Cryptocurrency enthusiasts have been chattering for years about central banks, which they imagine can be replaced by Nakamotoan cryptocurrency. And central bankers have been chattering right back, laughing in the face of Nakamoto’s naïve acolytes. Whatever Bitcoin might be a solution to, it isn’t remotely similar to what central banks actually do. (Hint: issuing currency, to the degree that central banks even do that, is a minor technical feature of the overall activities.)
Now, this isn’t to say that central banks have no interest in digital currencies. Far from it. For one thing, the vast majority of all transactions are already digital already. So the Dollar, Euro, and everything else are effectively digital currencies, though obviously not Nakamotoan currencies.
So the question isn’t “digital or not”, it is “how to do digital?” Various blockchain technologies are being explored, though I haven’t seen any interest in Bitcoin itself.
This summer Nir Kshetri discusses “The Economics of Central Bank Digital Currency” [1].
Most central banks are researching digital currency options, and some are experimenting. To date, the only crypto based CBDC is the Bahamas “sand dollar”. Other banks are exploring Ethereum, Ripple, Hyperledger or other blockchain-y technologies. In addition, China, for one, is working on digital currencies not necessarily based on blockchains.
In general, any or all of these technologies could provide similar services. Above all else, a central bank backed digital system is vastly lower risk than privately owned systems or unowned systems such as Bitcoin. Granted, if you don’t trust central banks, you won’t trust CBDC.
Kshetri outlines the perceived benefits of this technology. Number one after trust has to be efficiency. Blockchain based systems replace a large and expensive infrastructure, and likely can achieve high performance, at least compared to conventional systems.
Another putative benefit could be wider financial inclusion. Ubiquitous digital networks may open the possibilities for underserved and unserved people. Of course, digital networks are not really ubiquitous, and access is hardly universal or equitable.
I’ll note, too, that regardless of technologies, inclusion depends on policies, in this case central bank policies. Financial systems have proved to be quite resistant to policies intended to expand access and equity.
Finally, Kshetri notes that CBDCs can be designed to combat crime. This is a two-edged sword, of course, because the same technology can be used to implement political control. Again, this is a matter of policy, not simply technology.
I’ll note a couple of other points.
First of all, I’ll note that the current financial infrastructure is absurdly complicated and mostly opaque. Rolling out a CDBC will take a lot of work before your local corner credit union and drug store are fully plugged in. And I shudder to think about all the software that may need to updated. It’s Y2K all over again.
Second, the infrastructure that is replaced by blockchain-y technology is a multi-billion dollar industry that employs many tens of thousands of people. The vaunted cost savings for the end points come at the expense of vast armies of middlemen. There will be significant economic displacement, and, I bet, political push back from the impacted interests.
Third, it is clearer every day that our ubiquitous digital infrastructure is highly insecure and vulnerable to catastrophic collapse. In addition to the flimsiness of the conventional software and hardware, the cryptography that underlies blockchains isn’t secure from quantum computers. QC may not be common for a decade, two decades, or more. But central banks need to be secure for centuries, not decades.
So I would hope that CBDCs would try to engineer far beyond today’s standards. For this reason, I wouldn’t just build something using any currently used technology, at least not without a lot of extra oomph added in.
And finally, let’s note that blockchain-y technology has been notable for its disastrous governance and poor standards of engineering. Bitcoin is still trying to deal with the relatively minor issue of data structures (block sizes) after many years. Ethereum broke in half when it had to fix a disastrous bug. CBDC cannot work this way.
So I would also hope that CBCDs would work hard to develop trusted engineering mechanisms that are responsive and reasonable. I.e., I would not use current cryptocurrencies as a model for engineering or decision making.
- Nir Kshetri, The Economics of Central Bank Digital Currency Computer, 54 (6):53-58, 2021. https://ieeexplore.ieee.org/document/9447413
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