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Can digital currency sustain the test of technology and costs?

Generations over a period of time moved from a metallic currency to coins and then to paper notes which ultimately got legalized in the form of Cash (i.e. Govt printed bank notes) issued by the Central banks of the respective countries. That was continuing till this age and a breakthrough was brought in the form of bitcoins and Distributed ledger technology, with the virtual currencies all around. However due its very nature of not being supported by any physical commodity, but by faith of its holders - many of us are still waiting for it to be legalized. While the commodity-based currency vs the virtual currency pros and cons are still being debated globally, the Central banks are acting swiftly to bring us the best of both worlds with the sovereign currency or what we also term as CBDC – Central Bank Digital Currency.

It brings in sovereign unit of account (digital currency) which serves both as a medium of exchange and to store value. Digital money/e money includes money exchanged among us against the deposits of the financial institutions at the central bank. We can in short consider it as digital form of fiat currency handled via centralized ledger. It will be owned by the Central bank which will provide access to multiple parties and facilitate to share and record transactions. Globally, there are several usecases already in play, for central bank digital currency involving merchants and government payments, what is intriguing, is how to solutionise with affordable technology. Keeping in mind one of the aims behind is to further financial inclusion and reduce costs at the same time, we must find a way to ride on existing Banks financial & technical infrastructure.

Can we avoid the blockchain technology for the CBDC? What could be the alternative then?

Yes. CDBC are not cryptocurrencies. This is because cryptos are mostly decentralized where CBDC are controlled by central bank. So, the blockchain principle of no single user controlling does not apply here. Blockchain uses PKI infrastructure for high security. However, there are also alternative server side and client-side digital certificates which serve the PKI purpose. For all practical purposes blockchain has scalability issues with the increasing number of nodes. The alternatives are usually centralized ledgers and databases with cloud storage. Reason being decentralization adds an overhead to maintain multiple copies of data and to ensure consistency. Moreover, cloud providers are now a days offering centralized ledgers with verifiable audit trail without involving the complexities of blockchain or distributed ledgers.

Functionally the approach can vary globally on whether it is a direct or indirect or hybrid model to launch CDBC. However, what comes commonly is one real account (governed by central bank or managed decentrally by various banks) and several digital wallets to handle the usage of the digital currency. The usage of digital wallets will have to deduct the real account balance parellely along with the digital wallet money. At the same time the transaction limits and balance limits will have to be validated. This resonates with the way traditionally banks are handling virtual accounts. Going by both functional and technical angles, the CBDC is well sustainable and can be implemented with not much major changes to existing Banks cloud-based infrastructure and technology. Not to forget there are additional complexities when we have to deal with cross border transactions and related exchange rate conversions, it’s too early may be as of now. But will end with a positive note, that this is going to be the future and will also reduce the turnaround time for global payments.

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Pooja Golakonda

Pooja Golakonda

Lead Consultant

Edgeverve

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Bengaluru

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This post is from a series of posts in the group:

Banking Strategy, Digital and Transformation

Latest thinking in respect to Banking Strategy, Digital and Transformation. Harnessing our collective wisdom to make banking better. Ambrish Parmar


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