CBDCs Are Going to Disappoint

The world’s first central bank digital currencies (CBDCs) outside mainland China will start arriving in 2022. Indeed, a couple, like the Bahamas sand dollar and the Nigerian eNaira, have already arrived. And people should have appropriate expectations, because these early CBDC pilots are going to disappoint central bankers, blockchain enthusiasts and, most likely, end users as well.

While CBDCs are pitched as a kind of safer, government-backed alternative to fiat currency stablecoins, they are not going to arrive in any form that looks remotely familiar to existing stablecoin users. To start with, they are unlikely to arrive on a public blockchain. That means you won’t be able to exchange your eNaira for a CryptoPunk or park it in a deposit contract on-chain to earn interest.

Paul Brody is EY's global blockchain leader and a CoinDesk columnist. This was a guest article excerpted from The Node, CoinDesk's daily roundup of the most pivotal stories in blockchain and crypto news. You can subscribe to get the full newsletter here.

Indeed, early CBDCs will not be programmable in any way. It will not be possible to use them in smart contracts as part of any decentralized finance (DeFi) ecosystem. Central bankers, wary of the big systemic technical risks that could come from a programming flaw in a national currency, are unlikely to enable Ethereum-style complex smart contracts.

Without programmability or access to a public blockchain, existing stablecoin users are unlikely to be won over or to see the value proposition at all. But CBDCs could still be attractive, if they manage to solve interoperability issues between countries’ financial systems.

Non-blockchain-using consumers are also likely to be disappointed in many cases. In designing CBDCs, central banks are struggling to balance the convenience of cash, pledges to respect end-user privacy and a strong desire to limit money laundering and criminal activity. Central banks are already discovering how difficult balancing these requirements is likely to be. Nigeria’s eNaira system, for example, requires you have an existing bank account in order to open an account.

Going through the existing banking system takes care of know-your-customer (KYC) rules enforced by global regulators.

Nigeria’s solution is fast and elegant, but has limitations. Specifically, transactions can be tracked (though that’s not necessarily the case), and because it requires an existing bank account, the currency does nothing to “bank the unbanked.”

Similar limitations will likely affect all CBDC prototypes and will have to be addressed to scale these systems or make them attractive alternatives to stablecoins or other quasi-banking apparatuses.

At the consumer level, CBDC experiments in 2022 will offer functionality comparable with familiar consumer payment services – only run directly by the central bank. However, as central banks are not historically known for their consumer services, this may not produce the most compelling user experience. That’s me being understated and diplomatic.

See also: Universal Stablecoins, the End of Cash and CBDCs | Opinion

A lack of polished user interfaces or sophisticated KYC tools (necessary in consumer banking) would not be an issue at the wholesale level. But wholesale CBDCs face numerous competitors. There are already real-time payment systems in the world, and so if a CBDC isn’t programmable, the functionality and value proposition is the same as established payment rails.

There is one final opportunity for CBDCs to make significant progress: tying together various national payment systems. While a very large number of countries have already deployed in-country real-time payments, there is no comparable cross-border system. The largest cross-border payment network is estimated to settle more than $400 billion in daily transfers between member banks.

So far, there is no one central bank that has a natural claim to facilitate transfers between countries. This market is up for grabs and could be completely transformed if CBDCs become widely deployed and interoperable. For that to happen, however, there has to be CBDCs deployed at scale in multiple countries.

The views reflected in this article are my own and do not necessarily reflect the views of the global EY organization or its member firms.