What do central bank digital currencies mean for the financial markets?

AS Team
Nov 14, 2022

As of summer 2022, a total of 100 countries throughout the world are currently exploring digital currencies. Most of these countries are looking at the possibility of introducing a digital version of their own national currency, otherwise known as a central bank digital currency or CBDC. But what does this mean for the global economy and economies on a national scale? Will it be good news for forex and crypto or does that remain to be determined?

What is a CBDC?

A CBDC is a type of digital token that a country’s central bank issues. It is similar in concept to a cryptocurrency but is backed by actual fiat currency and is pegged to the value of the applicable national currency. It behaves economically in precisely the same way as a dollar, euro, pound, or yen, but only exists in the digital realm. That said, its value is the same as its physical counterpart, and it cannot act independently of fiat reserves in any way.

Many people already hold money in digital forms, in banks, apps, and on debit and credit cards, but a CBDC differs as it is a liability of central reserves, not a private entity.

While inspired by bitcoin and similar cryptocurrencies, there are some fundamental differences. For example, they do not have to use blockchain technology to register transactions, although this is an option if the bank wishes.

There have also been proposals for a decentralized global currency that would be issued and controlled through a collaboration of central banks simultaneously. This would allow international transactions between countries, while domestic transfers would use the local CBDC.

In most current use cases, the currency is implemented via a database that is in the sole control of the central bank. This database records every sum held by every entity, including people and businesses, as well as every transaction. Also, unlike bitcoin and others, CBDCs are a high-security asset in the way that a paper EUR 100 note is, and it forms a part of the base monetary supply.

Which countries are looking at it?

Currently, a number of countries have already launched a CBDC, including Nigeria and several Caribbean states. Many more such as China, Sweden, and Saudi Arabia, is currently in the pilot phase, while those such as the US, UK, Turkey, Canada, and much of Europe are in the research and development stage. It is expected that over the coming years, particularly as more countries move forward with their plans, others will come on board. Within the next decade, it is likely we will see almost every country in the world with its own central bank digital currency.

What does this mean for forex?

There are several hypotheses on what the widespread adoption of CBDCs could mean for the foreign exchange market. Some believe that it could somewhat weaken the role of sovereign or fiat money as consumers scramble to hold a variety of digital currencies. It could also make trading and holding a variety of currencies much easier for many. This would be a big bonus for the forex trading sector, which has been enjoying increased interest driven by access to online trading platforms.

Those wanting to speculate on the price increase of CFD forex will still be able to, regardless of whether it is a digital currency or a fiat currency. In terms of price and value fluctuations, it is likely that national currencies will see significant increases as and when their digital counterparts are launched. This will be due to more people having access to them, as well as a sort of vote of confidence for the central bank and the technology. It will also continue to make people more familiar with the concept of digital assets, which in turn can benefit the value of some cryptocurrencies, particularly decentralized ones that are pegged to fiat values.

It will also continue to make people more familiar with the concept of digital assets, which can benefit the value of some cryptocurrencies, particularly decentralized ones that are pegged to fiat values.

But some believe it could have a negative impact on cryptocurrency. As many are concerned over the legitimacy of crypto and security, regulation, and volatility, CBDCs could fill the gap. This could see the decline in value of many of the 2000-plus cryptocurrencies on the market, and more minor currencies could soon find themselves obsolete.

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