The desire for money and its physical form are two factors that are essential to economic activity. The rise of Internet-based items and services in recent years has caused a paradigm change as the world’s transactions move into a digitally connected economy. The decline in the usability of cash in our digital economy is directly associated with the expansion of digital payment methods. A transition to online and digital commerce has helped businesses like PayPal, Stripe, Ant Financial, and Revolut become market leaders.
The most identifiable type of central bank money is cash, which may be used by anybody and is typically used for lower value transactions. The other type of central bank money is legal tender, which is a claim against the central bank and is issued by central banks.
Types of CBDC
There are primarily two types of CBDC being investigated globally:
- Wholesale CBDC
This kind of many is utilise by financial institutions to buy and sell financial assets.
- Retail CBDC
This kind of money is utilised to make purchases, transfer money to loved ones, and perhaps even get government subsidies and incentives.
Retail CBDC
A retail CBDC can only be used for electronic transactions and couldn’t replace cash or bank deposits. CBDCs, in contrast to reserves, would be accessible to individuals and organisations, enabling them to make payments using this digital form of central bank money. Normally, CBDCs would be valued in local money.
In contrast to commercial bank money, which is a claim against a commercial bank, CBDCs will represent a central bank obligation. In order to obtain and utilise CBDCs, consumers won’t require a bank account.
A CBDC can be issued by central banks in one of two ways. First, the central bank could release cryptographic tokens with attributes in common with bitcoin and other cryptocurrencies. Second, allowing currency traders to open deposit accounts with the central bank and utilize them to make the payments the same method they do with conventional deposit accounts at commercial banks could result in the creation of a CBDC.[1]
Benefits of retail CBDC:
Retail CBDCs have a range of potential benefits for monetary policy, international payments, and financial inclusion.
Faster and more effective cross-border payments are made possible via CBDCs.
Due to the complexity of cross-border payments compared to domestic ones, CBDCs facilitate global payments by providing more affordable transaction and storage costs and payments that are more dependable, transparent, and secure.
Furthermore, CBDCs can improve systemic effectiveness, strengthen payment infrastructure security, and provide greater protection against money-laundering procedures.
Additionally, CBDCs can enhance the channels used to implement monetary policy. For instance, central banks will have the ability to conduct policy-rate modifications more effectively and apply different interest rates to individuals and companies [2].
In particular, CBDCs can encourage financial inclusion. The usage of CBDCs for both domestic and international transactions will be available to people without access to standard bank accounts.
Risks of retail CBDC:
The major risk of retail CBDC is the crowding-out effect [3]. In other words, money may be transferred from traditional commercial bank deposits to CBDC deposits at central banks. This might cause commercial banks to receive less funding, resulting in limit the quantity of loans they can make, and potentially damaging the entire economy.
Another possible risk associated to retail CBDC is the increased size of central banks’ balance sheets following the introduction of CBDCs, which could have a negative impact on their risk exposures and profitability.