2021 was a turning point for cryptocurrency. We’ve seen bitcoin hit an all-time high of $ 65,000 and the total crypto market cap hit the $ 2,000 billion mark in a matter of months. Along with massive corporate institutional buy-in, the biggest news for crypto comes from El Salvador, the first in a long line to adopt bitcoin as legal tender.
Amid the growing popularity of cryptocurrency, evident through the rapidly growing user base on crypto trading platforms like CoinSwitch Kuber, and the COVID-19 pandemic pushing the use of digital payments, banks Power stations around the world are exploring the digital currencies that can be issued by them. These are commonly called Central bank or CBDC digital currencies.
According to the Atlantic Council, a US-based think tank, 81 countries representing 90% of global GDP are exploring some form of CBDC. The People’s Bank of China (PBOC) has already launched a digital version of the Chinese yuan while central banks in Europe, the UK and the US are experimenting with pilots.
Meanwhile, Reserve Bank of India (RBI) Governor Shaktikanta Das recently announced that the Central Bank plans to launch its first digital currency trial program by December. “The RBI is studying various aspects of a digital currency, including its security, its impact on the Indian financial sector as well as its impact on monetary policy and the currency in circulation,” he added.
What is a digital currency? And why is this important?
Digital currency, in simple terms, is essentially the digital form of traditional fiat money. 100 held digitally, in an app or mobile wallet, equals 100 held in physical cash.
Incidentally, a CBDC is similar to how digital wallets work today. Under the new digital currency system, banks will issue a fixed amount of digital currency, without printing a cash equivalent, which can only be spent electronically. Besides the environmental benefits, it will reduce the costs of printing, storing and distributing banknotes.
Nonetheless, digital currencies are considered “distant cousins” to cryptocurrencies. Many crypto experts believe central bank adoption of “digital” currencies is a step in the right direction. They bring the benefits of virtual currencies such as financial inclusion by banking the unbanked. Additionally, digital currencies will transform payment transfers by making them transparent yet frugal.
James Pomeroy, global economist at HSBC, noted that CBDCs could “replace cash and transform the banking system globally within a generation. The benefits could include increased growth and reduced poverty in the emerging world. “
CBDC vs Cryptocurrency
Although the timing of the CBDC coincides with growing interest in cryptocurrencies, the digital currency RBI predicted is not the same as cryptocurrency. The differences are glaring in their current form.
Primarily, the first principles of a cryptocurrency are its independence and autonomy – no individual / entity controls it. On the contrary, CBDC will remain solely under the supervision of the central bank from its issuance to its follow-up. Additionally, a cryptocurrency like bitcoin is capped at 21 million coins, making it finite. However, the supply of CBDC, like any other fiat currency, can be increased indefinitely.
Another important characteristic of cryptocurrency is the technology that supports it. Blockchain, a distributed ledger recording transactions, ensures that the system is decentralized and secure against privacy intrusions. Meanwhile, it is not yet clear whether RBI’s digital currencies would be based on the distributed ledger format.
Are digital currencies affecting the future of cryptocurrency?
The writing on the wall is obvious. Cryptocurrency and its underlying technology will likely disrupt existing financial structures and are here to stay for the foreseeable future. Governments and regulators around the world are bracing for such a change. And companies are busy dipping their feet by adding cryptocurrency to their balance sheets. What remains to be seen, however, are the long-term effects of digital currencies.
Moreover, CBDC and Cryptocurrency today serve two very different purposes and there is little room for a clash. Bitcoin and other cryptocurrencies are increasingly seen as obvious digital investment assets with the rapid growth of digital exchanges and investors. One of the leading cryptocurrency exchanges in India, CoinSwitch Kuber alone is home to over a crore of users. On the contrary, the CBDC serves as a means of payment ensuring stability but lacks basic investment characteristics.
There is a growing consensus that the implementation of the CBDC will popularize the concepts of digital currency and wallets. This in turn will lower the barriers to entry of crypto assets for an average person and usher in a new era of crypto adoption among the masses.