A Central Bank Digital Currency (CBDC) is a digital form of central bank money as it is backed by a government’s central bank thus it is a direct liability of the central bank.
As decentralized digital currencies such as bitcoin have become more popular, the world's central banks are beginning to realize that they need to be involved in the digital currency process.
To be used in general-purpose the digital currency of Central Bank would require an underlying system to provide and distribute it conveniently to the public.
This system could comprise
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The central bank.
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Operator(s).
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Participating payment service providers.
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Banks.
A wider ecosystem would support the system with
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Data service providers.
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Companies providing and maintaining applications.
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Providers of point of sale devices to initiate and accept payments.
According to the Bank for International Settlements, there are a large and varied number of incentives and challenges that drive central banks' interest in the Central Bank's digital currencies.
Some of these include the following:
CONTINUOUS ACCESS TO CENTRAL BANK MONEY
A Central Bank Digital Currency could act as a "digital banknote" and could fulfil the obligation to provide public access to central bank money without risk.
RESILIENCE
Compared to cash, a Central Bank Digital Currency (CBDC) system can provide a better means of distributing and using money in geographically remote locations or during natural disasters. The defense against cyber-attacks, using the digital currency of the Central Bank would become more effective, as the number of endpoints in a CBDC system will be significantly higher than those of the current systems of the central bank.
INCREASED PAYMENTS DIVERSITY
Payment systemsbenefit from strong network effects, which can lead to concentration and monopolies or fragmentation. Fragmentation of payment systems means that users and merchants may experience costs and difficulties in paying users of other systems. This is inconvenient and socially ineffective. The digital currency of the Central Bank could offer a common means of transport between fragmented closed-loop systems.
ENCOURAGING FINANCIAL INCLUSION
It is true that most of the adult population has easy access to electronic payments. However, increasing digitization could leave some parts of society behind. This is because potential barriers around trust, digital literacy, access to information technology, and data privacy create a digital divide. For central banks especially in many emerging market economies, a key motivation for the central bank's digital currency is the opportunity to improve financial integration.
IMPROVING CROSS-BORDER PAYMENTS
Cross-border payments are inherently more complex than purely domestic ones. They include more and, in some cases, numerous, players, time zones, jurisdictions and regulations. As a result, they are often slow, opaque and expensive. An interoperable which means broadly compatible with others, Central Bank digital currencies digital currency could play a key role in improving cross-border payments.
SUPPORTING PUBLIC PRIVACY
Some argued that the main benefit of a Central Bank digital currency would be some level of anonymity for electronic payments. However, complete anonymity is not reasonable. While anti-money laundering and combating the financing of terrorism (AML/CFT) claims are not a central bank target and will not be the main incentive for the central bank to issue digital currency, central banks are expected to plan Central Bank digital currencies that comply with these requirements along with any other regulatory expectations or disclosure laws.
FACILITATING FISCAL TRANSFERS
Covid-19 pandemic shows the benefits of having effective facilities for government to quickly transfer money to the public and businesses in a crisis. A Central Bank Digital Currency system with recognized users, such as a system linked to a national digital identity system, could be used for these payments.
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