By Riddhi Kothawale
Currency is one of the most important instruments of a State’s sovereignty. And since the advent of crypto-assets and the faster digitising socio-political and economic activities around the globe, governments are finding viable ways to implement Central Bank Digital Currencies (CBDCs). Similarly, the European Central Bank, the apex bank of the EU, issued a report on the potential of the Euro going digital. The Euro is the second-most widely traded currency in the world. Since the rise of China and a steady shift of power to the East, there have been speculations on Europe’s waning influence in the international sphere. This article, thus, aims at exploring the chances that Europe could have to make a re-entry into the global arena of influence by digitising the euro.
Currency in a digital age
The concept of a digital currency is not novel. Penetration of technological tools and influence has left no stone unturned, and national economies are no exception. The 2008 Global Financial Crisis rang the alarm bells on the heavy reliance of financial institutions on banks and paved the way for Bitcoin. The following decade witnessed a boost in popularity of crypto-assets to an extent that there are more than 4,000 crypto-assets available today. Nearly 86 percent of the countries around the world are actively engaged in working on the viability of their own CBDCs, with as much as 14 percent of the countries deploying pilot projects. The need for which may be accelerated by the pandemic as people have started preferring contact-less payments over in-cash transactions. In October 2020, the European Central Bank, which serves as an apex bank of the Eurozone, came up with a report on the potential use, implications, and challenges of a digital euro. It refers to the digital euro, which would be a Central Bank Digital Currency (CBDC), as a liability of the Eurozone recorded in digital form.
A digital euro would account for an actual virtual currency, but unlike the type we’ve been familiar with until now. CBDCs differ from crypto-assets just as much as they’re similar. If crypto-assets use a decentralised, private distribution mechanism, a digital euro would be a legal central-bank tender distributed using the blockchain technology. A digital euro would be controlled by the central bank, enabling end users to engage directly with the European Central Bank, in this case. A lot depends, however, on the model that the digital euro will have. It has been made clear that a digital euro would not be an alternative to the existing fiat currency, but would be complementary to it.
Amongst the important scenarios considered that could push for a digital euro is: Potential shrinkage in the use of cash, but also its assistance and importance in digitising the European Economy. In addition, it could also be implemented to stimulate the Euro’s strength internationally. The use of a digital euro could be made to preserve the European economic autonomy by filling the existing cross-border payment gaps, keeping the interoperability aspect central. Emphasising on G20’s goal of improving cross-border payments, Banque de France, Swiss National Bank, and the Bank for International Settlements Innovation Hub together with a select few private sector entities led by Accenture initiated Project Jura. The project aims at checking the viability of settling cross-border wholesale CBDC payments. However, it does not imply the banks’ commitment to issue wholesale CBDCs. There are layers of obstacles to overcome to have an operable and universally accepted platform facilitating payments in digital currencies. But initiatives like m-CBDC Bridge, an infrastructure framework of wholesale multi-currency cross-country payments, will need the digital euro to have a resilient yet flexible CBDC model.
Challenges and opportunities
Being at a geostrategic advantage is just one aspect for the digital euro to be successful. This is not to undermine the competition between countries to gain an upper-hand in digitising their economies. The increasing efforts taken by China to internationalise the Renminbi, by introducing its digital currency (e- CNY) still very much remains a cause of concern to Europe. In addition to China’s push for a dollar-free and digital currency — enabling transactions for its grand Belt and Road Initiative (BRI) — another threat to the euro can arise from Iran, Russia, and India’s efforts to challenge the SWIFT payment system, as well. The resistance to the SWIFT system has been growing just as it is for dollarisation, especially in these growing developing economies. SWIFT uses Clearing House Interbank Payments System (CHIPS) to process international payments by converting them into dollars, attracting the label of US dominance. Leaving conventional competition behind, growing popularity of private crypto-assets and stablecoins is yet another threat to currencies. In addition, Facebook’s proposed launch of Libra (renamed to Diem), its stablecoin grand theme, was also conceived as a threat and met with a serious backlash, however, unsurprisingly from Europe.
For any currency, let aside the Euro alone, what really matters is the currency’s usability and functionality. The trust that people put in it contributes significantly to the value of the currencies. For the digital euro to be successful internationally, it needs to pass the test at home first. From the public consultation survey conducted by the Eurosystem, Monetary Authority of the Eurozone, it was evident that the first users of the Euro give indisputable amount of importance to privacy, security, and usability of the prospective CBDC. The general notion suggests preference to the CBDC only if it is easy to use. Many are of the opinion that there should be licensed intermediaries, who would bring accessibility and innovation to the table. It may be a challenge to keep the digital euro both distinct and simple at the same time, if the public demand remains adamant on wanting the existing infrastructure enabling digital payments. The Euro’s offline usability is central to the public demands so far recorded.
Another important challenge that arises here is that of disparity and uneven distribution of technical knowledge, skills, and resources within the Eurozone. The spending habits and economic infrastructures of the 19 countries within the Eurozone are diverse and far from uniform. A case in point is Germany’s conspicuous resistance to the digital euro. In this regard, Deutsche Bundesbank experimented on merging blockchain technology with existing payment systems to digitally settle security bonds. It is worth noting that preference to usage of cash in Germany stood at 84 percent in 2020. The initiative was to conclude that use of such hybrid technology would be more effective and time-efficient than issuing a digital euro. Germany is the largest economy in the Eurozone and is concerned about the impact of CBDCs on bank deposits. Even if the citizen demand and the European ambition is to keep the digital euro ‘cash-like,’ digital transactions are going to need storage of user data, which automatically poses the next threat of privacy concerns. Providing citizens with a risk-free payment method, accessibility, and offline usage of the digital euro are some important challenges the ECB will need to meet.
A tool to gain relevancy
CBCDs are going to be the face of transactions and technological transformation in the coming decades. At the heart of which is going to be transparency in handling of the personal data that will be collected and on how it is protected. The rising threats of cyber attacks and vulnerability of digital financial activities are eminent. But a centralised blockchain technology and stricter surveillance and cyber security laws can help mitigate the risks. The matter of the fact is that these are still evolving technologies and systems whose full potential will only be unveiled as and when they get implemented. The ECB has launched its investigation project that will focus on the design and distribution options for the digital euro. The aim of the project would be to find feasible solutions to ensure faster and energy conscious usage of the digital euro. The greater concerns of financial stability, resilience of the currency in time of calamity and international co-operation on CBDCs can be expected to be discussed during the two-year long pilot project. The challenge for the digital euro that its generating body will have to overcome, however, is of establishing trust in the digital currency. It will need to be convincing enough for all on why using a digital euro would be necessary. Implementation of a digital euro may not necessarily grant the European Union power to make the rules, which it shouldn’t if it wishes to do away with the hegemonic title of the past, but it can surely play a decisive role in steering the digital wagon.
The author is a research intern at ORF.