As central bank digital currencies continue to be researched and tested by countries across the globe, it becomes more apparent that the United States dollar’s reign might be challenged once the concept is implemented on a regional scale.
While most retail CBDCs focus on internal economic matters, some projects aim to facilitate trade relations within a specific region, forming a digital alternative to the greenback. The most eloquent example would be the East Asia cryptocurrency that was proposed earlier in June — a virtual asset backed by a basket of currencies including the Chinese yuan, Japanese yen, South Korean won and Hong Kong dollar.
So, do regional CBDCs have the actual power to dethrone the dollar, or are they better off as domestic market products?
Brief introduction to the dollar’s dominance
The United States dollar remains the undisputed king when it comes to international trade. According to the International Monetary Fund, around 61% of all foreign exchange reserves are allocated in the dollar as of 2019. Similarly, the U.S. sovereign currency serves as the main medium for cross-border deals, even for deals not involving the U.S. itself. For instance, 86% of India’s imports are paid for in dollars, while only 5% of them actually originate in the U.S.
In fact, the dollar has been as dominant as ever — at least until the COVID-19 pandemic cast a dark cloud over the global economy. A 2019 report from the Brookings Institution, a nonprofit public-policy body based in Washington, DC, found that the dollar’s share of cross-border settlements resolved via the SWIFT banking network rose from 30% to 40% between 2012 and 2019.
CBDCs as a viable concept?
The concept of CBDCs has been surging in popularity this year due to COVID-19 and Libra developments, as observed by the Bank for International Settlements in its latest report on digital payments, which states their arrival could “amount to a sea change.” So, what are their possible advantages over major fiat currencies?
CBDCs generally fall into two categories: retail and wholesale, as Sky Guo, the CEO of Cypherium — a blockchain firm that has developed a cross-chain interoperability solution for CBDCs — told Cointelegraph. “Retail CBDCs are used for daily purchases and wholesale CBDCs are for interbank transactions,” he explained.
Guo further stressed that CBDCs are digital representations of sovereign currencies, meaning that all monetary policy and Know Your Customer and Anti-Money Laundering rules apply to them. In a conversation with Cointelegraph, Jake Stott, the co-founder of decentralized think tank dGen, highlighted CBDCs’ strong proclivity for seamless global trade:
“One aspect to CBDCs is helping streamline cross-border payments to create frictionless borderless trade, but the second major benefit of widespread adoption is geopolitical and means greater competition for global trade volumes and thus greater sovereignty over the global economy.”
Barry Topf, an IMF consultant and the chief economist of the Saga global currency project, told Cointelegraph that a CBDC, if implemented properly, “has the potential to reduce transaction costs, increase efficiency and advance trade.”
China-led East Asia crypto remains a vague idea
One of the main contestants in the unofficial CBDC race is the digital yuan — a digital currency that is being actively developed by the People’s Bank of China. Details about the project remain unclear, as it still has no official launch date. On June 22, a former vice chair of the PBoC’s National Council for Social Security Fund, Wang Zhongmin, claimed that the back-end architecture development of the country’s CBDC is complete.
It is still not clear if the Chinese CBCD will be used for foreign matters, although its development was apparently spurred in the wake of Libra’s announcement in the summer of 2019, suggesting that it might take on cross-border payments after all.
A regional cryptocurrency proposed by the members of the Chinese People’s Political Consultative Conference, the country’s top political advisory body, paints a clearer picture in this regard. The CPPCC members — which reportedly include Neil Shen, the co-founder of Chinese travel juggernaut Ctrip and the country’s top venture capital investor — suggested creating a private-sector-led East Asia digital currency that would be backed by a basket of fiat currencies including the yuan, yen, won and Hong Kong dollar to hedge against the U.S. dollar’s hegemony.
The East Asia currency’s ratio will reportedly be calculated based on “the economic scale of the associated economies.” For instance, the yuan and yen are expected to account for more than 60% and 20% of the digital asset, respectively. But the East Asia currency concept has left CBDC experts puzzled, as it outlines a new type of CBDC: one involving several existing currencies at once. Topf of Saga told Cointelegraph that a regional CBDC made up of various sovereign currencies is very different from one backed by a single sovereign currency, and it raises many new questions:
“Its Governance — who decides? How is its value determined and maintained? What is its monetary policy, what are the financial stability implications? How is it backed? What KYC/ATF/AML rules apply? Who supervises and regulates it? Is it a private or public venture? Who ensures privacy, consumer protection? Any benefits in terms of efficiency are totally dependent on the way these issues are handled. Solving them is a major task in and of itself.”
According to Topf, the chances for regional CBDC currencies to succeed “will depend much more on the monetary and governance solutions, rather than the technology employed to build it.”
From Europe to Central America: Regional CBDCs
The East Asia digital currency seems to have very few competitors on paper, as other regional CBDCs seem to represent single existing currencies, even if they are designed to be used in multiple countries. For instance, there is the digital version of the Eastern Caribbean dollar, known as the DXDC, which the Eastern Caribbean Central Bank boldly markets as “the world’s first digital legal tender currency to be issued by a central bank on blockchain.”
The DXDC is currently being piloted within the Eastern Caribbean Currency Union, a cluster of countries using the Eastern Caribbean dollar. It seems that ECCB wants to “actively promote the economic development” of its cash-oriented member territories with the DXDC, instead of pursuing the ambitious idea of rivaling the U.S. dollar as a currency used for trade.
The digital euro — a CBDC analog of the euro — is another example of a possible regional CBDC. This concept seems to be most actively researched by Banque de France, the French central bank. In May, it reportedly became the first financial authority to successfully trial a blockchain-based digital euro. Notably, France is focusing on wholesale rather than retail uses for a digital euro, meaning that it might be used for cross-border settlements within the European Union or even other regions.
The digital euro concept has also been co-signed by the Italian Banking Association, which recently expressed its support for the implementation of a digital currency from the European Central Bank.
However, according to recent reports, the ECB is mainly interested in a retail implementation of a CBDC. Previously, the central bank’s key legal official, Yves Mersch, called retail CBDCs a “game changer,” adding that wholesale CBDC implementations would be “largely business as usual.” In any case, there is no concrete roadmap for an EU-wide digital euro at this point.
Rivaling the U.S. dollar remains an almost impossible task?
Stott of dGen told Cointelegraph that he doesn’t foresee any currency, “regional or otherwise,” dethroning the greenback “in the next couple of decades.” According to Pankaj Balani, the co-founder and CEO of Delta Exchange, “challenging USD as a currency of global trade is only possible if the base currency of the said CBDC is already a major currency of global trade.” In Balani’s view, the digital yuan is one of the few digital projects that have an actual chance of blowing the dollar out of the water:
“A Chinese CBDC has a much higher likelihood of success than others, because of China’s trade relations and partners which are spread across the globe and the size of global trade that happens with China.”
For Stott, however, the digital yuan or the East Asia regional currency could compete with the digital euro, but the dollar will likely remain the leader in international trade. He added that “smaller economic regions like the Caribbean, South East Asia or East Africa may benefit in trade terms if they choose to adopt a common regional CBDC.” In Stott’s opinion, the biggest opportunity for regional CBDCs “lies with a wholesale CBDC for trade and financial markets,” while national CBDCs within a single country are better off being retail oriented.
Guo, however, stressed that technological advantages might allow regional digital currencies to eventually overtake the dollar in certain scenarios: “For regional CBDCs to rival USD, they must hold unique value propositions, such as ease of storage, usage and speediness. If the U.S. falls behind in innovation, it is imaginable that regional CBDCs will outpace USD.”
Notably, the U.S. is also considering putting its national currency on the blockchain rails, which if implemented correctly and quickly enough, could put a full stop to many rival projects. The idea of implementing a digital dollar has gained traction in the wake of COVID-19, as the term was mentioned in three separate coronavirus-related bills reviewed by Congress as part of the CARES Act, although it was later dropped from the documents.
In May, the Digital Dollar Project — an initiative launched by professional services company Accenture and former leaders of the Commodity Futures Trading Commission — released its white paper, a 30-page document detailing the potential applications of a CBDC. However, it remains unclear if the Federal Reserve would ever sanction this idea.