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A research article on the key considerations of CBDC design to balance benefits & risks, and presents best practices in CBDC design from a global perspective by Professor David LEE Kuo Chuen, Li Yang, and Yu Wang.

[Source: Taylor & Francis Online]

ABSTRACT

This paper discusses the key considerations of CBDC design to balance benefits and risks and presents best practices in CBDC design from a global perspective. Using China’s CBDC as an illustration, this paper discusses two-tier or multi-tier ledger design and proposes ten enablers of mass adoption and successful implementation. This proposed design allows central banks to manage the process flow, focus on the monitoring and control, without bearing all the load or exposing to over-centralized risks. It concludes that CBDC will be the primary tool in the future digital economy, and countries that are conversant with the technology will have a competitive advantage. Learning from the implementation, continuously reviewing the existing regulation, and improvising whenever international dynamics change the landscape are vital attributes of a successful implementation.

1. Introduction

In 2020, the COVID-19 virus ravages the world. Recently, at the G20 virtual summit, world leaders from major countries and international organizations generally agree that we have entered a ‘post-pandemic’ period that requires a long-term cohabitation with viruses. IMF (2020) has labelled this global crisis as ‘the Great Lockdown’. From a global perspective, this pandemic has been having a profound impact on our politics, economy, people’s livelihood and even the military. Countries with a well-developed digital economy, coupled with a well-disciplined population appeared to have a lesser impact and recovered faster from each wave of COVID-19 infections. The abrupt disruption and paradigm shift caused by the COVID-19 pandemic not only force countries proactively in embracing digitalization and emerging cutting-edge technologies but also accelerates the central banks’ interest in exploring Central Bank Digital Currency (CBDC). The pandemic has shaken people’s confidence in some countries’ currencies, and an alternative that performs well in a contactless environment with lockdowns is needed to avoid a liquidity crunch.

The emergence and rapid development of various digital currencies, represented by Bitcoin (BTC) and Facebook’s Libra (renamed as Diem), have a considerable impact on and implication for the financial system (Lee 2015). In particular, there is concern among central bankers that Libra, which is to be launched in January 2021, may take away the policy sovereignty from some countries. These cryptocurrencies bring with them both opportunities and challenges to the day-to-day operations of the payment system and financial system. Some are arguing that the emerging new technologies, such as big data, artificial intelligence, and distributed ledger technology (DLT), may solve the long-existing pain points in the payment system and make payment more efficient. Central banks in Asia are focusing on consumers’ behaviour change in the digital era and implementing changes to the current financial system to incorporate innovations.

All these are leading central banks to research on new innovative payment design as well as the way to issue currency, in particular CBDC. An increasing number of central banks and international financial organizations have been actively exploring the possibilities of CBDC, and released CBDC research reports with emphasis on technical analysis, as well as the impact on monetary policy. As of mid-July 2020, at least 36 central banks around the world have announced retail or wholesale CBDC plans. At present, Ecuador, Ukraine and Uruguay have completed the retail CBDC pilot, and six retail CBDC pilot projects are in progress in China, the Bahamas, Cambodia, the Eastern Caribbean monetary union, South Korea and Sweden.

There is a global need for an efficient and cost-effective value transfer system with the declining use of cash and cheques. It is, therefore, not surprising that countries shift their attention to digitalize their legal tender to create CBDC.¹ It has been argued that CBDC will ensure advancement and effectiveness in the system of payments, especially in the emerging markets without strong enforcement power. There is also consensus that CBDC promotes financial inclusion in the society, ensures stable and efficient transactions, and improves cross-border transactions. This paper discusses the key considerations of CBDC design to balance benefits and risks. Using China’s Digital Currency Electronic Payment (DCEP) as a showcase, the authors propose ten enablers of mass adoption for successful implementation. Inspired by the DCEP’s design, this paper discusses the two-tier or multi-tier ledger design that enables central banks having full control of the data but managing those institutions acting as intermediaries. Commercial banks and other institutions will be tasked to oversee the daily operations and to meet users’ requirements. This design allows central banks to manage the process flow better and focus on the monitoring and control, without bearing all the load and exposing to over-centralized risks.

2. The definition: what are CBDCs?

CBDC must satisfy certain primary money functions, if not the forms, to be classified as such. One of the most commonly used definitions is that the CBDC is a kind of legal tender in digital form. This general definition is proposed by the International Monetary Fund (IMF) (Kiff et al. 2020). CDBC is the next step in the evolution process from metal currency to metal-backed banknotes, and then to fiat money. CBDC may have the potential to replace the existing physical cash in the future if it retains most of the desirable characteristics. CDBC may also complement electronic money M1 and performs similar functions or act as a fully-backed reserve.² In a narrow definition, the CBDC is a new type of electronic liabilities of the central bank, which can be used as a means of payment and value storage, and yet retain most of the desirable characteristics of M0 and M1.

Due to the varying financial development stages and different missions and needs of countries, to date, there are many definitions from a variety of perspectives with growing literature. Table 1 [refer to original article] summarizes common definitions of CBDC based on announcements or reports from a few notable institutions or organizations.

In literature, early definitions of CBDC focus on central bank’s issuance, as summarized by the BIS Money Flower: A taxonomy (Bech and Garratt 2017; CPMI, & MC 2018) as shown in Figure 1.

Following the above taxonomy, as a kind of legal tender in digital form, CBDC should have four basic functions of currency: medium of exchange, store of value, unit of account and standard of deferred payments. Exploring CBDC design, central banks have different CBDC orientations and define the business, technology, and structure differently.   In Figure 2, atypology is proposed viewing CBDC with two dimensions, 1) the business design, and 2) the structure design, or more precisely, the ledger design.

Figure 2. Typology of CBDC

For ledger design, CBDC can be divided into token-based and account-based. Token-based CBDC refers to the use of tokens for transactions between digital wallets through centralized or decentralized settlement systems.³ The token-based CBDC may have more potential, such as anonymity and offline transactions. Digital currency is defined with one of the key features: the P2P transferability. Account-based CBDC is traded by opening an account in the central bank or other delegated entities such as commercial banks. In this typology, the term account-based refers to the access control to the network based on a different design of CBDC and the respective payment system. An account-based CBDC differs from the traditional account-based wholesale central bank money with a P2P wholesale transferable system, for example, a permissioned blockchain. Financial institutions can use wholesale CBDC to transact financial assets. A well-designed wholesale CBDC can replace the realtime gross settlement system (RTGS) (MAS 2017), which will improve the efficiency of the financial system while retaining monetary sovereignty. This bypassing of trusted third parties will mitigate the risk of a breakdown in any centralized system or clearinghouse system. For example, the digital Singapore dollar in Singapore’s Project Ubin (MAS and Deloitte 2017), was designed with blockchain technology to function as a wholesale CBDC focusing on interbank transactions and international settlements.

On the other hand, retail CBDC would be used for payment, for remittances, and possibly to receive government incentives and subsidies. The retail CBDCs are designed to improve social welfare. The People’s Bank of China (PBoC) has decided not to adopt blockchain technology for its CBDC design.⁴ Though inspired by Bitcoin’s UXTO, the Chinese DCEP is mandated to satisfy retail payment needs for business and individuals. CBDC might also be designed with a hybrid or general-purpose to both wholesale and retail counterparts.

For each type of CBDC, both centralized or decentralized governance may apply. Permissioned blockchain technology is an example of incorporating elements of decentralized governance even though it is not entirely decentralized as it requires an administrator for permission to be a node. Further to the operation mode, CBDC can be designed with direct, two-tier, or multi-tier structure. Direct, or one-tier design, is issued to the public directly by the central bank, while the two-tier and multi-tier systems, also known as synthetic CBDC, refer to issue CBDC first by the central bank to commercial banks and other institutions, and then converted to the public by these institutions.

With the evolution of theoretical development and CBDC design practices (Barontini and Holden 2019; Duong 2020), the recent understandings pay more attention to the trust component and functions of a CBDC as shown in Table 2. Recent practice raises three questions which will help us to redefine Money Flower diagram. First, what if a digital currency is not directly issued, but authorized by a central bank and issued by a commercial bank or a delegated agency; second, what if a digital currency does not adopt distributed ledger technology or blockchain; and third, what if a central bank tries to tokenize the reserve and settlement account, for instance, the Project Ubin of MAS Singapore? To better address these questions raised with different CBDC designs and applications, the authors propose to revise the definition of Orange Oval in the Money Flower diagram from token-based to Authorized Wrapped Fiat (AWF). Legal tender here means issued or authorized by the central bank. It is necessary to avoid using the term token in order not to be confused with digital representation on a distributed ledger. The authors instead consider the class as one that is a digital representation of wrapped coin (WC). In this case, the coin is a fiat currency and therefore a wrapped fiat currency. If a central bank issues it, it is known as a plain vanilla CBDC (pCBDC). If it is authorized and with 100pc fiat reserve, it is known as a wrapped CBDC (wCBDC). If it is a stable coin and the underlying coin is neither a fiat currency nor legal tender, it is a non-sovereign stable coin. If the digital currency is not issued nor authorized digital currency by a central bank, it is a non-sovereign digital currency.

[refer to original article for Table 2. Features and Trust Components of Digital Currency]

1. Central Bank Issued (CBI): It is a direct liability of Central Bank.

Examples: IOU (Coins, Notes, Reserve, Commerical Banks Reserve at Central Bank) of the central bank (Liability of CB)

Trust: Entirely on the Central Bank

• (2) Central Bank Authorised (CBA):

Examples: 100% reserve ratio; backed by other currencies (USD in the case of HK)

Trust: Central Bank + Commercial Issuer (e.g., HSBC, BOC, HSBC) + Other Central Banks or Authorities (e.g. The US Federal Reserve Board in the case of HKD)

• (3) Non-Central Bank (NCB):
  1. Fiat Stable Coin

Example: USDT

Trust: Sovereign + Issuing Non-governmental Agencies (e.g. Corporate) + Blockchain Community.

(Note: Diem is the same, and the community is the Libra or Diem Association. The community here refers to either a foundation, corporate, core developers, nodes, or the stakeholders in the project.)

• (4) Non-Fiat Stable Coin

Example: ERC20

Trust: Underlying Native Token Blockchain Community + Secondary Blockchain Community (e.g. Ethereum)

• (5) Cryptocurrency:

Example: bitcoin

Trust: Native Token Blockchain Community

So far, the definitions to CBDC are still emerging with theoretical development and applications. Scholars and industry practitioners are far from reaching a theoretical and practical common understanding and unanimous agreement to such concept. The authors propose to understand CBDC by the feature and trust component, which is the essence of any form of money, and which also distinguish forms of money. In any case, CBDC can be designed to serve a specific sector of the society (retail versus wholesale), or programmed to expire or perform certain functions. The combination of design thinking and programmable functions of CBDC empowers future central bankers to meet the needs of the economy. The definitions of CBDC will continue to expand to include these features brought about by nascent technology. It is unlikely that the debate on the definition will end soon.

3. The purpose of CBDC: the advantages

There are many reasons for adopting CBDC, such as promoting financial integration, improving transactions efficiency and security, and decreasing the cost of cross-border payments (MAS & Bank of Canada 2019). In countries with underdeveloped financial infrastructure, the advantages of CBDC will be more obvious. The launch of CBDC will help reduce or even eliminate these system inefficiencies that hinder the current market and global expansion. For countries that are severely affected by domestic inflation and international sanctions, the issuance of CBDC is a potential solution. For a developed or developing country whose currency suffers from counterfeiting, CBDC is a better choice as it reduces the cost of issuing, circulating and monitoring physical currency. However, the eWallet can also be counterfeited but fortunately, easier to trace with technology. Besides, the rise of CBDC may accelerate the transition to a multi-polar reserve currency, which is an exit strategy for the current asset price inflation environment brought about by the global competitive quantitative easing policy. The use of digital currency may assist the central bank to more accurately account for the money supply, its structure, velocity, multiplier, time and space distribution, thereby improving the accuracy of monetary policy operations. CBDC also helps to counter the mass adoption of privately issued digital currencies, as it is backed by trusted governments and is based on domestic accounts. Another form of digital currencies, such as a private stable coin (e.g., Libra or now known as Diem), poses risks to monetary policy and raises concerns about data privacy and abuse of personal information because it is difficult to regulate.

One crucial advantage of CBDC is its inclusiveness. CBDC makes it possible to conduct payments through eWallets without the need for identities or accounts or even the Internet connection. CBDC, combining with other technology, empowers and enables the underserved, the unbanked in the rural area, and the developing countries to gain easy access to financial services. Through CBDC, division of various assets, durables, and livestock into small fractions is possible. Fractionalization ensures greater liquidity as well as affordability of assets. Tokenisation can track household services, livestock transactions and many other undocumented and unreported activities, and can provide additional financing and business opportunities. Non-Fungible Tokens (NFTs) can help trace objects or services that are unique and not interchangeable, but they can now be fractionalized and owned by different individuals. These are some of the exciting ideas in Decentralized Finance (DeFi) that can be employed with CBDC and Smart Contracts, which are computer programmes or transaction protocols intended to execute automatically, control or document legally relevant events and actions according to the terms of a contract or an agreement.

Because of the significant enhancement of inclusiveness (Lee and Low 2018), CBDC can help countries to measure economic activities more precisely and accurately. The technologies embedded in CBDC ensure a more accurate representation of economic activities currently excluded from the calculation of national accounts statistics. GDP national accounts do not capture many lowly traded, minute transactions, illiquid assets, and unrecorded economic activities if they do not go through the banking or financial system, but they are essential economic activities. The use of CBDC for retail will capture all payments associated with primary activities currently not reflected in the national accounts. In aggregation, these essential omitted statistics of primary economic activities can be substantial in agriculture and less developing economies. By capturing the excluded economic events into the national accounts, it will lead to better policymaking for sustainable growth.

Furthermore, the issue of digital currency can reduce the high cost of traditional paper money issuance and circulation, and save considerable expenditure on labour and materials. Furthermore, the digital currency will also affect cross-border payments, which will reduce cross-border payment fees to a large extent, something that international organizations have failed to achieve for many years. Digital agreements are useful when trusted parties are needed in a global transaction to provide trust, and especially when the transactions are small, decentralized digital enforcement codes, or more commonly known as smart contracts, can be executed automatically without a trusted third party.

The recent signing of the Regional Comprehensive Economic Partnership (RCEP) provides an important application scenario for digital currency, which can improve trade efficiency. The signing of RCEP will also bring more opportunities for DeFi. It can help improve the global digital currency payment system, to make commodity trading and cooperation among enterprises less costly and more convenient in many countries. Such digital or smart contracts enables CBDC to reduce the cost of trust significantly. In many areas with an imperfect justice system and a weak enforcement environment for a legal agreement, smart contracts will address the pain point of non-performance of a deal and therefore may stimulate more investment and trade. Singapore’s experience shows that becoming a favourable digital currency jurisdiction and creating an attractive crypto ecosystem does not only lead to enhanced economic activity but could also create spill-over effects into other technology sectors.

CBDC provides managed anonymity. When the goods and services traded are in digital form, payments using other alternative cryptocurrencies may lower tax revenue as traceability may be an issue for the tax authority. CBDC helps the central bank to capture the necessary data, and it is easier to detect illegal activities such as tax evasion, terrorist financing and money laundering. CBDC will mitigate the risk of non-fiat eMoney or non-sovereign money, replacing the fiat that will weaken the fiscal policy sovereignty. Also, interest-bearing CBDC can be used as a direct monetary policy tool and can give the central banks more direct control of the money supply. In contrast, non-interest-bearing will perform the function of digital public infrastructure to overcome friction in the financial space.

4. The challenges of CBDC: potential risks

Different challenges and risks, from technological, economic, system, ethical and legal aspects, are also associated with the adoption of the CBDC.

The issuance of CBDC may also have negative impacts on the economy. If the public can obtain the digital currency directly with no limitation, the demand for deposits or reserves of commercial banks will be reduced. The banks will face a liquidity shortage, and trigger bank runs in case of market panic. A bank run is an imminent threat in financial crises, and thus increasing the risk of financial instability. The emergence of CBDC derivatives and engineered products triggers potential uncertainties and risks because of the speed of transaction and the volume involved.

For DLT- or blockchain-based CBDCs, the issuance, circulation and withdrawal of money are reliance on these technologies. However, these technologies are still in the early stage of development, and there are still some problems such as inconsistent technical standards and technical scalability issues. From the perspective of transaction security, the DLT-based CBDCs solve the problems of ledger tampering and reversibility, but not the personal information security problem. When hackers attack the centralized trusted network or eWallets of a decentralized network, users’ private keys can be stolen, and asset loss may occur. For account-based CBDCs, identities and user private information are subject to cybersecurity risk.

Traditional currency in the current legal system is legal tender and regulated by the authorities, but CBDC is often not included in the scope of legal regulation as a new form of digital currency. Therefore, there may be legal gaps in the issuance, use, circulation and supervision of digital currency. Also, it may be challenging to supervise CBDCs as we moved from physical to virtual. Banks have sophisticated systems in place to track counterfeiting of physical notes and coins. They can immediately determine if the currency is counterfeit and legitimate. CBDC does not exist in physical form, so its counterfeiting and supervision methods are different from traditional currency. In the event of hacker attacks or system failures, the affected users or resulted losses are likely to be far more than those of traditional currency.

Finally, internet infrastructure will have a significant impact on the circulation and functionality of CBDCs. Although smartphones have been widely used, there are still many people without smartphones (e.g., senior citizens and children) or access to the Internet. In some rural areas, Internet coverage, the penetration rate of smart devices, and digital literacy are low, which also affects the adoption of the CBDC. For the public to fully accept CBDC and use it efficiently and securely, the public needs first to understand the operations and be assured of the system security. Then they need to learn how to use the interface and operations, and how to prevent potential theft or loss. All of these may be difficult to achieve and require a lot of resources and education.

Finally, perhaps the most challenging is the shadow and derivative markets for CBDC. While CBDC may give transparency to the policymakers, the credit creation aspects, impact on monetary policy and stability are not fully understood. DeFi, complex credit CBDC products, and off-balance sheet structured products with smart contracts can have instantaneous and damaging effects on the financial market and therefore, the economy. While policymakers may have more transparency, and realtime information on the money supply and credit within the financial system to effect policy response, the complex and off-balance sheet products can destabilize the market and economy in quick time. Furthermore, financial inclusion can well turn negative and becomes leverage inclusion with credit innovation using CBDC. We have witnessed the Asian Crisis with the rapid withdrawal of capital in leveraged economies. Developing and small economies are especially vulnerable when foreign CBDC induces mass adoption that leads to leverage inclusion of the entire economy. Regulation and education are keys to good CBDC design, and that requires regional cooperation and a holistic approach.

5. China’s CBDC case: general framework and best practices

Since 2014, the People’s Bank of China (PBoC), China’s central bank, has been developing its own digital currency, and the research and development of digital currency have been at the forefront of the world. Digital Currency Electronic Payment (DCEP) is the CBDC project of China. It can be used for digital payment and has the property of currency value storage and exchange medium. While industry discussion leads to the fact that the long-term goal of DCEP is to build the internal settlement system of financial institutions and even is expected to replace SWIFT, PBoC makes it explicit that the short-term one of the objectives of DCEP is to satisfy retail payment needs for business and individuals, as retail CBDC. DCEP is currently being piloted in four cities, and more than 3000 enterprises participate in the pilot in Shenzhen in October 2020, including Walmart, Starbucks and many other international enterprises. It is reported that in December 2020, Suzhou City is preparing a new round of trial. In summary, China’s DCEP mandate is to build up a solid base of retail payments domestically and to improve payment efficiency, such as liquidity, speed, monetary policy implementation, prevent market segmentation, protect consumer rights, and promote financial inclusion.

DCEP adopts a two-layer operation system, which will not change the existing money delivery system and dual account structure. It will not compete with the deposit currency of commercial banks. Because it will not affect the existing monetary policy transmission mechanism, nor strengthen the pro-cyclical effect under pressure environment, it will not have a negative impact on the real economy. Thus, it can not only mobilize the enthusiasm of commercial banks by using existing resources, but also improve the acceptance of the digital currency. In addition, adopting a two-tier system to issue and exchange DCEP is also conducive to curbing the public demand for encrypted assets and consolidating China’s monetary sovereignty. The design framework of DCEP can be summarised as ‘One CBDC, Two Databases, and Three Centres’. The ‘One CBDC’ refers to that CBDC is a new type of currency. The ‘Two databases’ include the digital currency issuance database and the digital currency commercial bank database. The ‘Three centres’ consist of the authentication centre, registration centre and big data analysis centre.

DCEP is defined and designed as a retail CBDC, which supports offline payment, improves financial inclusion and financial service convenience, reduces cash use costs, and improves the efficiency of financial institutions. It is more secure and is conducive to privacy protection, but still can manage anonymity to prevent money laundering, terrorist financing, tax evasion and criminal activities. It reflects economic activities more accurately, which are not currently included in national economic statistics. It allows and enables the execution of digital or smart contracts and stimulates the growth of some industries. One of the purposes of DCEP is to stimulate trade in services and goods. China has given DCEP enough flexibility to promote the sale of products and services that have not yet been actively traded in the market. Some of these important components of economic activity are not included in the calculation of real GDP but may account for a large part of economic activity, such as time-based services or stable asset certificates with fundamental value. As for cross-border payment, it focuses on the current account payments, such as tourist sectors. The relationship between institutions at the two tiers is not like that between traditional wholesale and retail businesses. It has a dynamic dual role and act as a backup to the advanced electronic payment system. The second-tier institution has more responsibilities and a more positive role as it is responsible for the purchasing power. Unlike G7 central banks, China is less concerned with the challenges raised by Libra (Diem), Bitcoin, and other cryptocurrencies. While retain sovereignty is always on the list of purpose, CBDC also aims to push back against US dollar hegemony and boost retail local and regional payments.

Although the early discussions on the central bank’s digital currency (CBDC) mainly focused on the payment function, recent attention has shifted to fiat money in the form of digital certificates and digital assets. The existing payment system is connected and communicated by the trading platform via the banking system. It exchanges through sovereign currency, collects transaction fees, and determines the relationship between supply and demand through the exchange rate.

Prior to CBDC, improving the efficiency of existing regulated entities, such as banks, and improving back-office clearing and settlement processes is one of the hottest topics. Latest discussions have instead focused on DLT designs applied to existing payment systems and the interoperability. The discussions are going beyond to setting standards across banking and payment industries. Another innovation of the People’s Bank of China is that it deliberately left the second-tier architecture (beyond the creation level of DCEP) to the private sector, allowing them to innovate in consultation with the central bank. BSN and SmartMesh are typical examples of the future trend.

China’s DCEP sheds lights on good practices in CBDC design. DCEP follows the traditional monetary management ideas, and the issuance and withdrawal were based on the ‘central bank-commercial bank’ two-tier system. The design of DCEP uses the theoretical knowledge of cryptography, trusted computing technology and security chip technology to ensure the security of payment. The application of big data analysis technology must accommodate both the transaction security and also to meet the needs of anti-money laundering.

Moreover, China’s DCEP conceives a new concept of what can be known as M0.5 in terms of functionalities. Central banks can centralize the control of decision-making, or they can relax control over payments after digital money is in circulation. The main pain point of cash (M0) is the high cost of issuing, printing, and storing in the form of notes and coins. Physical cash lacks portability and traceability, especially for a large amount of payment. Cash makes tracking illegal activities such as money laundering and terrorist financing criminal activities difficult. Existing non-cash payment instruments (such as credit and debit cards, Internet and application payments) are trusted third-party payment services, transferring either M0 or M1 from bank accounts. Almost all payment methods cannot achieve offline and anonymous payment services.

CBDC design that uses the concept of Bitcoin’s unspent transaction output (UTXO) has the advantages of offline payment, anonymous escrow and point-to-point value transfer without a centralized ledger. Thus, this design can be regarded as M0.5, because it retains M0’s peer-to-peer (P2P) offline anonymous feature while the traceability is similar to M1. Unlike agency related payment, M0.5 can take advantage of anonymous hosting to replace M0. However, most CBDC designs lack this M0.5 concept, except that in China. M0.5 combines the best features of distributed systems with the central management of the central bank.

There is no conflict between decentralized distributed ledger technology and centralized management of the central bank. Although the technical characteristics of blockchain do not depend on the centralized organization, the purpose of effective centralized governance and distributed operation is not necessarily the opposite. If the design is reasonable, the blockchain and distributed ledger can effectively integrate the distributed operation and better realize the centralized control of CBDC. There is no inevitable conflict between centralization and decentralization.

Based on the design of China’s DCEP, the authors argue that the three-layer design framework shall be considered as a best practice of CBDC design, in which each layer will have the flexibility to define its unique features as shown in Table 3 below.

[refer to original article for Table 3. CBDC three-layer design framework]

At the first layer, CBDC can choose between centralized technology or distributed technology. The central bank guarantees CBDC issuance, and only the central bank is allowed to issue and create digital currency or token. However, digital currency or token can be created and produced on single-mode or multi-mode blockchains or distributed ledgers with core nodes controlled by the central bank.

The second layer is the Core-Satellite payment system. The central bank can control the core node of the system, and other nodes can be controlled by the nodes of commercial retail or wholesale banks. One feasible way is to have the central bank core node depositing CBDCs on the dedicated node on a private cloud, which is similar to the central bank’s cash operation management system. Satellite node or user node can make the payment on the core node or its own CBDC private cloud node. It can be divided into two parts. The part designed as 100% reserve account needs to be designated as 100% CBDC to hold, and some CBDCs can create new credit.

There are three clients at the third layer: tokenization, registration and query function. The purpose of tokenization or authentication is to ensure limited supply and define the underlying assets. For mass adoption for CBDC, eMoney should be more convenient and less risky than current payment systems.

6. Key design considerations and adoption enablers

Following the best practices of PBoC’s DCEP, the authors synthesize three key considerations for central banks in CBDC design processes. First, CBDC is guaranteed by the government and maintains its legal currency status. The government must directly support CBDC to ensure its tokenization. Second, the use and deposit of CBDC must not bear the corporate and credit risk of the custody entity or financial institution. Otherwise, there may be the possibility of a bank run and use of different platforms, because not all digital statutory institutions have the same risk. Thirdly, the cooperation between public and private sectors is vital for the design of new CBDC. For cross-border remittances, it is essential to leave room for innovation in a strict regulatory environment.

With the deepening of the research and experiment of CBDC, some core issues of CBDC design have gradually been identified. Based on the experiences of China, we propose the following enabling factors with ten enablers, which can also be used to evaluate a CBDC design, from three aspects as shown in Table 4.

[refer to original article for Table 4. Enabling Factors and 10 Enablers for CBDC Adoption]

Integrated and Enabling Infrastructure: As a type of digital currency, CBDC should first adopt digital recognition technology. Secondly, digitization makes the field of data security and secure encryption technology crucial. The CBDC drives the upgrading of security encryption, data security and other needs. Interoperability has always been one of the most critical barriers to the adoption and function of CBDC. Thirdly, interoperability will allow multiple CBDCs to interact and exchange data with each other. The interoperability between CBDC and existing payment systems is conducive to the smooth transition of payment methods. Issuing CBDC with international compatibility can stop relying on expensive and slow cross-border remittance services. Last but not least, as a new currency form, CBDC has a broad development prospect. Its research and advancement drive the development of talents, knowledge and technology.

Global Cooperative Standard and Compliance: It is of great importance for well-designed CBDC to have better compliance, which makes it compliance easy and then improves the efficiency of the whole system. The comprehensive data, open-source, and an oracle ecosystem are time-saving and can promote innovation and optimize resource allocation.

Accessibility and Inclusivity of Storage and Exchange: For CBDCs to function as cash with the M0 attribute or as inclusive as possible, various usage scenarios shall be considered in the design so that it is highly accessible. In addition to the conventional online and mobile technologies, how to access CBDCs in an offline or smart-device-less situation is an important issue. For instance, it can provide services to people with or without smartphones and support online and offline transactions. Programmable digital currency represents an innovation in the field of finance, which may revolutionize the payment system and bring immense potential added value, especially in terms of the efficiency of the operation and management processes. Therefore, CBDC should cooperate with all participants in the ecosystem to provide useful tools for economic development. Digital currency needs the full trust of citizens. To this end, the highest standards of compliance, safety and supervision must be observed. Depending on the choice of technology to be used, special attention must be paid to the security and protection of citizens’ personal data. Before making the decisions on the distribution, storage, and exchange model of CBDC, central banks need to carefully think about the needs of the country and customer service to maintain the effectiveness of monetary policy transmission mechanism and regulatory compliance.

7. Conclusion

From the development of the global financial and monetary market, the development of CBDC is of great significance and has become the general trend. Countries at the forefront of digital currency research are likely to keep a higher competitive edge in the global digitalization process. Therefore, the development of digital infrastructure, digital currency supervision, digital asset market supervision, CBDC issuance and other related financial structures, are all the areas that government can take into consideration.

Due to different national conditions, there are differences in the formulation of financial policy objectives and the positioning of CBDC in the financial system. The goal of CBDC determines its design principle, and then these principles, in turn, determine its choice in economic design, function, supply and technology. Moreover, central banks must not set the technical route of CBDC in advance and should encourage the use a flexible architecture to adapt to the configuration based on strategic and economic considerations. An essential design of CBDC is the choice of the ledger, should it be based on distributed ledger technology or traditional central bank infrastructure. The traditional ledger ensures the efficiency and stability of transactions. The distributed ledger has the advantages of traceability and invariability. The two modes can be integrated to give full play to their respective strengths. A top-down approach has been widely used in the design of CBDC architecture, and there may be too much reliance on the central bank for operations, which cannot effectively solve the technical pressure of central bank being the central node. An alternative is a bottom-up method that pays more attention to the needs of users.

Inclusivity and decentralization are important factors to consider in the future development direction of CBDC. Centralized governance and decentralized operation are not contradictory. Attributes of blockchain and distributed ledger technology (DLT) meet the development needs of digital currency and FinTech development of the central bank. These attributes are 6Ds: digitization, disintermediation, decentralization, democratization, data privacy and disappearance. The world’s major countries have focused on the first three attributes of the CBDC policies, while China is actively exploring the latter three attributes as well. It aims to combine data privacy with transparency and traceability of the economy. The PBoC’s disappearance or self-diminishing at the second-tier, the operation layer, will then avoid the monopoly, and thus lay the ground for achieving financial inclusion ultimately.