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Explained: What is CBDC and why are governments backing it

Explained: What is CBDC and why are governments backing it
Photo Credit: Pixabay
22 Aug, 2022
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Reserve Bank of India (RBI) is planning a phased rollout of a government-backed digital currency or Central Bank Digital Currency (CBDC) during this fiscal year, Business Standard reported citing sources. The report said that initially, CBDC will be available only to wholesale businesses. 

If you are interested in CBDCs here are some interesting facts about them. 

What is CBDC and why are governments pushing for it? 

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As the name suggests, CBDC will be issued and regulated by the central bank. It is being launched to counter the growing influence of cryptocurrencies across the world. Central banks across the world believe that cryptos can destabilise markets. RBI governor Shaktikanta Das recently called them a “clear danger” to India’s financial stability and has advocated for a complete ban on them. 

How is CBDC different from cryptos? 

A typical cryptocurrency is based on a decentralised public blockchain network governed by a set of protocols. Transactions are validated by a bunch of validators who stake their cryptos in proof of stake-based cryptos or mine new cryptos in proof of work-based cryptos like Bitcoins. No single central authority like a Central bank or private company can regulate or control these networks. That is where CBDC comes in. They can be traded and owned like cryptos but may not necessarily be based on a blockchain. China’s CBDC is reportedly based on blockchain. Unlike cryptos, blockchain-based CBDCs use private blockchain network where one central authority will control the network. Transactions will still be validated but only by authorised entities. Banks can also see who owns how many CBDCs. 

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Is CBDC better than cryptos for investors? 

One of the challenges of cryptocurrencies from a law enforcement point of view is the anonymity it provides to crypto owners. Many governments have argued that cryptos are being used for money laundering and funding terrorist activities. There has also been an increase in crypto-related scams where fake crypto is launched to trick gullible investors. A CBDC launched by the government provides investors with an alternative that is reliable and protects them from seismic risks that come with cryptos. 

After the crash in the crypto market in May, the value of Bitcoin fell under $30,000 for the first time in 10 months. According to CoinMarketCap, the crypto industry lost close to $800 billion in market value in a month. 

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What are the other benefits of CBDCs? 

Experts believe CBDCs can help in achieving financial inclusion as it doesn’t require users to own bank accounts to hold cryptos. Interoperability between CBDCs can also speed up cross-border payments by reducing the number of intermediaries required to approve the transactions. 

Which other countries are into CBDCs? 

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Like India, the US is also planning to launch a CBDC, which would be interoperable with CBDCs issued by central banks in other countries. Russia too has started tests of its CBDC and is expected to launch it in 2024. 

Among countries where CBDC has already in circulation, Nigeria’s eNaira has already seen transactions worth $10 million and the creation of 270,000 active wallets since October 2021, according to a report in the Financial Express. China’s digital Yuan has also generated a lot of interest from investors. According to a November 2021 report by Reuters, 140 million people opened wallets for it as of last October and made transactions worth $9.7 billion.