Are Central Bank Digital Currencies (CBDC) a threat to Bitcoin?

Oct 25, 2022 | 0 comments

Central banks all around the globe are now competing with one another because of the emergence and increasing popularity of Bitcoin. As a result, companies have been modernizing their infrastructure more quickly in order to produce their own independent digital currencies.

Most of Bitcoin’s incredible qualities, according to experts, come from the open-source blockchain technology that underpins its network. As a result, central banks throughout the globe are aggressively looking for methods to utilize this technology to develop central bank digital currencies (CBDCs). Some cryptocurrency investors are worried about this very problem because they believe that the emergence of CBDCs would discourage individuals from using Bitcoin.

At first look, it may appear as though CBDCs are a real rival that will eventually displace cryptocurrencies like Bitcoin and cause market disruption. However, a closer examination reveals that such a conclusion isn’t truly valid. Continue reading to discover the idea of CBDCs vs. Bitcoin, their benefits and drawbacks, and why we don’t think they pose a danger to the asset with the highest performance over the past ten years.

So, let’s discuss CBDC vs Bitcoin.

What Are CBDCs?

CBDC vs. Bitcoin

CBDCs are a distributed ledger or blockchain-based representation of a country’s fiat currency that is issued by the central bank of that country. Banknotes and coins, which serve as the universally recognized methods of payment in an economic region, have historically been the primary forms of currency in most nations. However, as technology has advanced, more and more people are using digital money.

Electronic, credit-based money services that use digitally recorded accounts and are allowed by banks and payment processors have replaced the use of real money. Although it is still possible to find actual currency, more and more nations are going toward using it less often. Additionally, several nations, including Sweden and China, have nearly completely replaced hard currency.

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A CBDC first has a striking resemblance to the current digital credit currency. Its basic systems, however, operate quite differently. CBDCs are the direct obligation of central banks, not private banks, unlike the credit money of today. They have a distinct technological foundation as a result. However, there is no universal structure for CBDCs, the majority of central banks’ research and trials centre on the 2009-era technology that Bitcoin introduced.

Today, banks keep track of all transactions and the amount of money that each person owns in a centralized ledger, and the central bank sets monetary policy. In contrast, many copies of the same financial records are dispersed among numerous financial institutions in a CBDC system. They are run from the top down by the central bank.

This system is referred to as a permission blockchain system, where only parties with prior authorization are allowed to view or edit the ledger. As opposed to permission blockchains, which are managed by many authorities, this. CBDCs are still thought of as a method to use distributed ledger technology while keeping the benefits of fiat money.

Why are CBDCs becoming more popular?

Their popularity has been rising as more and more central banks actively consider using a CBDC. A few nations have already begun using distributed ledger technology to create their CBDCs. These preliminary examples demonstrate the potential for such implementations to alter the nature of fiat money.

CBDCs can boost payment efficiency, encourage improved financial flow transparency, make it easier to comply with anti-money laundering laws, and stop the funding of terrorists by using distributed ledger technology (AML-CFT).

Additionally, the distributed nature of DLTs systems enables CBDCs to improve system integrity, eliminate barriers to financial inclusion, and reduce transaction costs and settlement times (especially for cross-border payments).

Essentially, CBDCs seek to integrate the advantages of Bitcoin into the regulated fiat-based system centred on central banking. This is good news for many who admire Bitcoin’s advantages but have been hesitant to use it because of its extreme volatility and lack of regulation. The Covid-19 pandemic’s impact and the looming danger posed by Stablecoins are the main reasons why central banks feel compelled to expedite the process of launching CBDCs.

The Bank for International Settlements (BIS) conducted a poll of central banks, finding that 14% have published experimental projects, 86% are actively investigating the possibilities of CBDCs, and 60% have already begun experimenting with the technology. There are more than 15 nations that have established CBDCs as of October 2022.

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CBDCs: Opportunities

CBDCs eliminate the dangers associated with third-party platforms and bank failures. By connecting directly to central banks through CBDCs, customers are freed from the credit and liquidity problems that commercial banks may face during periods of market crisis.

Central banks can lower the cost of cross-border transactions by linking several currency systems since they directly oversee CBDCs. This might be enhanced with CBDC system interoperability. CBDCs can reduce the cost of transnational transactions and speed up money settlement from days to seconds.

CBDCs may potentially increase the number of individuals using Bitcoin because DLTs and other ideas linked to cryptocurrencies must be appreciated first. Governments employing DLTs for their CBDCs will also demonstrate the legitimacy of blockchain technology in the eyes of the general public.

Given that Bitcoin is the first digital currency, this shift will also be advantageous for it. Additionally, Stablecoins may eventually be replaced by CBDCs, which would serve as a significant fiat on-ramp if, at some time, CBDCs are permitted to link with crypto exchanges.

CBDCs: Concerns

While the centralized nature of CBDCs may help governments gain insights to combat the financing of terrorism and money laundering, privacy concerns abound. The government will have a way to spy on their citizens more efficiently, particularly their financial life. This is a red flag.

Users’ privacy may be less protected if they utilize a CBDC. Once privacy is violated, a centralized authority may start tracking people more often, which might lead to the creation of a social credit score. In China, for instance, the “social credit system” program is being used by the government to monitor civilian conduct. It is a system that uses individual scores to reward and penalize them. Additionally, with China’s DCEP currently in an advanced pilot stage, privacy concerns might become more pressing.

People may be prohibited from accessing money if required by the government since governments and their central banks will have significant influence over CBDCs. Simply adding someone’s wallet address to a blacklist will do.

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Why CBDCs don’t threaten bitcoin

Numerous projects have surfaced as potential upgrades to Bitcoin since it introduced blockchain technology. Alternative currencies and Stablecoins are two examples. Even though several of them were dubbed “Bitcoin killers,” they all increased interest in Bitcoin. They have generally raised market acceptability and encouraged innovations across the whole Bitcoin ecosystem. Although the emergence of CBDCs may pose a threat to Bitcoin, a closer examination of how they operate reveals that they pose no genuine danger.

CBDC vs. Bitcoin; Centralized vs. Decentralized.

CBDC vs. Bitcoin

CBDCs remain centralized in management and control because they are issued by a country’s central bank. Consequently, a single point of failure is made possible. As a result, citizens are forced to rely on the government to uphold moral principles. Bitcoin, on the other hand, is decentralized.

The Bitcoin network is run by equal peers. They agree on the ledger’s current status. No single party has the power to alter the ledger or deny someone else’s access to the network. As a result, unlike CBDCs, the use of bitcoin is not geographically restricted. Anyone with an internet connection may access the worldwide Bitcoin network. The entrance barriers are greatly lowered as a result.

CBDC vs. Bitcoin; a limited supply.

Fiat money has an infinite supply and is prone to inflation. CBDCs do not alter this reality. Governments are thus free to print as many units as they see suitable, just like how blank real currency may be produced at will.

On the other hand, there are only 21 million bitcoins available. It is thus a good long-term investment. Consequently, during the past ten years, Bitcoin has beaten every other asset. Currently, Bitcoin serves more as an investment than a medium of exchange. Compared to CBDCs, which are thought to function best as transactional currencies, this sets Bitcoin apart.

CBDCs aren’t private.

Although the distributed nature of blockchain promotes transparency and traceability, users’ identities are kept anonymous thanks to the cryptographic methods used. Therefore, the user has some degree of privacy protection. Because they normally cherish their privacy, many Bitcoin users wouldn’t want to take the chance of quitting the network. Privacy violations will probably happen on CBDC networks.

This quick analysis demonstrates that CBDCs don’t provide significant extra capabilities that would appeal to Bitcoin users. Quite the opposite. CBDCs will function similar to Stablecoins as complementary resources rather than rivals. How? By setting certain advantageous rules that further legitimize the cryptocurrency economy.

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Since cryptocurrency has been around for longer and is presumably more understood than CBDCs, it’s possible that this is the reason why public perception of cryptocurrency is now far more favourable than that of CBDCs.

However, there is a perception that CBDCs are inevitable. According to Yang: “Since President Biden’s executive order on cryptocurrencies in March and most recently the Terra/Luna crash, the regulatory landscape for the cryptocurrency business has become more complex. A CBDC will eventually become legislation, in my opinion, considering the crucial part they may play in the cryptocurrency ecosystem.

In contrast to the West, where governments and the international payments network SWIFT appear obsessed with the issue, China is well on its way to implementing CBDC fully. What effect this will have on the Bitcoin market is less certain.

Given the threats to their privacy and overall lack of value in the DeFi and Web 3.0 areas, it seems doubtful that crypto natives would be persuaded by the potential advantages of CBDCs, even though crypto has just taken a beating. It could be more difficult for newbies to choose between a CBDC and a cryptocurrency if they are just joining the financial system.

Can CBDCs and the crypto economy coexist? Guillaume asserts, “It relies on the policies that [the central banks] select”. Are they okay with running CBDCs alongside cryptocurrencies, or are they planning to kill cryptocurrencies to increase the utility of CBDCs? We shall have to wait and see the future of cryptocurrency, but central bank digital currencies are likely to be a hot topic in the years to come.

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