Are Central Bank Digital Currencies (CBDC) the Solution or the Problem?

Data & Research / 04.08.2020

Central Bank Digital Currencies, or CBDC’s as people like to call them, have been all the rage at the end of 2019 and 2020. Multiple countries have shown interest in this special asset, while others have already acted upon it.

The most notable of these cases is the People’s Republic of China, whose central bank has already begun developing the digital Yuan and making plans to distribute it to large retail banks and tech companies within the country.

But many experts have started asking questions on what exactly these currencies will be designed for. Are they going to be just a ticket on attending the market hype? Or are they going to solve real problems for the average citizen? Maybe they will become problems themselves. Let us see what could happen with the mass adoption of digital currencies.

Impact on the FX market

Whenever we talk about digital currencies created by a central bank, we need to consider the local fiat currencies. The creation of CBDCs is most definitely going to affect the volume at which the local currency is being traded. The volume is the current most important aspect of a currency’s exchange rate compared to others for those who don’t know. Should the volume drop, it spells big trouble for the local economy.

Naturally, the Central Bank will tie the digital currency directly with the fiat currency, but that is not a big guarantee anyway. You don’t really see USDT being directly counted as a trading volume for the USD, do you? Even if a private company makes it, it is still tied to the USD. It is highly likely that every CBDC will be counted as a separate asset rather than an extension of the local fiat currency.

In fact, a few market analysts have referred to CBDCs as CFDs for fiat currencies, which is something quite hard to imagine. For those who don’t know what CFDs are, it may be hard to grasp the concept.

Basically, the analysts say that people will start trading contracts on the exchange rate of fiat currencies rather than the currencies themselves, thus massively changing how volume affects the market. This essentially means that a huge chunk of supply alongside demand will disappear from the market, leaving it much weaker than originally found.

Impact on the crypto market

In terms of cryptocurrencies themselves being affected, it’s a bit harder to say. On the one hand, we believe that there could be some serious campaigns by the government to convince people to avoid BTC as generally use their CBDC as a substitute.

This requires just one country to succeed in this campaign for others to follow. Considering that the first country that will try this is China, it’s highly likely that we will see more efforts like this.

The next argument is that a CBDC is actually going to help with increasing crypto trading volume. Many experts believe that traders will have access to crypto-assets with a lot fewer fees attached through CBDC. Right now, should a trader try to buy BTC with cash, it’s quite a hefty fee for service, sometimes ranging from 15 to 20% of the designated amount.

Sure it may not seem too much when people buy $100 worth of BTC, but it just becomes unsustainable when we reach higher numbers.

Overall, it mostly depends on how a government handles the promotion of its CBDC. If it focuses on making it the primary currency to use in its digital economy, cryptocurrencies will suffer immensely. However, if it uses the CBDC as a safer and cheaper gateway to cryptos, then it’s highly likely that cryptocurrency volume is going to skyrocket, presenting us with the largest market surge since 2017.

Ulterior motives

While some experts talk about the damage, CBDCs could cause to the local currencies, others worry about the people’s civil rights.

Many FX brokers have also remarked on this issue, mentioning that the local currency’s danger directly impacts the country’s economy and the future regulations that could be imposed to keep the CBDC in check. According to Axiory, an outspoken broker from those who commented on the issue, regulations on the CBDC may trickle down to the fiat currency and cause more and more government surveillance on the economy, which we all know is never something to look forward to.

Other arguments usually stem from civil rights activists concerning the traceability of the CBDC and its main motivation.

Many believe that the Central Banks want to push cryptocurrencies out of the market by painting themselves as more reliable versions of BTC or other popular currencies.

Considering the countries that have already started working on their CBDC, civil rights are not quite as farfetched as many believed. We can currently count the Petro as a CBDC made by the Venezuela government and the upcoming digital currency being developed by the Chinese Communist Party.

In the end, though, it is doubtful for CBDCs to be a kind gesture from the government, which is why we have so many “conspiracy” theories floating about.

Born in Bucharest, Marius is the founder of Crypto Adventure. Since his first contact with Bitcoin and cryptocurrencies, he never stopped believing that they are one of the most important innovations of our time, which will forever change the way business is done.