Some experts believe Central Bank Digital Currencies (CBDC) could overturn the globally established financial model. Digital currencies have the potential to erode the U.S. Dollar’s dominance of cross-border trade and lower transactions costs significantly.
The U.S dollar has remained the preferred vehicle for cross-border transactions and international trade. This has been the case for the last over 50 years, following the 13-15th August “weekend that modified the world.” U.S president Richard Nixon suspended the dollar’s convertibility to gold and changed the existing financial system at the time. The global adoption of the dollar gave the U.S economy an exorbitant privilege. Anything that threatens the status quo will hurt the American economy.
Doom to the Green Buck’s Dominance
Earlier in March, economist Lawrence Summers speculated the Covid-19 relief payments would quickly lead to inflation. In May, Stanley Druckenmiller, a renowned foreign exchange trader, warned of approaching inflation that could threaten the U.S. dollar’s dominance. The U.S. Dollar’s share of world reserves dropped to a 25-year low in May. The figure has fallen from 71% in 199 to under 60%.
Apart from the Eurozone, competition is coming from countries like China. Beijing is working hard to make its currency more appealing, including a 10-year project toward creating a CBDC. The decision by El Salvador to make Bitcoin legal tender could be an early signal that digital currencies could soon spell doom to the green buck’s dominance.
What is a CBDC?
A Central Bank Digital Currency refers to a central bank’s digital version of a country’s regular currency. Central banks stop printing money and issue electronic accounts and coins that the government fully backs. The difference between a CBDC and cryptocurrencies is that, unlike crypto, CBDC’s are centralized.
According to the International Monetary Fund (IMF), there are good reasons to consider CBDCs. These include promoting financial inclusion, lowering transaction costs, creating transparency, and making monetary flow fast and seamless. In a world that is all going digital, national currencies would be easier to handle if all one needed was a digital wallet.
The Challenges of Implementing CBDCs
Suppose country A issues a CBDC that citizens can hold in a digital wallet and use for daily transactions. An importer from country B can be paid in the digital version of country A’s fiat currency for their merchandise to download the digital wallet. However, the game-changer would be when CBDCs eventually become interoperable. At the moment, the conditions that would make that happen are not yet in place since different central banks would need to agree on the requisite digital architecture.
The Future is Crypto
According to a Deutsche Bank report, there are chances that cryptocurrency could replace fiat currency by 2030. The bank believes that the systems that hold fiat currency in place are fragile and could easily crumble in the future. The report reads in part:
“The forces that hold the fiat money system together look fragile, particularly decades of low labor costs. Over the next decade, some of these forces could begin to unravel, and demand for alternative currencies, from gold to crypto, could take off […] until now, cryptocurrencies have been additions, rather than substitutes, to the global inventory of money. Over the next decade, this may change. Overcoming regulatory hurdles will broaden their appeal and raise the potential to replace cash eventually.”