Central banks have no problem embracing the benefits of digital currencies.
Having a central bank digital currency (CBDC) could fully automate tax collection and make money laundering nearly impossible. At least in theory.
Governments around the world have committed teams and money to researching whether this is a technology they could, and should, implement. Early results suggest some central banks are more bullish on the prospect of CBDCs than others.
At the beginning of the year, Featurespace Founder David Excell predicted that many more central banks would begin testing regulated digital tokens in 2022.
In this article, Paul Evans one of Featurespace’s Subject Matter Experts, explores how far along some of the most influential central banks are in their testing.
The basics of CBDCs
Central Bank Digital Currency (CBDC) is self-explanatory once you examine the name It is a digital currency that only exists on digital devices, rather than physical notes and coins. Digital currency will be facilitated by technology that may be similar to cryptocurrency technology, for example as in the case with distributed ledgers and blockchain. The currency would be issued and controlled by a country’s central bank or monetary authority and linked to their fiat currency. Various reasons have been given for why many countries are exploring CBDCs, including cost and efficiency, as well as increased stability and control.
The promise of CBDCs, and the challenges they present
As fraud and financial crimes continue to flourish worldwide, central banks would love to find a way to track the whole-life transaction history of each unit of currency.
That’s a capability CBDCs give them. For example, if the currency was built on blockchain technology, then the central bank could know the “location” of every single unit of currency at any given moment, and there would be an incorruptible record of all past transactions. However, there is a desire for balancing this against privacy requirements, particularly in the US and anonymity is being explored by the EU based on value.
The potential for controlling financial crime is huge. For example, if someone’s money is stolen, then the bank could see the wallets that money moved to, work on getting it back and at the same time investigate the wallet owners. Another example could be visualizing flows of funds in relation to terrorism financing or organized crime.
But there are many, many steps to take before we can imagine such a world. As International Monetary Fund (IMF) Managing Director Kristalina Georgieva wrote in February 2022, introducing CBDCs anywhere involves:
- Having a team that’s willing and able to learn iteratively throughout the process.
- Public-private partnerships for building out the system’s infrastructure.
- New legal frameworks, regulations, and case law.
- Alignment with broader monetary policies.
Encoded in all these challenges are some unknowns. Case in point: Some strong data protection processes and standards would have to be introduced. A breach of CBDC data could be disastrous. How would the central bank, the government itself and partners in the private sector all work together to build the required level of data security? What levels of trust, or uncertainty, would need to be in place as a standard?
In the UK, Parliament’s Economic Affairs Committee spent months looking into CBDCs. In February 2022, that committee published its report, titled “Central bank digital currencies: a solution in search of a problem?”
That report highlighted two big security risks:
- The possibility that individual user accounts “could be compromised through weaknesses in cyber security.”
- The coin’s ledger could be a target for state actors, terrorist groups, hacking collectives or really anyone with the means to commit large-scale mischief.
Not every governmental organization is as uncertain as the Economic Affairs Committee in the UK, however. In the Caribbean, seven countries have launched CBDCs already. The Bahamas and Nigeria have, too.
Around the world, many more central banks are at various stages of testing and launching pilot programs to assess the viability of CBDCs.
Here are five countries worth keeping an eye on:
India’s Ministry of Finance & Corporate Affairs: Digital rupee is on its way
In February 2022, India announced that a digital rupee, India’s national currency, project was underway, and it would be launched sometime in 2022 or 2023.
“We see clear advantages in a central bank driven digital currency, because in this day and age, bulk payments happening between countries – large transactions between institutions and large transactions between central banks themselves of each country – are all better enabled with digital currency,” India Finance Minister Nirmala Sitharaman said in March.
Central Bank of Brazil: Look for a digital real soon
In September 2021, Fábio Araújo, an economist at the Central Bank of Brazil, told reporters [link is in Portuguese] that Brazil would complete initial tests of a digital currency in 2022 and that a rollout within two to three years seemed feasible.
That timeline may have since shrunk. In April 2022, ZDNet’s Angelica Mari reported that a pilot version of the digital real, a digital version of the Brazilian currency, would begin in Q4 2022. Furthermore, Mari has reported that the Brazilian senate passed a bill in April that provides a legal framework for the domestic use of cryptocurrencies.
Reserve Bank of Australia: Pilot projects are ongoing
Australia’s Reserve Bank has been proactive about assessing the potential benefits of a digital currency. Since 2020, it has collaborated with external researchers and other institutions on three CBDC-related projects:
- An ongoing investigation into tokenization.
- A proof of concept for issuing, settling, and repaying loans with CBDCs on the Ethereum network.
- A test to see whether several collaborating countries could issue multiple CBDCs on a shared platform to improve cross-border payments.
U.S. Fed: Taking a wait-and-see approach
In January 2022, the U.S. Federal Reserve Board published a discussion paper on CBDCs that also solicited input from the public. The paper argues that CBDCs “could provide a safe, digital payment option for households and businesses,” but the technology might struggle to align with monetary policy goals as well as the citizens’ privacy concerns.
The paper also makes clear that the Fed would not take steps to introduce a digital currency “without clear support from the executive branch and from Congress, ideally in the form of a specific authorizing law.”
At the March 2022 ACAMS Hollywood Conference for anti-money laundering (AML) professionals, blockchain and cryptocurrencies were a major topic of discussion. Reporting from the conference, Annegret Funke, Featurespace’s Interim Head of Financial Crime, writes that US policymakers are very conscious of the speed and ease with which digital currencies can move money, even if the Fed isn’t ready to move on a CBDC project.
European Central Bank: Digital public money is the path toward stability and cooperation
The ECB is in the middle of a two-year investigation of what design features a digital currency should have, or even could have.
While there will be no plans to realize a digital currency before the end of 2023, ECB executive board member Fabio Panetta argued in February that “CBDCs are necessary to preserve the role of central bank money as a stabilizing force at the heart of the payments system and to safeguard monetary sovereignty.”
What are the impacts for fraud and financial crime prevention?
With new CBDCs already being launched across the world, we need to stay up to date and be ready to analyze and detect fraud and financial crime regardless of the form the CBDC takes. It may not be that one solution fits all as some CBDCs make prevention easier than others, but we will need to adapt fast.
In April, Featurespace Subject Matter Expert Steve Goddard wrote that we are one step closer to a blockchain-powered network of global payments.
Look for more analysis of digital currencies from our team in the future.
In the meantime, you can read our full list of 2022 predictions here.