Central Bank Digital Currencies (CBDCs) are being experimented with in various countries and regions around the world. The objective of creating a CBDC may differ from region to region. In some cases, CBDCs are created with the goal of entirely or partially replacing cryptocurrencies. For some, using government-issued currency eliminates the anonymity associated with cryptocurrencies.
Some countries may create CBDCs in order to keep up with the evolution of digital currencies. CBDCs are typically designed and issued by state-owned banks, most notably central banks.
The European Central Bank (ECB) is one of the central banks developing its own CBDC, dubbed the “digital euro.” As its name implies, the digital euro is the digital version of the euro.
This article provides insight into the concept of Central Bank Digital Currencies (CBDCs) while also comprehensively exploring the digital euro project, as well as its benefits and potential risks.
What is a CBDC?
Central Bank Digital Currency (CBDC) is the digital version of a fiat currency that is created by the government with the aim of enabling a digital version of cash and improving digital transactions in an economy.
The debate of whether CBDCs will eventually replace cryptocurrencies has ensued. Some believe that the introduction of CBDCs will result in more stringent regulation of cryptocurrencies in various regions. The decentralized element of cryptocurrencies makes them more attractive to users, who began utilizing them because of the government’s diminishing influence in that area.
The government-issued currency, CBDC, will impact different industries, especially the banking industry. The effects can sometimes be beneficial to the traditional banking industry. CBDCs may create avenues for commercial banks to develop additional products that benefit their operations and clients’ experiences.
In other cases, it may yield negative results for traditional banks. A retail CBDC model may result in commercial banks being disintermediated, i.e., removed from their role as intermediaries. The Central Bank can create an infrastructure that allows it to interact directly with clients, eliminating the need for an intermediary.
A more significant impact could be the migration of bank deposits (retail, SME, and corporate) from commercial banks to central banks. Customers may choose to keep their money with central banks because it is safer.
Since central banks are responsible for ensuring the stability of the financial sector, they would have an incentive to find ways to counteract the “liquidity” risks explained above, such as disincentivizing placing deposits with the central bank.
Different countries are currently developing CBDCs, while others, such as Nigeria, have launched operational government-issued currencies. Some countries are trying to replace crypto with CBDC due to the anonymity that the former offers its users.
Claims that cryptocurrencies are being used to launder money, finance terrorism, and engage in other illegal activities have fueled the debate over exchanging crypto for a regulated government-issued token.
For example, the Central Bank of Nigeria banned residents of the country from using the banking system to participate in cryptocurrencies, prompting the creation of its own CBDC, the e-Naira.
What is the Digital Euro?
The digital currency, also known as the e-euro, is a government-issued CBDC replica of euro notes and coins. It will be issued by the European Central Bank (ECB) and stored in a digital wallet created by the ECB.
It differs from traditional euro paper and coins held in commercial bank accounts.
The European Central Bank will interact directly with end users, eliminating the need for commercial banks to act as intermediaries.
As a CBDC, it is backed by the government and is subject to the same protective measures as the traditional fiat currency, the euro. It can be used to make swift payments and can be accepted by anyone. People will be able to access the euro more easily thanks to the Digital Euro.
The digital euro, like its counterpart, is currently in the experimental stage. Multiple tests will be performed on the currency to ensure that it is functional. It is unknown whether the digital euro will be built using blockchain technology.
Why Was the Digital Euro Project Created?
Like most CBDCs being developed, the digital euro is being created to make it easier for Europeans to access digital fiat currency and make payments. According to the President of the ECB, Christine Lagarde,
“Our work aims to ensure that in the digital age, citizens and firms continue to have access to the safest form of money, central bank money.”
Second, industries that do not have access to traditional payment solutions such as Mastercard and VISA can accept payments using the digital euro, also known as e-euro.
Third, the digital euro project was born out of political necessity.
With China working tirelessly on its digital Yen, other countries have recognized the need to develop their own.
This is done to reduce the possibility of people using the Chinese CBDC when conducting global trades.
What Are The Risks Associated with the Digital Euro?
The Digital Euro, like other CBDCs, bears certain risks that will be discussed below.
For starters, the government-issued currency may allow users to convert their digital euros into cash whenever they want.
People may rush to convert their e-euro into cash in banks if a crisis occurs, which could have a negative impact on the operations of commercial banks.
Second, the digital euro can potentially limit the influence of commercial banks. Individuals may choose to boycott commercial banks when sending and receiving money, which may have an impact on banks.
Will Banks Be Involved in the Digital Euro Project?
Because the digital euro has yet to be launched, relatively little is known about it, but commercial banks are expected to participate, according to reports.
CBDCs are issued by the Central Bank and, in some cases, eliminate the need for commercial banks. The purpose of the issuing agency determines how a CBDC operates.
Before issuing the CBDC to the public, the Central Bank may use commercial banks to test its effectiveness. In specific circumstances, the end users may be required to have a traditional bank account to be eligible to use the CBDC.
According to reports, commercial banks will participate in some aspects of the ECB. According to the chairman of the Digital Euro Association (DEA), Jonas Gross,
“The ECB released the report one year ago on their initial thoughts, and what we do know is that banks will be involved, so the central bank will not do all of it by itself.”
What are the Reactions to the Digital Euro?
There has been a flood of mixed reactions to the European Central Bank creating a digital euro project. The first school of thought believes that a digital euro will improve payment and competition in the payment industry.
Another school of thought believes that the digital euro project may not be necessary at the moment. According to Heike Mai, an analyst at Deutsche Bank Research, “Digital access to central bank money will hardly give the euro an edge in its competition with other currencies, be it the dollar or private global stablecoins.”
Will Digital Euro Replace Euro Notes And Coins?
According to the ECB, the digital euro is not intended to replace cash; instead, they will co-exist. They stated, “A digital euro would not replace cash, but rather complement it. A digital euro would give people an additional choice about how to pay and make it easier to do so, contributing to accessibility and inclusion. “
In Conclusion,
- Central Bank Digital Currency (CBDC) is the digital version of a fiat currency that is created by the government with the aim of enabling a digital version of cash and improving digital transactions in an economy.
- The digital currency, also known as the e-euro, is the government-issued CBDC replica of the euro notes and coins.
- The Digital Euro, like other CBDCs, has specific risks associated with it.
- The Digital Euro is not intended to replace cash; rather, they are designed to co-exist.
- It is unknown whether the Digital Euro would be blockchain-based.
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