The British finance minister told the Bank of England (BoE) [Similar to RBI in India] to look at the case for a new “Britcoin”, or central bank-backed digital currency, aimed at tackling some of the challenges posed by cryptocurrencies such as bitcoin.
GS-III: Science and Technology (Developments in Science and Technology, Application of Technology in Daily life, Blockchain technology)
Dimensions of the Article:
- What are cryptocurrencies?
- How are they different from actual currency?
- How do cryptocurrencies derive their value?
- About Britcoin
- Understanding Central Bank Digital Currency (CBDC)
What are cryptocurrencies?
- Cryptocurrencies are e-currencies that are based on decentralized technology and operate on a distributed public ledger called the blockchain.
- Blockchain records all transactions updated and held by currency holders.
- The technology allows people to make payments and store money digitally without having to use their names or a financial intermediary such as banks.
- Cryptocurrency units such as Bitcoin are created through a ‘mining’ process which involves using a computer to solve numerical problems that generate coins.
- Bitcoin was one of the first cryptocurrencies to be launched and was created in 2009.
How are they different from actual currency?
- The Main difference is that unlike actual currencies cryptocurrencies are not issued by Governments.
- Actual money is created or printed by the government which has a monopoly in terms of issuing currency. Central banks across the world issue paper notes and therefore create money and assign paper notes their value.
- Money created through this process derives its value via government fiat, which is why the paper currency is also called fiat currency.
- In the case of cryptocurrencies, the process of creating the currency is not monopolized as anyone can create it through the mining process.
How do cryptocurrencies derive their value?
- Any currency has its value if it can be exchanged for goods or services and if it is a store of value (it can maintain purchasing power over time).
- Cryptocurrencies, in contrast to fiat currencies, derive their value from exchanges.
- The extent of involvement of the community in terms of demand and supply of cryptocurrencies helps determine their value.
- In the wake of declining cash payments in the country partly due to the Corona pandemic, the Bank of England and the Treasury are considering creating Digital Currency.
- The Digital currency, if passed, would exist alongside cash and bank deposits and act as a new form of money to be used by households and businesses in England.
- It would sit at the interface between cash and private payments systems and would not necessarily be based on distributed ledger technology.
- This ‘britcoin’ would be tied to the value of the pound to eliminate holding it as an asset to derive profit.
- The move could have an economic impact in the form of wider investment into the UK tech sector and lower transaction costs for international businesses.
- Britain’s digital currency would be different in a key sense as if passed, it would be issued by state authorities. Currently, only the Bahamas has such a currency, though China is trialing it in several cities.
Understanding Central Bank Digital Currency (CBDC)
- A central bank digital currency (CBDC) uses an electronic record or digital token to represent the virtual form of a fiat currency of a particular nation (or region).
- A CBDC is centralized – i.e., issued and regulated by the competent monetary authority of the country.
- Each unit acts as a secure digital instrument equivalent to a paper bill and can be used as a mode of payment, a store of value, and an official unit of account.
Advantages of CBDC
- CBDC aims to bring in the best of both worlds—the convenience and security of digital form like cryptocurrencies, and the regulated, reserved-backed money circulation of the traditional banking system.
- New forms of digital money could provide a parallel boost to the vital lifelines that remittances provide to the poor and to developing economies.
- It will ensure that people are protected from financial instability caused due to the failure of private payments systems.
- Ensures that central banks retain control over monetary policy against the remote possibility that payments might migrate into cryptocurrencies over which they have no leverage.
Issues with CBDC
- There is a need to enforce strict compliance of Know Your Customer (KYC) norms to prevent the currency’s use for terror financing or money laundering.
- Existence of digital money could undermine the health of commercial banks as it removes deposits on which they primarily rely for income.
-Source: The Hindu