The Breakdown - The State of CBDCs

Episode Date: June 27, 2023

NLW checks in on the latest in central bank digital currencies.  Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Monday, June 26th, and today we are doing a little check-in on CBDCs. Before we get into that, a quick note about travel plans and content. And yes, I know I'm skipping the sub-rate review thing. I've said it a lot lately. You guys know where to go for all that. Anyways, as I mentioned on Saturday, I am currently in Europe. And so tomorrow, Wednesday, and Thursday, the main breakdown show will be on a little summer break.

However, for those of you who are Jonzing for some additional content, I will be putting out AI breakdown briefs. Those are the five to seven minute quick news headline announcements that happen every day. And for those of you who want to keep it on crypto, or more specifically, Bitcoin, over the next three days, I'm profiling three of the most exciting companies that just came out of Wolf's first cohort. It's going to be a really good time. so if you haven't subscribed to Bitcoin Builders yet, go on over to that podcast and check it out. If you don't have the link, just go to Breakdown.network and you can get it. But as I said, today we are catching up on CBDCs.

They have been lurking around the conversation. And I feel like are especially important in the context of this wider discussion of the institutional surge back into the digital asset space. If Trad V firms are trying to come in and clean up and make safe the space so they can make money from it, Will big policy institutions also try to tame it in the form of central bank digital currencies or other types of similar efforts? Well, last Tuesday, we got a report from the bank for international settlements. This is effectively the central bank or central bank. In that report, they argued for a new type of market infrastructure that they called the unified electronic ledger. This ledger, hypothesized by the BIS, could combine central bank digital currencies, tokenize money, and assets all on one platform. They also called

for smart contract functionality describing something that looked like Ethereum on a global scale. BIS head of research, Shionzsing said in a press release, bringing together central bank money, commercial money, and different assets on the same platform, all tokenized and interacting, opens up a whole new range of possibilities. The report explained that the current international infrastructure consists of separate databases connected by messaging systems like Swift, which communicate transactions between isolated systems. It said that the unified ledger approach could eliminate delays and uncertainty, and if you've ever waited seven to 14 days for a swift transaction to arrive with no confirmation of progress,

you'll know exactly what that refers to. So the BIS envisions a system with integrated security settlement, with both tokenized securities and the money exchange for them residing on the same ledger, cutting down the steps in settling asset purchases into one transaction. The report suggested this improved architecture could reduce the cost of trade financing in particular, which would be felt most by smaller companies. Of course, the unified ledger could enable tokenized deposits with built-in regulatory checks for wholesale CBDCs, ensuring that the system is squeaky clean. The BIS also stressed the need for policy harmonization across jurisdictions if this kind of grand plan were to be successful. Shin tried to convey the importance of this moment in history

and the need to get this once in a century overhaul of the financial system right. He wrote, We are at the cusp of another major leap in the monetary and financial system, which will have far-reaching consequences for the economy and society at large. This would be a game changer and how we think about money and how transactions take place. The BIS was not set on any particular technological or design aspects of a unified ledger, although Shin mentioned that the institution is not considering permissionless blockchains. He did note that the method of conducting transfers could be decentralized. Quote, I think the actual choice of technology will really have to be decided for that particular

use case. It could be decentralized like in a permissioned blockchain, but it doesn't have to be. It could be a centralized system as well, where there's a rigorous set of controls on data confidentiality, cyber resilience, and so on. Now, in terms of understanding where this actually is, the concept is very early in its development. It would need to be pushed forward by a combination of central banks, taking up the public policy agenda, while also enlisting private companies to build the consumer-facing infrastructure. Shin said, quote, I think it's going to be a very important coming together of both the

official sector as well as the private sector, and rest assured this is going to be something that we will be discussing going forward. Now, people's response to this, despite it being highly theoretical and highly unlikely to have anything like the political momentum needed to actually get it done? Who's still very nervous? Economist Johannes Borgon writes, the BIS goes all in. Slightly scary, if you ask me.

Can't wait for the Black Mirror episode. George Gaman writes, and there it is BIS quote unquote exploring a unified ledger. This is a prediction I made that I hoped would not come true. If you're worried about what central planners can do with the CBDC, remember it's impossible without a centralized ledger. Now, that wasn't the only vision for a future system design that we got from a big international financial institution last week. On Monday, the IMF released their vision for

the future monetary system, which would be a cross-border CBDC settlement platform. They presented their report as a blueprint for the next generation of payment systems and proposed a global CBDC platform that could allow individual nations to maintain capital controls and limits on the cross-border flow of funds while taking advantage of the reduced cost of fully digital tokenized payments. Tobias Adrian, director of the IMF's monetary and capital markets department, said, quote, our blueprint for a new class of platforms would enhance and ensure greater interoperability, efficiency, and safety in cross-border payments, as well as in domestic financial markets. The cost, sluggishness, and opacity of cross-border payments comes from limited infrastructure.

The managing director of the IMF had said earlier on Monday that the institution was, quote, working hard on global infrastructure that would enable interoperability between different CBDCs. The proposed platform would include the ability to limit the transmission of private information to intermediaries and enhance liquidity by allowing contracts to be pledged is collateral. The IMF, of course, rejected the idea of blockchain validation, instead opting for a permission ledger. Adrian said, quote, the ledger would be controlled by the platform operator. The single ledger would ensure there is a unique description of who owns what so no double spending can occur. Under the IMF's plan, national governments would retain the right and

ability to limit their citizens' transactions in foreign currency and impose anti-money laundering checks. The IMF appeared particularly concerned with ensuring that capital controls remain a viable tool to use in the case of a national financial crisis. Former central banker Kathleen Tyson writes, looks like an interesting rivalry between BIS and IMF shaping up. Many others might launch multi-currency platforms too. Maybe like Bitcoin, there will be thousands of imitators, frauds, and forks ahead. Cryptotrater T.J. Larkin writes, not sure how many more articles we need to see to know that CBDCs are coming, and they will be 100% capable of capital controls and programmability. The only question is when? Putting a fine point on that, last week, the Bank of England, in partnership with,

with the BIS Innovation Hub released their findings from a field test of a CBDC technology. Their report described the development of 33 API functionalities to test more than 30 CBDC use cases, including offline payments processing. Nicknamed Project Rosalind, the initiative sought to explore how API layers could support retail CBDCs and ensure safe and secure payments in a range of situations. The test was based around the proposed structure for the Digital British Pound, which would be run on a centralized ledger hosted by the Bank of England. The central bank would also make APIs available to private sector firms who could program consumer-facing front-ends and features such as automated payments. Francesca Hopwood Road, the head of the BIS Innovation Hub in London,

said, quote, there is actually no shortage of different ways that the market might respond and engage with this. According to the report, the CBDC Road test included online, offline, and in-store payments via interactions with QR codes, mobile phones, and smart cards. The project also looked at enabling micropayments. Hopwood Road said, quote, one use case that Rosalind was employed for was a child parent wallet and looking at how payments could be made in that kind of scenario, responsible spending, how parents can allocate pocket money to children, how that money could then be spent in different locations and all those different things. Now, the BIS considers this kind of experimentation to be informative to the quote, very important CBDC discussion, especially in light of the CBDCs already

in operation in a handful of countries. Hopwood Road said, I think if you look across the range of experiments that we have done in the innovation hub, increasingly in the CBDC space, whether it's wholesale or retail, we are experimenting and exploring different dimensions. She added, I think these are all very important elements of exploration and areas that we know central banks are increasingly focusing on and turning their attention to. Now, one of the most common talking points around the need to introduce CBDCs focuses on their ability to upgrade financial infrastructure in the developing world. However, there's not a ton of evidence that developing nations are interested in signing up

for CBDC infrastructure. At the beginning of June, for example, the Central Bank of Kenya released their findings from a year-long discussion paper on the adoption of a CBDC. The paper received over 100 responses across nine countries, including many Western nations. The press release stated that respondents highlighted the benefits of a CBDC as being increased efficiency, transparency, and lower costs. Key risks were also identified, including disintermediation of banks, high implementation costs, technology and cyber risks, as well as financial exclusion.

The central bank noted that Kenya already has a high developed digital payment system and a high level of financial inclusion. They said that despite the ongoing work from international organizations, quote, on the global stage, the allure of CBDCs is fading. Press release noted that central banks which have rolled out CBDCs thus far have, quote, faced challenges that hampered implementation. In conclusion, the central bank wrote, implementation of a CBDC in Kenya may not be a compelling priority in the short to medium term. Significantly, Kenya's pain points in payments could potentially continue to be addressed

by other innovative solutions around the existing ecosystem. The central bank of Kenya will now continue to monitor developments in CBDCs to inform future decisions, but at the moment, there appears to be no interest in moving forward. Moving back to the West, however, in Europe, the European Commission is poised to release draft legislation on their digital euro on June 28th. The controversial CBDC had previously been removed from the executive body's agenda for this parliamentary sitting, but Commissioner Myreid McGuinness confirmed that she would be moving forward with the bill and sought to cover topics including privacy, distribution, and offline

transactions. At an event in Brussels, McGinnis said, quote, we're looking forward to presenting both proposals next week. The second proposal she referred to as a parallel law on the legal status of cash, which had previously been proposed as a ban on cash transactions above 10,000 euros. Now, two anonymous sources told CoinDesk that the CBDC had been specifically removed from the agenda following internal discussions earlier in the week, perhaps indicating some level of discontent with the introduction of a European CBDC within the parliament. The European Central Bank has, of course, been exploring the digital euro and its technical

specification for several years, and will make a decision towards the end of this year on whether or not to move ahead with the project. Reports indicate that the discussions around the digital euro have focused largely on how to mitigate risks to the banking system. Current suggestions are limits on individual holdings and refusing to pay interest to ensure that the CBDC does not compete with commercial bank accounts. This has led some parliamentarians to reportedly ask what the positive case for a CBDC actually is. At a meeting last week, European finance ministers met to discuss, quote, the importance of developing a compelling and clear narrative regarding what would be the added value of this development, and the difference it would make to the law.

of the citizens of Europe and to the commercial activity of businesses. If nothing else, this topic at least seems to indicate that the ministers are aware that the project would need public support to be worth doing. Marcus Ferber, economic spokesperson for the largest political grouping in the European Parliament's Economic Affairs Committee, said, quote, if we are just duplicating the existing payment infrastructure with the digital euro, I do not see a strong case. A lot depends on the details and precise design elements. He added that, quote, the European Central Bank and the European Commission have yet to make a clear and convincing case of why we need a digital euro. Big notions of monetary sovereignty do not cut it for most people.

Now, Anna Martin, the financial services officer at Consumer Lobby Group, the EUC, suggested last week that some of the objections to CBDCs may have been pushed by commercial banks who, quote, hate this project because it creates competition with their private payment methods. She added that, quote, the narrative is already floating around in the public sphere that it will not bring added value. If we have a public payment method, we have something which brings us additional privacy, we have something which brings us additional financial inclusion, and if we get this right, then we should go ahead. Now, to quickly sum up, I think the common theme here is that CBDCs have entered in what seems like a much, much more skeptical period. Of course, I was focused globally, not just on the U.S., but there have been

numerous presidential candidates now that have come out against a CBDC, most notably Ron DeSantis in Florida. Now, a lot of the anti-CbDC legislation that you've seen in the U.S. so far is just signaling, but it's becoming a political issue before it even has a chance to get off the ground. One might have always expected that given the US dollar's catbird seat in the global financial system, but it's interesting to see that skepticism start to permeate elsewhere as well. This is something that will definitely keep an eye on to see how it develops. For now, I appreciate you guys listening as always. Go subscribe to Bitcoin Builders if you haven't yet so you can hear those shows over the next couple days.

And I will be back at the end of this week with fresh breakdown content for all of you. Until next time, be safe and take care of each other. Peace.