What Is a Central Bank Digital Currency (CBDC)?

Central Bank Digital Currency (CBDC) is a new form of currency that uses an electronic copy or digital coin to reflect the virtual embodiment of a particular country’s or region’s fiat currency. It is centralised, distributed, and controlled by the nation’s responsible central bank.

CBDC differs from other currencies in that it supports innovative payment technology, in this case, a blockchain, in order to possibly enhance payment efficiency and decrease costs. While several countries are investigating the viability of developing and circulating CBDCs, no country has publicly introduced such a currency.

It is essentially a government-run and regulated database (or presumably approved entities in a private sector). CBDC is a permissioned database, which means that only authorised users may transact on the system. The centralised organisation in charge of the database may also prohibit transactions, reverse transactions, “freeze” assets, and blacklist addresses.

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The issuing country would most probably address the creation of a CBDC in quite diverse ways. Applications based on the concept might use blockchain or another distributed ledger technology (DLT). In the meanwhile, it might just be a centralised database. The blockchain-based ones, on the other hand, will employ a token or coin to symbolise the digital version of fiat money.

CBDCs are often presented as reengineered money built from the ground up by combining Bitcoin’s basic technology with distributed ledger technology (DTL). To maintain track of money, banks retain financial data in a ledger, such as how much money a customer has and what kind of trades they’ve done.

Instead of maintaining all customers’ financial data in one single database, DLT is made up of many replicas of previous transactions that are maintained and controlled by a distinct financial institution typically handled from the top by the country’s central bank.

DLTs keep a complete record of all transactions. Some countries, renowned for their massive surveillance infrastructure, may seek to use this financial data to keep a closer eye on their population.

CBDCs are more likely than decentralised cryptocurrencies to fulfil the objective of “banking the unbanked.” It enables any legal person to easily obtain a low-cost bank account in order to promote their financial inclusion.

Another advantage of technological improvements in the financial system is that, while a large amount of fiat currency is essentially numbers in a database, most of the structure is very old. Due to the present complex banking system, merely transferring money can take many days.

Because of the economic crisis caused by the COVID epidemic, it is clear that central banks must act more quickly. CBDCs may play a role in allowing central banks and financial institutions to execute fiscal policy adjustments more firmly than previously. A CBDC also makes it simpler for governments and central banks to detect fraudulent conduct.

CBDCs vs Stablecoins

Both are relatively similar in that they both symbolise fiat cash in the form of a digital asset.  They are, nevertheless, extremely different in several ways. Stablecoins are generally issued by a private company and function as a representation of fiat currency or another asset. Despite the fact that investors may redeem them for the value they indicate, they are not fiat money. CBDCs, on the other hand, are distributed directly by the administration as fiat money.

CBDCs vs Cryptocurrencies

CBDCs, as previously stated, are authorised by a central bank and are legal tender by the government. Users might relate them to banknotes, which serve as a unit of account, a mode of payment, and a store of value. Meanwhile, cryptocurrencies are not issued by governments and do not cross national borders. They have no need for authorisation, are untrustworthy, and are immune to censorship. Furthermore, there is no centralised organisation in charge of the network. Nobody has the authority to prevent an investor’s Bitcoin address from making a deal with another Bitcoin address.

While having the ability to reverse transactions or blacklist addresses might be beneficial, it is more practical to enjoy the benefits that a decentralised network like cryptocurrency can provide the globe.