Cryptocurrencies with the help of blockchain and the CBDCs are disrupting the international financial system with features such as faster and more secure transactions; financial inclusion, disruption of traditional banking models and monetary policies....
The Rise of Digital Currencies: How Blockchain and CBDCs Are Changing Global Finance
Introduction
The crass which digital currencies are creating have led to revolutionizing of the financial world as well as the development of new forms of advancement. Leading this revolution is blockchain and more so Central Bank Digital Currencies (CBDCs) which are transforming the creation, circulation and management of money. The usage of these currencies continues to rise and spread across the globe and their effects on economy, societies and governance entities or organizations in the societies. Going through this article, the author outlines the nature of current digital currencies and discusses the basic principles of blockchain and CBDC as instruments of future finance.
The Emergence of Digital Currencies
Digital currencies as the name suggests are a form of currency that exists only in the digital environment apart from the traditional fiat money in form of paper notes or coins. Such currencies can also be classified into various kinds; these are cryptocurrencies such as bitcoin and Ethereum, and central bank digital currencies or CBDCs. The first and the most prominent digital currency, bitcoin, was launched in 2009 by unknown person or group referred to as Satoshi Nakamoto. Bitcoin, being a peer-to-peer electronic transaction, born out of decentralized block chain, enabled a new paradigm shift in the financial sector, where thousands of unique tokens, all with their unique features and uses, flooded the market.
Apart from traditional characteristics, there are differences that set prompt major characteristics of digital currencies based on the use of technology in the carrying out of transactions and storage of value, as well as in data protection. The paper provided a brief definition of traditional currencies, which include dollars, euros, yen and others, which are issued and controlled by the central banks while the digital currencies known as cryptocurrencies are issued in a network without any control of a central authority. Indeed, this has entailed major reconsideration of the functions of money and payment, the systems of payments, and financial regulation.
Blockchain Technology: The Backbone of Digital Currencies
Blockchain is an essential technology applied to practically all the current crypt currencies so far such as Bitcoin, Ethereum and many more that we will discuss in the subsequent section. However, in order to understand what blockchain is, we first have to understand that it is a distributed database that can be used to build an immutable journal. Every time, each transaction is placed on pieces called blocks, and these blocks are put in a sequence starting from a particular time, and therefore the name, blockchain.
One of the greatest strengths of blockchain is its decentralized application and approach away from conventional models. In contrast to the centralized database that a particular entity owns such as a bank or government, amongst other stakeholders, participating in the blockchain, every participant has his/her own copy of the ledger. This implies that no single party has control on the change or manipulation of the transaction history found when dealing with the system. Blockchain’s characteristic feature of being unable to alter any data makes it perfect for overseeing the business of digital currencies as credible because standard financial systems do not extend such confidence.
In addition, it offers the opportunity to work with smart contracts that are self-fulfilling agreements based on the code written into them and operating when certain conditions are met. Smart contracts are used in every industry with emphasis on the financial industry and the insurance industry also in the supply chain industry and are essential parts of the DeFi movement.
These benefits which blockchain gives are important not only in the context of cryptocurrencies but in other spheres too. For example, use of blockchain can be implemented in matters touching on banking, solving fraud cases, supply chain, global payments among others. As of now, it has the capability that enhances occurrences of several different industries and its future advancements spur the usage of the digital currency internationally.
The Rise of Central Bank Digital Currencies (CBDCs)
New generation cryptocurrencies such as Bitcoin have been garnering a lot of attention in the recent past, however, it is the advent of Central Bank Digital Currencies (CBDCs) that could have a possibly much longer lasting impact on the international financial system. CBDCs refer to, central bank digital currencies which are an electronic means of fiat currency of a country. CBDCs are unlike decentralized cryptocurrencies and are commanding control under the government, therefore their value correlates with the economic reality of the country.
CBDCs, have begun garnering significant attention from the policymakers and central banks around the world as an instrument to transform the very architecture of the financial system, enhance efficiency of monetary and other payments and accelerate the pace of achieving financial inclusion. Data from the BIS also show that over 80% of the world’s central banks are conducting work on CBDC or experimenting with them, and many countries have already launched CBDC pilots or are issuing them full scale. For instance, China is already having some success with its Digital Yuan, originally called the Digital Currency Electronic Payment (DCEP). The pilot up to now has been carried out by the People’s Bank of China across multiple cities and this too will be adopted as another official currency in the coming years.
The attractions of CBDCs include the possibility to give more central control over the monetary policy, enhance financial security and cut costs and inefficiency related to the conventional forms of payments. CBDCs can be an improved form, function and security of digitizing national currency compared to traditional cash. They also have the possibility to make cross border payments faster, cheaper and improve the situation on financial inclusion of people from developing countries where the access to bank accounts is low.
There are a number of benefits when it comes to CBDCs as a means of making payments, including especially real-time transaction tracking, which could benefit central bank in inflation control, fight against financial crime and money laundering. Through CBDCs, the central banks could control contraction and expansion of the money stock selectively thereby using measures such as negative interest rate better than the conventional banking systems. Third, the establishment of CBDCs can provide a more stable payment system during the economic crises and natural disasters because the distribution of physical money is much more vulnerable.
However, the adoption of CBDCs also brings certain issues to the table mainly being privacy, security, and the issue of a government-controlled currency. Non-supporters are concerned that, if introduced, CBDCs can enable government to monitor all transactions of their citizens thereby violating some of their freedoms. Some fear that CBDCs will cont. … pose a threat to commercial banks because people will be able to have accounts with the central bank instead of these institutions.
Despite these risks, the perceived advantages of CBDCs have most governments persisting in the pursuit of CBDCs with the ECB and the Federal Reserve currently embarking on research on the possibility of implementing digital currencies. CBDCs’ future will likely lie in the fact that it will soon become an intermediate layer within the world economy.
Digital Currencies and the Global Financial Ecosystem
The decentralized digital currencies, through the underlying blockchain and emerging CBDCs, are redesigning the global financial landscape. Digital currencies a threat to established financial institutions specifically payments systems that have dominated the market for decades. For instance, decentralized finance (DeFi) applications that run on blockchain and exclude middlemen are enabling users access new lending, borrowing and trading spots. Current, DeFi has taken form and the total value locked in DeFi protocols has been registering in tens of billions in these few years.
Also, digital currencies make the process faster, cheaper and more secure for the users and this does not require intervention of banks, remittance services among others. Thus, in countries where people receive significant remittances, Southeast Asia and Africa for example, digital currencies are a cheap and effective means of transferring money between individuals.
But it also brings new challenges for regulators and policy makers as the advent of digital currencies so as. The nature of cryptocurrencies comes with the high risk of bringing the anonymity of their users into questions as vehicles for some criminal activities including money laundering and terrorism financing. Governments are on the receiving end being under pressure to develop policies that will regulate these risks while at the same time promoting innovation. This balancing act is going to be important in an effort to make sure that the advantages that come with digital currencies can be obtained without negating the ramifications of financial stability and security.
Furthermore, global population’s increasing use of digital currencies can alter the balance of power in its GDPs. Currently, countries with a developed CBDC might find themselves with a competitive advantage if they use their own digital currency in foreign trade and investment. For instance, the digital Yuan which China has recently developed can be used in international dealings to replace the U.S. dollar’s control over markets this year.
Conclusion
Cryptocurrencies that are based on blockchain technology and Central Bank Digital Currencies (CBDCs) as well are changing the world financial system. These innovations are offering opportunities for new forms of people and businesses’ interactions, new models of accessing financial services, and new forms of value storage. The notion of transparency, security, and decentralization forms a new approach as for Blockchain as well as for the Digital currencies, and at the same time, the issue of CBDCs will strengthen the government’s capability to strengthen the regional financial structure and payment system.
Among emerging digital currencies, the features of these financial tools will define further development and the evolution of the world economy throughout their existence. CBDCs are constantly under development, and decentralized finance platforms are also emerging and increasing, so their outcomes include increased financial access, better payment processes, and more connected financial systems worldwide. However, these advances present incredible risks such as; regulatory risks; privacy risks and risk of disrupting the traditional financial institutions. Institutionalization of innovation and security and stability will be key in world coming up with proper frameworks of attaining the potential of digital currencies without compromising the integrity of the financial system. Looking at this digital evolution over the years the future of money and finance is digitized, decentralized and connected.
