For years, people have used different commodities for commerce, usually gold and silver coins, before transitioning to paper money, a concept that evolved from promissory notes with which you could acquire a certain number of coins. Today though, banknotes are becoming less and less prevalent, having been transferred to a digital form we all use, the credit card. But technology evolves, as it always does, and it is perhaps time we ditch paper in favor of ones and zeros.
What does this mean?
On the 2nd of October 2020, the European Central Bank published a report on the digital euro, emphasizing the importance of such a concept, as “new technologies and the increasing demand for immediacy from consumers are changing the way European citizens pay”. And while the report says it is too early to settle on a specific design of the currency, it is on the way, and ECB and other national banks are exploring the possibilities of such a concept.
Now, before all of that, you may ask yourself, what is a digital currency and how it works?
A Central Bank Digital Currency (CBDC) is a digital currency still in development, proposed by a central bank. It was inspired by blockchain-based cryptocurrencies, just as we have the ICO, and it aims to provide a centralized digital means of transaction. It is a high-security digital instrument, and just like paper money, has unique identification so to avoid counterfeiting.
So, what’s the difference? Isn’t it just money on a credit card?
Well, not quite. Credit card cash must be backed by physical, paper money, and CBDC aims to become its own fiat currency (a free-floating currency on the international market). While bank accounts are universally accessible and electronic, CBDCs benefit from being the liability of the central bank, having the potential to avoid local financial vulnerabilities. And the main difference between CBDC and cryptocurrency is regulation and control. A centralized currency is issued and regulated by a bank, a central authority, and enjoys more legal privileges than a decentralized currency.
What are the advantages?
As we said, one of the major advantages of this type of currency is its legal status and privileges over crypto, such as CBDC having legal tender status. It could lead to greater efficiency through direct payments, without an intermediary, which can help to reduce the risk for the merchant, reduce complexity and bureaucracy of the financial apparatus, and could potentially eliminate transaction fees issued by banks.
Another key advantage of such a currency is the prevention of illegal activities through the tracking of the flow of money and their location, helping to make tax evasion and money laundering more complicated.
For the individual, it could help them transfer money more safely (since security is a big concern for the ECB) and ensure the preservation of their income.
But what are the disadvantages?
Do you know about the recent dollarization trend? How does the dollar substitutes other currencies in certain parts of the world? This is another concern over the digital currency since it could replace other means of transaction and potentially even the paper Euro.
But the main disadvantage everyone is concerned about is the potential security risks this currency could have. If the system is centralized, it means that it can be infiltrated and have its digital infrastructure compromised. Another concern is the amount of control the central banks could exert over the accounts, potentially being able to add or remove money. This can be countered by decentralizing parts of the system, so that accounts are safe and cannot be exploited, like cryptocurrencies with a distributed ledger such as Bitcoin, where only a group of users controlling more than 50% of mining power can act. These two examples are incompatible in this context since CBDCs would potentially not be based on blockchains, but it provides an idea of the possible outcomes.
So, any prototypes?
Well, not yet, but this year the ECB will launch an investigation stage for designing the key features of the digital euro. The central bank wants the currency to be easily accessible, safe to use, and in compliance with privacy legislation.
What are the conclusions?
While we like to be optimistic about what would happen, we are uncertain. A digital euro could provide a useful means of transaction for European citizens as well as international ones, but it can pose great security and privacy risks. Nevertheless, it would be an innovation for the economy, forging our way into the future. But, until then, we invite you to our platform, genius-assets.com, to enter the crypto and digital assets world. Be prepared!