Central Bank Digital Currencies (CBDCs) will transform the international financial architecture. CBDCs are a new form of money and follow the historical pattern in which the evolution of money leads to changes in payment systems, international reserves and monetary policy. Fiduciary money (today's money, whose value does not come from a tangible excellent or precious metal but from trust in the issuing institution) underwent the same process. They were for local use; CBDCs instead are global. The integration of the world economy and the unique characteristics of CBDCs pose a transformation in the international financial system.
Money is a form of debt. Money, in its essence, is a promissory note for future goods and services, backed by the issuer. The control of these promissory notes' issuance has been a dynamic interplay between private issuance, backed by deposits, and centralised issuance, linked to the granting of debt to the state. The Bank of England, established in 1694, marked a significant shift as it replaced private issuance, shaping economic interactions and financial structures over the last three and a half centuries.
Flying money, the first benchmark of fiat money, was a financial innovation in the Tang dynasty. (618-907 AD), consisting of certificates of deposit that avoided carrying large amounts of cash. The system was of limited use and operated within the trusted networks of merchants not aiming to become legal tender. Years later, as a solution to the shortage of metals for minting, the Song dynasty formalised and centralised the issuance of flying money. For the first time, state intervention standardised and stabilised a monetary innovation originating in the private sphere.
In England, King William III instigated the creation of the Bank of England to stabilise the economy and finance the war spending of the Glorious Revolution of 1688 and the subsequent Nine Years' War (1688-1697). , a privately owned but government-sanctioned institution. In return for a loan of £1.2 million to the government, the Bank of England obtained a monopoly over the issue of banknotes in England. The measure consolidated power in the hands of the central bank provided financial stability, restricted the role of private money and, above all, facilitated government borrowing.
In the United States, during the Free Banking Era (1790-1913), there was a proliferation of banknotes issued by private banks, which led to a chaotic monetary system with fluctuating exchange rates and frequent bank failures. The creation of the Federal Reserve System in 1913 - a union of private banks, consolidated the centralisation of banknote issuance. It was assigned to regulate the banking system and manage the country's monetary policy. Under this system, every monetary issue in the United States, although not a direct loan, creates an implicit debt of the government to the Federal Reserve.
In 2008, the US housing crisis shook the world. During the US housing crisis of 2008, the Federal Reserve played a crucial role in stabilising the global economy. It implemented a monetary expansion that doubled its assets from $0.9 trillion to $2.25 trillion, influencing the stabilised monetary theory of Jan Kregel and Randall Wray. This measure, due to the dollar's global dominance, had worldwide consequences on prices and exchange markets, leading to currency appreciation.
In The Wealth of Nations, Adam Smith set a precedent for distrust of state control of money. . Friedrich Hayek, in his 1973 work, "Denationalisation of Money" questioned the convention of state-controlled money, advocated the separation of money from the state, and proposed a system in which private entities could issue currencies. The free issuance of currencies would encourage competition and innovation and lead to a more stable and efficient monetary system.
For Marx, fiat money is part of fictitious capital, a title to a share of future surplus value, and a tool of capitalist exploitation. He argued that the state can regulate it independently of the real value of the capital it represents, allowing the capitalist class to use it to maximise its profits without any connection to the creation of real capital. Hilferding, in his work Finance Capital, argued that the centralisation of monetary control in the hands of the state or monopolistic financialisation was an inevitable result of capitalist development, leading to the concentration of economic power.
Satoshi Nakamoto , the creator of Bitcoin, introduced the concept of a digital currency that operates on a decentralised network and eliminates the need for intermediaries such as banks or decentralised Bitcoin's underlying technology, blockchain, guarantees transparency, security and immutability of transactions. The financial revolution, which opposes monetary expansion policies, took Bitcoin as its standard bearer and spread with the creation of countless digital currencies.
Digital currencies, including CBDCs, have the potential to eliminate inefficiencies associated with physical money, such as production, storage, and transportation costs. They also facilitate faster and more secure international transactions, thereby improving trade linkages. The ability for exchange markets and central banks to transact directly with each other is a promising development in the field of international finance.
The economic theories and thinking behind cryptocurrencies emphasise decentralisation and less reliance on central banking.
CBDCs raise concerns about privacy, surveillance, and the risk of excessive centralisation of financial control: Citizens may worry that governments can track all their financial transactions, remove the anonymity of cash, and allow detailed financial profiling.
While the concerns are valid, they can be mitigated with robust regulatory frameworks and cryptography tools themselves by adding additional layers of encryption that prevent profiling. From the central bank's point of view, the benefits of greater efficiency and cheaper transactions reduce the use of a third currency in international trade.
The Bank for International Settlements (BIS) has proposed three architectures for integrating CBDCs into the global financial system. Each model has different implications and consequences that affect how countries interact financially, the accumulation of international reserves and the regulation of the global monetary system.
Single Global System
A single global system eliminates the need for intermediaries and reduces transaction costs. In this model, local currencies can be exchanged directly within a unified clearing system regulated by a supranational body (the BIS). The development of this architecture would imply the implementation of joint monetary policies at the global level, with countries losing autonomy in their monetary policies. Supranational regulation could impose restrictions not always aligned with national needs, exposing the whole system to greater systemic risks.
Multiple Interconnected Systems
This approach allows for the direct exchange of assets between central banks. Direct interconnection facilitates international trade and reduces the time and costs of transferring funds and converting currencies. As a result, international reserves reflect countries' actual trade shares with their partners. However, it would require international agreements on standards and supervisory practices. Coordination between multiple interconnected systems increases the risks associated with synchronisation failures. The direct interconnection model would improve the transparency of financial transactions, facilitate oversight and reduce the risk of illicit activities.
The model of interconnected systems is similar to the Eastern financial architecture currently developing in the East. Since 2022, the Bank of Russia and the People's Bank of China have collaborated on the interaction between their messaging systems, SPFS and CIPS, which aim to develop digital rouble and yuan transfer schemes. Elvira Nabiullina, president of the Central Bank of Russia, says the platform has spread to more than 20 countries.
Multiple Independent Systems Linked by Messaging
This model resembles the Society for Worldwide Interbank Financial Telecommunication (SWIFT) system, where independent national systems communicate via standardised messaging protocols. Due to digitalisation, national systems can maintain their own security and control standards, and transaction costs will be lower than in the current system. However, the lack of full integration could maintain certain costs associated with conversion and transfer between different national systems. The lack of integration allows countries to adapt their systems to local economic and monetary policy needs with full regulatory autonomy. Therefore, this model provides a framework without altering the existing architecture.
SWIFT introduced a testing environment for CBDCs , similar to the Multiple Independent Systems Connected by Messaging model proposed by the BIS. SWIFT provided a testing environment for central banks to explore the integration of CBDCs into existing financial infrastructure. Central banks could experiment with various scenarios and develop frameworks for CBDC implementation.
SWIFT is the leading provider of financial messaging services, used by more than 11,000 banking institutions in over 200 countries. SWIFT has a clear interest in maintaining its position. The increasing adoption of CBDCs and other innovative financial technologies could threaten its business model.
Numerous countries around the world are exploring or have already implemented CBDC projects.
Another major attraction is the ability of central banks to use CBDCs to implement monetary policy. Through tools such as negative interest rates or direct transfers to citizens, CBDCs can improve economic stability and crisis response.
CBDCs have the potential to transform the international financial architecture, as well as the way we understand and interact with money. The architectures proposed by the BIS highlight the potential of CBDCs to reshape international financial interactions, promoting a more integrated and efficient global economy.
