Today the Bank for International Settlements (BIS), which coordinates cooperation between central banks, published a chapter on central bank digital currencies (CBDC) as part of its annual report. This paper is different from its many previous CBDC publications in two aspects, the first being a focus on competition as a primary motivator for launching CBDCs with a fiery condemnation of cryptocurrencies and stablecoins. And the second is the role of identity and hence privacy and anonymity in the design of a CBDC.
Competition as a key CBDC motivator
There are numerous potential reasons for a central bank to issue a CBDC, ranging from the declining use of cash to financial inclusion and competition. The BIS honed in on competition being a key driver. Firstly, that competition comes from cryptocurrencies where the BIS was more scathing than usual.
“By now, it is clear that cryptocurrencies are speculative assets rather than money, and in many cases are used to facilitate money laundering, ransomware attacks and other financial crimes. Bitcoin in particular has few redeeming public interest attributes when also considering its wasteful energy footprint,” reads the paper.
It’s not much more positive about stablecoins referring to some having a “purported backing” of conventional money, perhaps a nod towards the opaque audit reports of certain stablecoins. The BIS makes a dismissive sideswipe classing stablecoins as “an appendage to the conventional monetary system and not a game changer.”
Big tech makes up the third group of competitors, with China’s AliPay and WeChat Pay dominating mobile retail payments in China. While Facebook’s unveiling of Libra (now Diem) might be credited with accelerating central bank interest in CBDCs, it didn’t get a mention in today’s paper.
With each new CBDC paper, specific areas get fleshed out in more detail. In recent months it is the exploration of cross-border payments and multi-CBDC or M-CBDC solutions. That is covered at some length in this paper, but there’s not much that is new. What’s fresh is the focus on identity.
Identity and digital currency
For starters, the need to combat illicit activities is seen as making identity a requirement. Because accounts are linked to identities, the BIS paper takes the step of “assuming that CBDCs are to be account-based,” in one section. That’s opposed to a token-based CBDC design using blockchain, which is similar to a bearer instrument.
The BIS explores different potential identity verification systems ranging from big tech such as Facebook and Google to public-private partnerships. Some countries issue government identities, such as Estonia’s or Singapore’s SingPass. Perhaps the largest government identity system in the world, India’s Aadhar, only garnered a mention as the victim of a large-scale breach.
Digital identities where users control their own credentials – sometimes referred to as self-sovereign identity – only warranted a one paragraph mention as a ‘federated’ solution and were described as ‘nascent’. However, the paper went on to highlight cybersecurity risks, which is one of the key issues that these federated solutions aim to address.
It went on to state that “protecting an individual’s privacy from both commercial providers and governments has the attributes of a basic right. In this light, preventing the erosion of privacy warrants a cautious approach to digital identity.”
Hence the BIS promotes anonymizing the data that payment service providers or businesses can see. At one point, the BIS also suggests that governments might not have access to private data, only law enforcement.
Recently the European Central Bank raised the topic of privacy, differentiating between keeping transaction details private from intermediaries versus payment anonymity which opens up a CBDC to illicit transactions. As we noted at the time, the question is whether consumers will be willing to trade greater privacy from big tech for less anonymity from big government.
