Digital currencies are on the rise in popularity these days. In 2020, only 35 countries planned to shift to Central Bank Digital Currencies (CBDCs). With governments and people starting to accept the new mode of making transactions, by March 2022, nearly 87 countries/territories are considering issuing digital currencies. Out of them, about nine countries have already launched their centrally governed digital currencies. With these digital currencies gaining huge demand, it is vital to know what are CBDCs, and how they work. Let’s find out everything about CBDCs in this article.
What is a CBDC?
In simple terms, Central Bank Digital Currency or CBDC is a virtual currency which is backed and issued by a central bank. Many governments are turning towards this type of currency to promote financial inclusion and simplify fiscal policy implementation.
Types of CBDCs
These central digital currencies are divided into two types depending on the purpose. One being wholesale CBDC used primarily by financial institutions and other is retail CBDC used by consumers and businesses.
#1 Wholesale CBDCs
The wholesale type can be exchanged and traded between central and private banks. It helps in streamlining payments between these institutions, enabling faster cross-border transactions, and reducing liquidity risks.
#2 Retail CBDCs
In simple words, retail a retail CBDC is digital currency that an everyday citizen will use, for e.g., to pay for groceries, etc. It is digital money for ordinary people to make daily transactions eliminating intermediary risks. The retail CBDC is further divided into two types: Token-based and Account based.
- Token-based retail CBDC: They are accessible with private/public keys, allowing users to execute transactions anonymously.
- Account-based retail CBDC: These types need digital identification to access an account.
Most people confuse CBDCs with cryptocurrencies, but both are quite different. There are three main key differences.
CBDCs vs Cryptocurrencies
- Cryptocurrencies are decentralized in nature, while CBDC are centralized (because they’re issued and backed by the central bank of a country/territory).
- CBDCs are created by central banks, while cryptocurrencies enable users to create money with the help of a consensus algorithm.
- Cryptocurrencies are a private currency, while CBDC is a legal tender used in the country.
Advantages of CBDCs
- Supports financial inclusion
- Fast and more efficient than fiat currency
- No need for a bank account
Disadvantages of CBDCs
- There will emerge competition between banks
- Requires digital literacy
- It may affect the foreign exchange markets
Also read: Top Cryptocurrencies to Invest in April 2022
What are CBDCs: Takeaway
With the world drastically moving towards digitization, central bank digital currencies could change the way of making transactions and use of money as a whole. The future of CBDCs can benefit from making payments faster with low costs welcoming more innovation.