Historically, the value and trust of money has been tied to tangible physical assets, whether gold, silver, or government-issued paper money. These physical assets have been the basis for ensuring the value and stability of money. However, recent years have seen a radical shift in our relationship with money, as digital currencies have begun to gain increasing importance.
Digital transactions, online banking, and electronic payments have paved the way for this transformation, but the emergence of centralized digital currencies (CBDCs) and cryptocurrencies may represent the most transformative phase in this evolution. Cryptocurrencies, whether centralized or decentralized, are redefining the way we handle money, allowing us to conduct financial transactions faster, more efficiently, and more securely.
CBDCs and cryptocurrencies are new chapters in the story of money, offering new possibilities and new opportunities. CBDCs have shown the potential to enhance financial inclusion and improve payment efficiency, while cryptocurrencies have shown the potential to challenge traditional financial dominance.
A vital boost to economic growth and financial inclusion in the Middle East
Recent studies show that nearly two-thirds of countries in the Middle East and Central Asia are researching the possibility of adopting a central bank digital currency (CBDC) as a means of enhancing financial inclusion and improving the efficiency of cross-border payments.
However, its adoption requires careful consideration, as countries in these regions, which span a diverse range of economies from Morocco and Egypt to Pakistan and Kazakhstan, must assess their unique set of circumstances, including the size of their economy, level of technological development, and existing financial infrastructure.
Many of the 19 countries currently exploring the adoption of a centralized digital currency are in the research phase. Bahrain, Georgia, and the United Arab Emirates have moved to the âproof of conceptâ stage, the most advanced. Kazakhstan is the most advanced, having launched two digital tenge pilots.
Central bank digital currencies could help improve the efficiency of cross-border payment services. This appears to be a priority for oil exporters and GCC countries Bahrain, Kuwait, Oman, Qatar and the United Arab Emirates, as cross-border payments tend to face challenges such as diverse data formats, cross-regional operating rules and complex compliance checks. CBDCs that address these efficiencies could significantly reduce transaction costs.
Some countries have already introduced cross-border technology platforms to address these issues and promote cross-border digital payments. One example is the cross-border payments system âBunaâ, established by the Arab Monetary Fund in 2020.
CBDCs can also enhance financial inclusion by encouraging competition in the payments market and allowing transactions to be settled more directly and through fewer intermediaries, making financial services more accessible and cheaper. Unlike commercial banks, central banks can also help reduce costs as they are not concerned with profit. Similarly, increased competition in the payments market as a result of CBDCs can also encourage the modernization of technological platforms and the efficiency of payment services, helping to make financial services more accessible to more people. Countries in the Caucasus and Central Asia, oil-importing countries in the Middle East and North Africa, and low-income countries are showing particular interest in this potential benefit.
However, without addressing some of the barriers that hinder the increased use of digital accounts and payments, such as poor digital and financial literacy, lack of identity, distrust of financial institutions, and low wealth, the impact of CBDC adoption may be limited.
What about the risks?
CBDCs represent a significant opportunity to improve the efficiency and inclusiveness of the financial system, but they also carry some risks that need to be considered. Among these risks, CBDCs could erode bank deposits, as people may prefer to keep their money in CBDCs rather than traditional bank deposits. This could weaken banksâ ability to lend and provide economic financing, impacting economic activity.
In addition, CBDCs may increase cyber risks, as they could be targeted by cyberattacks. This could result in the loss of funds or disruption of financial services. Heavy reliance on CBDCs could also lead to the concentration of power in the hands of governments or central banks, potentially reducing individualsâ financial privacy.
Moreover, CBDCs may face challenges in integrating with existing financial systems, which could lead to difficulties in their use in daily transactions. Regulatory policies regarding CBDCs may also differ between countries, which could lead to complications in international transactions.
Finally, centralized digital currencies may impact monetary policy, as they could affect interest rates and inflation. Central banks may also need to develop new monetary policy tools to be able to manage centralized digital currencies effectively.
Is privacy at risk?
The adoption of central bank digital currencies represents a radical shift in the global financial system, as it entails a high degree of government control over citizensâ financial transactions. This control raises serious privacy concerns, as governments can track every transaction and collect vast amounts of granular data on individualsâ behavior, from spending patterns to places they frequent. This data can be used to build a very detailed picture of individualsâ lives, threatening their right to privacy. While some countries may be able to protect their citizensâ privacy through strict data protection legislation, this protection may be limited in other areas, especially in countries that do not have the same level of respect for the rule of law and privacy protection. In addition, the leakage or unauthorized use of this data could lead to serious violations of individualsâ rights.
UAE leadership in CBDC field
In this context, it is necessary to highlight the importance and role of the United Arab Emirates in pioneering everything new in the world of technology in general, and digital currencies in particular, by enacting laws and regulatory frameworks and supporting research and development in this field.
Regarding the UAEâs CBDC initiative, the UAE Central Bank signed an agreement in March 2023 with G42 Cloud and R3 to begin implementing the Central Bankâs digital currency strategy, one of the nine initiatives of the countryâs financial infrastructure transformation program. G42 Cloud was selected to provide infrastructure services for the project, while R3 will provide technology services.
These partnerships come after the success of central bank digital currency initiatives, including the âAberâ project with the Saudi Central Bank in 2020, the results of which confirmed the possibility of using the digital currency issued by the two central banks to settle cross-border payments. The project also received the âGlobal Impact 2021â award from Central Banking magazine. In addition to the pilot operation of the âBridgeâ project for digital currencies for cross-border central banks in cooperation with the Hong Kong Monetary Authority, the Bank of Thailand, the Digital Currency Institute of the Peopleâs Bank of China, and the Bank for International Settlements in 2022, through which real-value financial transactions were completed. These initiatives contributed to the Central Bankâs readiness to implement its own digital currency strategy.
The UAE Central Bank conducted the first cross-border digital dirham transfer using the central bankâs digital currency platform, mBridge, on January 29.
A cross-border central bank digital currency transfer worth Dh50 million ($13.6 million) was sent to China using the central bankâs multi-digital currency platform mBridge, according to Gulf News. The central bank digital currency transfer was conducted by the Chairman of the Board of Directors of the Central Bank of the UAE, His Highness Sheikh Mansour bin Zayed Al Nahyan, to mark the golden jubilee of the central bank.
According to a report by the Bank for International Settlements, about 90% of central banks worldwide are looking to adopt central bank digital currencies. Of these, 11 countries have launched a central bank digital currency, while 15 are in the pilot phase and 26 are in the development phase, according to the Atlantic Councilâs Central Bank Digital Currency Tracker.
CBDC and Stablecoins: Complement or Replacement?
The new digital financial system is being shaped by the rise of stablecoins and central bank digital currencies, each with their own unique roles. Stablecoins, typically issued by private companies and pegged to the value of a fixed asset, are the cornerstone of many decentralized financial systems. They offer high liquidity and ease of transfer, encouraging innovation in decentralized finance (DeFi).
On the other hand, CBDCs, issued by central banks, represent the next generation of money. They aim to enhance the efficiency of monetary policy, expand financial inclusion, and provide a safe and reliable means of payment in the digital age. CBDCs have the advantage of being backed by the state, which gives them greater public trust.
So, stablecoins and CBDCs serve different purposes in the digital financial system, and stablecoins are unlikely to âkillâ CBDCs.
Despite their differences, stablecoins and CBDCs can complement each other fruitfully. Stablecoins can serve as a means to facilitate transfers between different currencies, while CBDCs can play a key role in everyday payments. Stablecoins can provide greater flexibility in the design of financial products, while CBDCs can ensure financial and systemic stability.
Comparison between Bitcoin and centralized cryptocurrencies
Centralized cryptocurrencies differ from traditional cryptocurrencies like Bitcoin and stablecoins pegged to traditional currencies in several key ways.
First, CBDCs are issued by and supervised by central banks, while traditional cryptocurrencies are issued by decentralized networks and platforms. This means that centralized cryptocurrencies have greater support and legitimacy from governments, which may make them more reliable and acceptable.
Second, CBDCs are primarily used as a means of daily payment, while traditional cryptocurrencies can also be used as a means of investment and trading. This means that centralized cryptocurrencies may be more useful to people in daily transactions, while traditional cryptocurrencies may be more attractive to investors and speculators.
Third, central bank digital currencies have a higher level of security and privacy, as they are issued and traded on central bank networks, which have strict security measures, while traditional digital currencies may be more vulnerable to security breaches and cyber attacks.
Fourth, CBDCs are mostly used in developed countries, while traditional cryptocurrencies can be used in any country. This means that CBDCs may be more useful in countries with a developed financial infrastructure, while traditional cryptocurrencies may be more useful in countries with less developed financial infrastructure.
Fifth, central bank-issued digital currencies are an important tool for financial inclusion, as they can help provide access to financial services to people who do not have bank accounts, while traditional digital currencies may be less effective in this regard.
In conclusion, CBDCs differ from traditional digital currencies in how they work and their purpose. While CBDCs aim to promote financial inclusion and improve payment efficiency, they also face some challenges such as security risks and limited adoption.
Finally, financial inclusion is not just about having a bank account, itâs about ensuring equitable access to the global financial system. As the world faces a transformation in money, both central bank-issued digital currencies (CBDCs) and Bitcoin offer compelling visions of the future. While centralized digital currencies offer the potential to improve efficiency in the traditional financial system, Bitcoin offers an open, immutable, decentralized, global alternative that could reshape global finance with the potential to truly democratize financial access.
However, this shift raises many questions about the future of money. Will centralized digital currencies be able to achieve their goals of promoting financial inclusion and improving payment efficiency? And how can digital currencies like Bitcoin contribute to reshaping the global financial system?
These questions and many others open the door to discussion and analysis about the future of money in the digital age, and time may answer these questions!
