to achieve this (a genuine gold backed token) as they are considered laggards in the space. This is a point well noted by the Official Monetary and Financial Institutions Forum (OMFIF) in a report released in late 2019.
In that report, OMFIF encourages central banks to outsource some aspects of their CBDCs from private tech companies. Part of the report reads:
“Practically, the operation of a CBDC is likely to rely on some sort of public-private partnership. Central banks could outsource the distribution of the CBDC to private financial institutions, which could also be involved in the on-boarding of users.”
For all their expertise in monetary policy, there are some capabilities that central banks do not possess and have no desire to cultivate.
Private sector input
So while this part of the report specifically mentions financial institutions, tech companies too can also be helpful in creating a CBDC that meets the demands of users.
Indeed there are some tech companies that specialize in tokenizing precious metals (or any other valuable commodity) as a service. One tech company out of the UK, Aurus, offers what it terms tokenization as a service (TaaS) primarily to the gold industry.
Aurus, has on behalf of certain gold industry players, created a gold token, the AWG, a digital asset that actually mimics the value of one gram of gold. This token is expected to act as gold backed cryptocurrency that can be redeemed for gold anytime the holder so wishes.
In this instance, the tech company does not own the token but merely provides a software protocol to or towards the gold industry without having involvement in the tokens or gold reserves. Players in this industry are the ones who own the commodity and thus are the issuers of the token.
A similar service can be extended to central banks that may want to back their respective CBDCs with precious minerals such as gold, platinum, rhodium etc.
Suchasset backed CBDCs could mark a giant step towards a universal currency system that commerce hasbeen yearning for.
End of US dollar dominance
In theory, a gold backed CBDC issued by a central bank in Malawi, must be readily acceptable in Mexico (and vice versa) because both are backed by a precious metal which has the same attributes regardless of where it is stored.
A CBDC backed by gold has the potential to overcome obstacles encountered by companies that are involved in cross border trading. The US dollar currently acts as the de facto global or universal currency but it has limitations just like all other fiat currencies.
Such limitations and challenges are what prompt companies and government to seek alternatives.
For example, the Chinese government announced towards the end of 2019 that it was in the process of creating and launching its own CBDC. Many people expect this CBDC to chip away some of the US dollar’s global appeal, a long term goal of Beijing.
Similarly, a group comprising of the UK, Japan and others is reported to be studying the best approach towards creating CBDCs. Again when these countries eventually launch their respective CBDCs, the US dollar will lose further ground.
However, only a gold backed paper or digital currency can finally and totally usurp the US dollar’s global appeal. A gold backed digital currency is even better because it comes with both the revolutionary attributes of the blockchain and those of gold.
It therefore stands to reason that countries and their central banks should go the gold backed route if they decide to launch a CBDC. There is no doubt the issuance of gold backed tokens would lay the infrastructure needed to launch a universal currency.