The ecosystem needed to deliver a thriving CBDC

When OMFIF, an independent think tank for central banking, economic policy and public investment, surveyed central bank decision-makers worldwide in 2023, respondents were asked to put a timeline on when their country would launch a CBDC. Over 40% predicted they would have a digital public currency by 2028, with a further 30% saying it would arrive within a decade.¹

Given those near horizons, there is much to be done – but not just by central banks. As a new report from OMFIF’s Digital Monetary Institute and G+D highlights, central banks will count on the collaboration and integral participation of a host of other key stakeholders to unlock the potential of a CBDC.

Wolfram Seidemann, CEO of G+D Currency Technology, certainly recognizes the scale of the opportunity – and challenge – that already exists for that CBDC ecosystem: “CBDCs would not only complement cash as a public means of payment, but they could also be a platform for innovation and form the cornerstone of an entire digital economy. If well designed and implemented, they can lay the foundation for the future financial system, enhance interoperability in the existing payments ecosystem, drive innovation and efficiency, and promote financial inclusion globally.”

To capture the zeitgeist of the CBDC ecosystem, the report canvassed the views of key figures across banks, merchants, payment providers, and tech companies on the best route to a successful CBDC. And the three fundamental questions they posed generated some revealing answers:

1. THE PLAYERS: Who should feature in a CBDC ecosystem and what role should each entity play?

The vast majority of central banks are exploring a hybrid CBDC model, where they provide the core CBDC platform and work with private companies on the numerous other capabilities that will be required – from payment enablement and the design of digital wallets to programmability. Among the contributors to the report, there was a broad consensus on who should participate in such a CBDC ecosystem:

• Central banks As the primary actors, they will provide a secure, resilient platform, issue the digital currency itself, and maintaining the integrity of the CBDC’s core system.
• Financial service companies and payment service providers Commercial banks are going to be important customer-facing parties for any CBDC. They connect to the central bank core system to verify and execute payments, distribute CBDCs, facilitate transactions, and provide e-wallets for digital currency.
• Technology providers  Tech companies will be called on to develop the core CBDC infrastructure for central banks, ensuring the safety, resilience, security, and scalability of CBDC networks. They will also enable new capabilities such as offline payments and programmability, while building interoperability between payment systems (both domestically and cross-border).
• Regulatory bodies  Governments and state agencies will provide the primary legal and regulatory frameworks for CBDC around issuance, usage, and privacy.
• Merchants, industry, and the real economy  As the enablers of transactions (whether online or offline), retailers and trading companies will play a crucial role by embracing payments in the new digital currency. They also stand to benefit from the new monetary system and related innovations, with opportunities for lower transaction costs and improved customer experiences.
  
  That ecosystem does not overlook the group that is arguably the most important of all and whose buy-in to CBDC will be vital: the general public. Their acceptance and use will depend on the fulfillment of some core promises of CBDC: reduced transaction costs, enhanced security, online/offline capabilities, improved efficiency, and ease of use. 

2. THE IMPACT: What impact can an effective CBDC ecosystem deliver and what innovations will deliver major benefits and efficiencies?

A CBDC-enabled payments ecosystem can provide a range of desirable aspects for businesses, citizens, and governments. Among many other deliverables, the stakeholders interviewed singled out five areas where CBDCs will have a major positive impact: programmable payments, enhanced security, offline payments, digital asset settlement, and more efficient cross-border payments.

Programmable payments A well-designed CBDC allows custom logic to be attached to payments, with a transaction automatically triggered by a pre-determined set of conditions or controlled by a smart contract. As well as adding new dimension of convenience to payments, programmability can reduce costs and errors while enhancing efficiency and security. Such a mechanism can also enhance machine-to-machine payments, opening up new areas of economic activity. 

Enhanced security access and inclusion Among the more important qualities of a CBDC is its high level of security. The technology behind CBDCs can offer robust encryption and data integrity features, making transactions resistant to fraud and tampering. It is possible that the implementation of CBDCs will come in parallel with the implementation of modern, robust digital identity protocols. This would lead to more efficient know-your-customer processes, while still maintaining users’ privacy. Simplified financial checking and onboarding can also enable greater financial inclusion. For many people around the world, the biggest barrier to accessing financial services is an inability to provide the identity verification required.

Offline payments For CBDCs focused on improving inclusion, an important and technically challenging consideration for ecosystem members is offline use. A CBDC design needs to include offline functionality for authorizing transactions even when there is no real-time connectivity to the payment processor or central authority. This requires the use of offline transaction validation mechanisms that can process transactions using the limited data and resources available offline. With its Filia^® solution, G+D has set out to enable secure, consecutive dual offline payments, recognizing that these are pivotal to the success of a CBDC. 

Digital asset settlement As more and more assets are represented as digital tokens, CBDCs can provide a secure and highly efficient means of reflecting the ownership and settling the delivery of digital assets using central bank money. The embedding of smart contracts within such assets also promises benefits such as the automation of life-cycle payments and restrictions on the eligible holders of assets.

Cross-border payments CBDCs have the potential to dramatically improve cross-border payments, reducing costs and removing many operational inefficiencies from international trade. As the report highlights, multinational companies are, by their very nature, cross-border, and a CBDC should be able to deliver an efficient foreign exchange solution that would enhance cross-border flows. The value that businesses can derive from free, instant cross-border payments in central bank liabilities is clearly going to be substantial.

3. PRACTICAL CONSIDERATIONS: What will be the practical considerations faced by public and private entities as they come together to build a CBDC ecosystem?

Building a robust CBDC ecosystem involves multiple, often complex considerations. Technical and design aspects – such as interoperability with existing payment systems, scalability, app design, and cross-border connectivity – are all crucial. Additionally, financial and payment service providers and merchants will need to be appropriately incentivized to ensure they are committed to fully engage within a CBDC ecosystem. Moreover, the effective communication of the benefits of CBDCs to business users and the public is vital for broad, successful adoption.

The feedback for contributors to the report was that CBDC deployment must evolve within existing payment networks rather than revolutionize them entirely, avoiding fragmentation and ensuring interoperability through standardization and regulatory consistency.

Understanding user behavior through exploratory research is also crucial for building trust and driving adoption of CBDCs. Governments can clearly play a pivotal role by adopting CBDCs across their numerous payment systems. Additionally, large-scale pilot programs can provide valuable insights into CBDC feasibility and benefits, ultimately encouraging ecosystem members towards deployment.

G+D: fueling the vision

For many central banks around the world, that deployment is now under careful consideration. It is also becoming clearer how all players stand to benefit from active participation in a CBDC ecosystem, with their collaboration likely to be a determining factor in realizing the full potential of a CBDC. Whatever their perspective, ecosystem participants will have to collaborate and communicate to ensure alignment of CBDC aims and incentives, argues the report. At G+D, we are convinced that CBDC needs a complete and robust ecosystem to realize its full potential, and we are collaborating actively and widely to help deliver on the vision for state-backed digital currencies around the world.

Published: 05/03/2024