CBDC city skyline

China and Cambodia are rolling out central bank digital currencies, which could provide a global blueprint for domestic transactions and cross-border payments. 

digital yuan

The digital yuan has trialled successfully in Shenzhen

The creation of China’s central bank digital currency (CBDC) has been a steady, step-by-step journey. For a country renowned for its innovation in digital payments — a move that has been largely driven by private companies — it was perhaps inevitable that the central bank, the People’s Bank of China (PBOC), would become involved. 

In 2014, the PBOC created its initial technical study group on digital currencies and electronic payments. Then, in 2017, it formally announced its research into digital currencies before beginning its first e-yuan trials in 2019. These experiments were extended in 2020 to several major cities including Shenzhen and Chengdu, with plans to conduct tests in Beijing ahead of the city hosting the Winter Olympics in February 2022.

There was strong demand among consumers, with two million residents of Shenzhen applying for a share of Rmb10m ($1.5m) during the e-yuan pilot scheme. The PBOC distributed Rmb20m within the city through a lottery system as part of a week-long trial in February 2021. In all, around 4750 residents were given Rmb200 to spend in stores. In addition to these trials, online retailer JD.com announced in December 2020 it would accept payment in the currency as part of a pilot scheme in the city of Suzhou. 

This announcement should give the e-yuan quite a boost, according to Kenny Liew, telecoms, media and technology analyst at Fitch Solutions. He says: “Having such a large online marketplace accept digital yuan will broaden its appeal. More people and merchants are now trialling the currency, and the central bank can test the waters and see whether the currency integrates well with existing retail platforms in a live environment.”

If anything, CBDCs are a threat to existing payment platforms like Alipay and WeChat Pay

Kenny Liew, Fitch Solutions

He adds: “If anything, CBDCs are a threat to existing payment platforms like Alipay and WeChat Pay [owned by Tencent, which also holds a share in JD.com]. But it is also quite early to speculate, given that CBDCs will likely co-exist within these platforms.” 

Getting ahead

Online retailers becoming early adopters of the e-yuan is interesting, as their market dominance helped to drive its creation. Seeing the growth of payment apps, such as Alipay and WeChat Pay and other digital currencies, concerns arose within the formal banking sector about what was happening in parts of the industry they did not control.

Fern Wang, director at S&P Global Ratings in Hong Kong, says: “By becoming the first major economy to launch its digital currency, China is hoping to set the international standards on CBDCs and boost internationalisation of the renminbi. Facebook’s announcement about launching its stablecoin, Libra [recently renamed Diem], in 2019 attracted many central bankers’ attention as its potential wide adoption could affect the effectiveness of monetary policy and impact financial sovereignty. The PBOC has also expressed concerns about Libra, which might have pushed forward China’s digital currency timetable to ensure an effective control of its financial system and monetary policies.” 

Fern Wang_SPGR (1)

Fern Wang, S&P Global

Chan Kung, founder of China-based think tank Anbound, says that while the goal of tackling the growth of domestic digital payments may be part of the PBOC’s motivation, there are more pressing considerations. “There is the worry that the Chinese market is being eroded by international digital currencies,” Mr Chan says. “I personally believe that this is the main driving force of China’s official development of the digital yuan. It is not mainly out of financial considerations. Instead, the main reason is due to the defensive mentality of the financial industry and political considerations.” 

The PBOC has taken preventive measures against the infiltration of retail cryptocurrencies, as the legal bill drafted in October 2020, which outlined that the renminbi exists in both physical and digital formats, also banned individuals or organisations from creating or issuing their own digital currencies. In effect, this would make developments such as Facebook’s Libra illegal within China. 

Questions remain 

Although the developments look positive for the e-yuan, there are some concerns about the final form the currency will take and how widely it will be used. 

Mr Chan says there are several issues that still need to be addressed. “Electronic payments [made with] digital currencies [are not] anonymous and contain personally identifiable information,” he says. “The move to a digital currency has a great impact on China’s ageing population, and is closely related to the use of mobile phones among the elderly. Also, when the phone runs out of battery, one will be unable to use the digital currency.” 

Despite the early trials among consumers, Fitch’s Mr Liew cautions that an ultimate use case of the currency has not been established. “Ultimately, the final form of CBDCs remains to be seen. They can end up being wholesale-based and only for commercial banks to use to transact with the central bank, or they could be democratised and used by private individuals,” he says. “At the same time, a CBDC could rely solely on central bank systems, or it could rely on a semi-decentralised ledger technology.”

Whether or not the CBDC will impact on consumer spending habits remains to be seen. Ms Wang says: “The main aim for digital currency is to substitute ‘M0’, or cash. While a digital renminbi might bring more competition with the third-party digital payment platforms, at this stage we don’t think it could take away substantial market share from them. In our view, these third-party payment platforms have built a robust and comprehensive ecosystem around them over the years and thus have strong user ‘stickiness’, which would take time and investment to replicate.”

There is also some debate over the true nature of the e-yuan. Taimur Baig, chief economist at DBS, says: “What China is doing is not really a true digital currency. In many ways, they are just trying to retain oversight on transactions. It is closer to a digital clearing house. At the end of the day, it is still a fiat money system.” 

Cambodia’s digital progress 

Elsewhere in Asia, another central bank has been testing out the development of its own CBDC, albeit with less international fanfare than China. In October 2020, the National Bank of Cambodia (NBC) launched its Bakong digital currency. 

Bakong allows customers of its 21 financial institution members to make cross-institutional funds transferred in real time with either the Cambodian riel or the US dollar. The system has been designed to allow banks access at a low cost, making it an attractive way to open up banking to the country’s vast unbanked population — at present, just 20% of Cambodia’s 16 million residents hold a bank account. 

Nimol Roeun, business analyst lead at Bakong, explains that the system was developed with distributed ledger technology to improve on the cost, speed and security of transactions. The computers, known as nodes, which the core is installed on, operate in a closed-loop infrastructure located within the NBC, and are shared through a payment gateway. 

[Cambodia's] system will use blockchain technology, which sends the funds directly to the recipient’s mobile phone, circumventing the [traditional] banking system

Taimur Baig, DBS

There are also monetary policy benefits. “Project Bakong is likely to have moderate impact on the central bank’s monetary policy and financial stability because money in circulation [both riel and US dollar] will still be managed by the NBC, provided that Bakong is pre-funded by fiat money through banking institutions and payment service institutions or agents. The national bank can collect physical cash and create electronic money in the financial system. In doing so, the national bank can conduct its monetary policy through the change in the amount of the electronic money in circulation.” 

Bakong will also help the NBC to conduct foreign exchange policy to stabilise exchange rates, Ms Roeun says, as the data created within the Bakong system will enable better forecasting of demand for local and foreign currencies. This foreign currency factor is particularly significant to NBC, as it looks to provide access to the Bakong to Cambodians working overseas. 

“The NBC wanted a solution where overseas Cambodians can send money back home without incurring huge transaction costs, and to help the unbanked to access digital banking. This sort of solution requires a whole-system approach, with a clearing house overseen by the central bank,” Mr Baig says. “The system will use blockchain technology, which sends the funds directly to the recipient’s mobile phone, circumventing the [traditional] banking system.” 

Boosting domestic currency 

Although the two CBDCs have been established with different use cases in mind, they both have the end result of boosting the profile of their domestic currency. 

The US dollar is the dominant currency in Cambodia — something the central bank wants to change. Mr Baig says: “Around 78% of domestic transactions in Cambodia are still carried out in dollars, so having more funds held in riel would help to boost credibility and the ability to grow reserves with an independent monetary-fiscal policy. The challenge for Cambodia is leapfrogging into the modern world and having a large, fast payments settlement system that is not encumbered by the fact the population is underbanked and not using the local currency to a high degree.” 

Photo_AliciaGarciaHerrero_001 (small)

Alicia García-Herrero, Natixis

Ms Roeun says the plan is to extend the reach of the currency. “Currently, the NBC is implementing a cross-border fund transfer project with Thailand and Malaysia by using Bakong as the backbone. Also, we are implementing the KHQR project [a payment system based on QR codes] by using Bakong as a payment hub. KHQR uses the Europay, Mastercard, and Visa standard QR code, which can be scanned by all financial institutions.” 

Renminbi's global aims

For China, there is the prospect of boosting the renminbi’s global profile. Despite attempts to push the currency for trade transactions and as a reserve currency, it has not managed to break past the dollar or euro. However, the advent of the digital currency might herald a change, as the PBOC established a joint venture with Swift in February 2021 to explore the scope of the currency. 

Alicia García-Herrero, chief economist for Asia-Pacific at Natixis, says a major drive for China was to disengage from what she terms the “impossible trinity”. “In other words, to break away from the idea that China needs to keep visible capital controls to control the currency developments and that will prevent China from developing an international reserve currency,” she explains. “More generally, the development of the digital yuan can help facilitate cross-border use of the renminbi, while still keeping control of the capital account.” 

Mr Baig says it is also possible that the use of Chinese technology could help with the expansion. “There are possible scenarios of traders overseas who have a Huawei phone with a renminbi wallet pre-loaded. If they have bought something in China they could pay in renminbi through the e-wallet, rather than having to make the payment in dollars. This could be a way to greatly increase the acceptance of renminbi internationally,” he adds. 

Ms García-Herrero says: “The whole idea is to be able to expand the use of the renminbi as reserve currency, especially for payments, but also investment and funding without losing control or information on the origin or the destination of the flows under a centralised ledger. This overcomes the weaknesses of cash as a vehicle for unrecorded capital outflows.” 

Ultimately, the digital yuan needs to be widely accepted. As with Cambodia, there are already efforts being made. “China can apply pressure for this to be the case, and working groups with [central banks] the Bank of Thailand and the Hong Kong Monetary Authority are showing the direction. But wide acceptance might not be so easy,” Ms García-Herrero says. “The good news is the US dollar weaponisation may create the demand for renminbi as an alternative in targeted countries to avoid US dollar extraterritoriality.”

As this may also impact Cambodia’s use of the dollar, it could, in turn, inadvertently help to promote the use of the CBDC domestically.

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