Business Insights on Emerging Markets 2024

3. Central Bank Digital Currencies: What is in it for emerging markets?

Abstract

This chapter explores how central banks in emerging markets have been considering or initiating Central Bank Digital Currencies (CBDCs) as a potentially disruptive tool for financial inclusion. The chapter presents case studies for the Bahamas, Brazil, the People’s Republic of China, India and Nigeria.

Key messages

• After the 2008-09 global financial crisis, the foundations of modern banking have been challenged. Coupled with rapid advances in financial technology, economies around the world have seen a proliferation of new financial products and processes.

• Most significant global trends include end-to-end digital transformation of financial services in different parts of the world, rapid adoption of digital payments products and more recently, cryptocurrencies and blockchain-enabled products.

• Since 2019, central banks across the world, mainly from emerging markets, have considered or initiated the process of digitising their currencies by introducing some form of Central Bank Digital Currencies (CBDCs).

• CBDCs, if implemented successfully, have the potential to be a disruptive change to the global financial system and a tool for financial inclusion in emerging markets. As countries with volatile currencies are looking for a solution, it is not a surprise that CBDCs have been launched in those contexts.

• Many central banks have produced concept notes and launched pilots across emerging markets. Potential benefits and risks associated with the introduction of CDBCs in these contexts have arisen.

• By exploring some country cases – the Bahamas, Brazil, the People’s Republic of China (hereafter “China”), India, and Nigeria – the analysis can shed light on this new phenomenon in the banking system.

Understanding CBDCs

Central Bank Digital Currency (CBDC) refers to a digital form of a country's official currency that is issued and regulated by the country's central bank. It is essentially a digital representation of a nation’s fiat currency, such as the US dollar or the Chinese Yuan, that is backed by the central bank and operates within a centralised system (Prasad, 2021[1]). CBDCs are designed to leverage the advantages of digital technology while maintaining the stability and control associated with traditional fiat currencies. They aim to provide a secure and efficient means of conducting digital transactions, both domestically and internationally.

CBDCs are recognised as a form of legal tender, just like physical banknotes and coins. They are created and issued by the central bank, making them a direct liability of the central bank. Consequently, the central bank retains full control over the issuance, supply, and distribution of CBDCs (Prasad, 2021[1]). Such currency exists in electronic form, typically stored in digital wallets or accounts. However, different central banks may design different systems for the storage and transfer of their CBDC.

While multiple countries have proposed their own system of CBDCs, two types of CBDCs are commonly defined – retail and wholesale CBDCs. Retail CBDCs are closest to current cash. Retail CBDCs will be a widely accessible form of digital currency issued by a central bank to the public through tools like e-wallets. China currently has the most advanced pilots for retail CBDCs, with other countries like Sweden and Argentina also having experimented with pilots. Wholesale CBDCs, on the other hand, will be issued by the central bank to facilitate inter-banking transactions for financial institutions. It is estimated that the wholesale CBDCs would be a safer and more efficient form of domestic and cross-border transactions (Prasad, 2021[1]). Singapore, Canada, and France have reached advanced pilot stage for wholesale CBDCs.

We can distinguish three models of governance (or types of architecture). The direct model where the central bank interacts directly with the end users, whether individuals, business or financial institutions, and maintains record of all transactions in a centralised ledger; the intermediated model (or token based model) where the central bank distributes the CBDCs to intermediaries such as banks and other financial institutions that in turn distribute them to the general public; the users hold and transact with the CBDC (the token) directly, without the need for intermediaries to get involved; in this model the central bank has no direct link with the public. The third is the hybrid model. This is a two-tiered model wherein the central bank releases digital currency to retail users and intermediaries with different countries have specific models/versions proposed. Consumers can use the CBDC to carry out retail transactions through intermediaries. Such models provide considerable space for the intermediaries to act as payment co-ordinators and innovate further. India, China and Hong Kong (China) are all trying to pilot and launch such models.

One way in which CBDCs differs from physical cash is through attributes related to their digital nature. For example, CBDCs enables instant transactions for retail and inter-bank transfers, improving efficiency and reducing settlement times. Some CBDC designs include programmable features, allowing for conditional transactions and smart contract functionality.

Ideally, CBDCs should contain strong security measures to prevent counterfeiting and ensure transaction privacy. In particular, privacy and anonymity of a CBDC is something different central banks are struggling to incorporate in their new framework. CBDCs can coexist with physical cash or potentially replace it in the future, depending on the specific implementation and policy objectives of each country.

In emerging markets, CBDCs are often the result of the fast development of mobile payments whose remarkable expansion in these markets is largely due to their low level of bancarisation and to technological development and smartphone penetration, which facilitated the access of the population to a wide range of financial services. It is not a coincidence that besides Alipay and Wechat Pay launched in China in 2004 and 2013 respectively, another early success story is M-Pesa launched in 2007 by Kenya Mobile in a Joint Venture with Vodacom, a South African mobile telecom company, a subsidiary of the British Vodafone and the Central Bank of Kenya.

Global adoption of CBDCs

The concept of a CBDC, though novel, has caught the imagination of central banks and governments across the world in the past decade. For most emerging economies, the potential of CBDCs to improve financial inclusion, cross-border international payments and promote digitisation in their domestic financial sectors has been a key driver of their interest in CBDCs. A broader stimulant has been the rapid mushrooming of private virtual currencies, and the massive influx of investment in such currencies and tokens such as Bitcoin. The drastic fluctuations in the value of crypto assets and transaction volumes have spurred governments to explore novel means of regulation and protection of investors. In addition, through crypto, governments have been confronted with the risk of losing control of their currency, which has always been their prerogative (Mohácsi, 2023[2]). Against this background, an increasing number of central banks and governments across the world have been releasing concept notes and pilots for different models of CBDCs. As of September 2023, 130 countries were considering the launch of a CBDC, almost quadrupling the number of countries in May 2020.

However, as of January 2024, only three countries had a CBDC formally implemented: the Bahamas, Jamaica and Nigeria (see Table 3.1) while others are at the testing phase. China, for instance, having begun research on CBDCs in 2014, has crossed a second pilot stage for the introduction of the Chinese CBDC, the e-Yuan (Jahan, 2022[3])in some cities and during events like the Winter Olympics in February 2022.

Other countries are proceeding more cautiously, weighing the potential benefits against risks such as financial stability, privacy and cybersecurity. The European Central Bank (ECB), for instance, has been actively researching CBDCs but has not yet made a firm decision on their implementation. The US is ambivalent about the usefulness of a digital dollar (Carapella, 2024[4]). The US Federal Reserve has been conducting research on a US CBDC (Flemming, 2024[5]). It has organised public discussion with stakeholders, publishing in January 2022 a paper inviting public comments on the matter (US Federal Reserve, 2022[6]).

Table 3.1. Countries with CBDCs: Selected emerging economies

Country	Nigeria	Brazil	China	India	Russia	Indonesia	Thailand	Bahamas	Jamaica
Country group	E20+1	E20+1	E20+1	E20+1	E20+1	E20+1	E20+1	Other	Other
Status	Launched	Pilot	Pilot	Pilot	Pilot	Development	Pilot	Launched	Launched
Architecture	Intermediated	Intermediated	Intermediated	Intermediated	Intermediated	Undecided	Intermediated	Intermediated	Intermediated
Use case	Retail	Retail/ Wholesale	Retail/ Wholesale	Retail/ Wholesale	Retail/ Wholesale	Retail/ Wholesale	Retail/ Wholesale	Retail	Retail

Note: *E20+1 is a group of 20 top emerging economies plus China established by EMI (Casanova and Miroux, 2023[7]) .

Source: Authors and Kaleb Kavuma, based on data from Atlantic Council, Central Bank Currency Digital Currency Tracker, https://www.atlanticcouncil.org/cbdctracker/, accessed in March 2024.

While progress has been made, the journey towards a widespread adoption of CBDCs is complex, involving a variety of technical, regulatory and even societal issues. The challenges faced are illustrated by the Caribbean Union that launched its own CBDC in 2021 and had to interrupt it for technical reasons in 2022. Since then, the Union has been working on a 2.0 version of its CBDC that may be launched in 2024.

CBDCs in emerging markets: Some case studies

To date, the trend is led by emerging markets. The following explores a few country case studies: China and India in Asia, Brazil and Bahamas in Latin America and Nigeria in Africa, highlighting the issues involved in implementing a CBDC.

China: “e-Yuan” in the spotlight

Given its size and role in the global economy, China has been at the forefront of the CBDC experiment, launching its pilot phase in 2019. China’s CBDC is known as the Digital Currency Electronic Payment (DCEP), also referred to as the Digital Yuan or e-CNY. Its implementation has been driven by the government's aim to modernise the country's payment system, enhance financial inclusion, and reinforce its control over the monetary system. The Digital Yuan is issued and controlled by the People's Bank of China. It is stored in digital wallets, which can be held by individuals, businesses, or financial institutions. Users can access their digital yuans and use them in transactions through designated mobile apps or other supported platforms, including the two main Chinese payment platforms Alipay and WeChat Pay that have now integrated the digital yuan app (Nambiampurath, 2023[8]).

The digital yuan operates on a two-tier system where the central bank issues the digital currency to commercial banks and other authorised institutions, which then distribute it to the public. This approach ensures wider acceptance and compatibility with existing financial infrastructure. One notable feature of the e-CNY is the ability to conduct transactions even offline, using near-field communication (NFC) technology. This feature facilitates peer-to-peer transfers without relying on internet connectivity.

China has conducted extensive pilot programmes for the e-CNY in various cities and regions to test its functionality, user experience, and potential use cases. These pilot programmes have involved collaborations with commercial banks, e-commerce platforms, and other entities. While official numbers are unavailable, the total number of e-CNY wallets reportedly reached 261 million in 2021, with total transactions of RMB 88 billion or about USD 13.8 billion, still a negligible fraction of the total money supply in China despite the reportedly large number of wallets (Jahan, 2022[3]). As of 2024, the pilot wants to optimise overseas tourist use and expand cross-border applications of e-CNY (Atlantic Council, n.d.[9]).

“E-Rupee” – India’s CBDC: Building on UPI’s success launched in 2016

India has been pushing for a major transformation of its payment ecosystem with the launch of its digital payment platform (the Unified Payment Interface or UPI) in 2016. Its rapid adoption has been instrumental in boosting digital payments. Launching a CBDC, the e-Rupee, would be another key step towards a digital economy.

The Reserve Bank of India (RBI) has two primary objectives driving the design of the e-Rupee – to create a digital currency that mirrors paper currency, and to manage the introduction and adoption of the digital currency in a seamless manner (Reserve Bank of India, 2022[10]). As in other countries, key concerns revolve around financial stability, security, and consumer protection. Particular attention is also being paid to privacy. While legislative means are being considered for this purpose, the Indian central bank is also reportedly exploring technology to address privacy risks (Singh, 2024[11]).

In December 2022, the RBI launched the pilot for retail e-Rupee. As of February 2023, this pilot project was deployed in five cities within closed user groups on an invitation-basis only (Gandhi, 2023[12]). As of early 2024, there was no official deadline for the formal implementation of the e-Rupee in India. Interoperability, a key objective of the RBI, including through integration with payments platform, is essential in the widespread adoption of CBDCs. In that respect, India can build upon the success of UPI that in 2022 registered over 74 billion transactions and 126 Indian rupee trillions (about USD 510 billion).

“E-Naira” – Nigeria’s CBDC: At a crossroads

E-Naira, Nigeria’s CBDC initiative, was released in October 2021 to widespread interest. As in other cases, the aim of the e-Naira was to drive financial inclusion, enhance the current payment systems, and mitigate against the dollarisation of the economy. Facilitating cross border transaction was important, given the importance of diaspora remittances for the economy. However, as of October 2022, the level of adoption within the country full of crypto-curious investors remained very low, even as paper Naira notes are in short supply in the country. One year after the launch of the e-naira, less than 0.5% of the population had used it. The number of wallets downloaded was 860 000 but an estimated 98% were deemed inactive (Jahan, 2022[3]), and the volume of transactions had reached USD 9.3 million, compared to USD 26 billion for ATM cash withdrawals in 2020. Following the severe cash shortage encouraged by Nigeria government in 2022, with limitations on cash withdrawals, the volume of retail transactions reportedly rose to an estimated USD 48 billion by July 2023 (EOS Intelligence, 2024[13]).

There are several reasons for the relatively low adoption of the e-naira including the devaluation of the naira and lack of trust in the technology. They also include infrastructure challenges (internet access and electricity supply for instance), and the need to enhance consumers’ education, as well as staff training to facilitate users’ onboarding. Interoperability with existing payment platforms has also faced challenges, constituting an additional barrier to adoption.

Bahamas, a pioneer experiment

The Bahamian Sand Dollar is the official Central Bank Digital Currency (CBDC) of The Bahamas. It was launched by the Central Bank in October 2020, making The Bahamas the first country in the world to introduce a fully operational CBDC.

Operating as a digital version of the existing fiat currency, and accessed through a mobile wallet application, the Bahamas Sand Dollar functions alongside physical banknotes and coins. Similar motivations as those applying in other emerging economies that launched or are testing CBDCs apply.

The Bahamian Sand Dollar is pegged to the US dollar; it cannot be used for cross-border transactions. Three years after it was launched, the sand dollar had reached USD 2.1 million in circulation, i.e. less than 0.5% of cash in circulation in the country. The need to educate consumers on the use of the Sand dollar is a barrier to adoption, as in other countries. The importance of the informal sector in the economy also plays a role as well as the deficiencies of internet infrastructure in several islands. To address this challenge, the central bank has been working on CBDC that could also be used offline. On privacy, as per the Central Bank, only banks and Payment service providers have access to the users’ identity; the latter will be known to the central bank only if there is an investigation for criminal activity (Ledger Insights, n.d.[14]).

Brazil and Pix’s success

In Brazil, as in many other emerging economies, the growth of digital payments has been driven by the increasing use of smartphones, the growth of e-commerce, and the government’s efforts to promote digital payments. The Central Bank of Brazil launched in 2020 a real-time payment system, Pix, that allows users to send and receive money instantly. Pix has been a game changer in Brazil’s payment eco system: as of 2024, it had become the most popular payment method, with over 120 million users.

Brazil expects to follow suit with its CBDC, Digital Brazilian Real, or DREX. The Brazilian Central Bank (BCB) is currently in the development stage. The Brazilian CBDC will be an extension of the physical currency, with its value equal to the Brazilian real. It will be based on a blockchain technology inspired by Ethereum (Reuters, 2023[15]). This means that the CBDC will be a digital currency that is secured by cryptography and distributed across a network of computers. The BCB will work with institutions to distribute and run the CBDC. There will be a limit on individual holdings. For the time being, the central bank is focusing on online transactions and domestic use of DREX (Banco Central Do Brasil, 2023[16]). The completion of the pilot phase initially scheduled for 2023 had to be postponed, which may delay the launch of Brazil’s CBDC until early 2025 (Economist Intelligence Unit, 2024[17]). While the fast adoption of Pix was remarkable, it remains to be seen whether DREX will manage to do as well.

Looking forward: Potential Impact of CBDCs

Central Bank Digital Currencies (CBDCs) have the potential to impact economies in several ways. While the specific effects will depend on the design and implementation of each CBDC, here are some general ways CBDCs could impact economies:

• Payment efficiency and financial inclusion: CBDCs can enhance payment systems, making transactions faster, more secure, and less expensive. They can provide greater financial inclusion by enabling individuals without access to traditional banking services to participate in digital payments and the formal financial system.

• Monetary policy and central bank control: CBDCs can offer central banks new tools for implementing monetary policy. With CBDCs, central banks can have more direct control over the money supply, as they can monitor and influence transactions in real time. This increased control can potentially aid in stabilising the economy and managing inflation.

• Reduced dependence on intermediaries: By allowing peer-to-peer transactions, CBDCs may facilitate direct transactions between individuals and businesses, potentially bypassing traditional banking intermediaries. This could impact the role and business models of commercial banks.

• Data collection and privacy: CBDCs could provide central banks with access to more comprehensive and real-time transaction data, which can improve economic analysis and policy making. However, the collection and use of such data raise privacy concerns. Striking a balance between data privacy and the benefits of data analysis will be a critical consideration.

• Cross-border payments and remittances: CBDCs could simplify and expedite cross-border transactions, reducing costs and settlement times, with positive implications for international trade and remittances, particularly for individuals and businesses in developing countries.

• Financial stability and systemic risk: CBDCs may impact the stability of the financial system. On one hand, CBDCs can enhance financial stability by reducing the risks associated with physical cash, such as counterfeiting and illicit activities. On the other hand, if CBDCs lead to significant shifts in deposits from commercial banks to the central bank, it could impact the banking system’s stability and liquidity.

• Technological innovation and digital economy: The introduction of CBDCs can drive technological innovation in the financial sector and promote the development of digital infrastructure. It may also foster the growth of digital economies and support the integration of new technologies such as smart contracts and programmable money.

The impact of CBDCs will vary across countries, depending on their specific economic structures, financial systems, and policy objectives. A critical factor of success will be the trust of the citizens in their currency and, most importantly, their governments.

The digital revolution offered emerging markets the opportunity to address major problems faced by their payment systems. They seized it. They have been at the forefront of mobile payments and are also more advanced in adopting Central Bank Digital Currencies. Time will tell if this new system helps them enjoy more stable financial systems and advance in financial inclusion and sustainable development.

References

[9] Atlantic Council (n.d.), Central Bank Digital Currency Tracker, https://www.atlanticcouncil.org/cbdctracker/ (accessed on 1 March 2024).

[16] Banco Central Do Brasil (2023), Drex – Digital Brazilian Real, https://www.bcb.gov.br/en/financialstability/drex_en (accessed on 1 March 2024).

[4] Carapella, F. (2024), Financial Stability Implications of CBDC, Federal Reserve Board, Washington, D.C., https://www.federalreserve.gov/econres/feds/files/2024021pap.pdf.

[7] Casanova, L. and A. Miroux (2023), Emerging Market Multinationals Report 2023: Risks and Realignments, Cornel S.C. Johnson College of Business, Ithaca, https://doi.org/10.7298/aqwm-7z64.

[17] Economist Intelligence Unit (2024), Brazil prepares to launch digital currency by early 2025, https://www.eiu.com/n/brazil-prepares-to-launch-digital-currency-by-early-2025/ (accessed on 1 March 2024).

[13] EOS Intelligence (2024), eNaira: Is It Here to Stay or Are Nigerians Going to Say ‘Nay’?, https://www.eos-intelligence.com/perspectives/technology/enaira-is-it-here-to-stay-or-are-nigerians-going-to-say-nay/ (accessed on 1 March 2024).

[5] Flemming, J. (2024), Implications of a U.S. CBDC for International Payments and the Role of the Dollar, FEDS Notes, Board of Governors of the Federal Reserve System, Washington D.C., https://doi.org/10.17016/2380-7172.3435.

[12] Gandhi, M. (2023), Future of digital currency in India, https://www.pwc.in/research-and-insights-hub/future-of-digital-currency-in-india.html (accessed on 1 March 2024).

[3] Jahan, S. (2022), Towards Central Bank Digital Currencies in Asia and the Pacific: Results of a Regional Survey, International Monetary Fund, Washington D.C, https://www.imf.org/en/Publications/fintech-notes/Issues/2022/09/27/Towards-Central-Bank-Digital-Currencies-in-Asia-and-the-Pacific-Results-of-a-Regional-Survey-523914.

[14] Ledger Insights (n.d.), Bahamas Sand Dollar CBDC has $ 2.1m in circulation after 3 years, https://www.ledgerinsights.com/bahamas-sand-dollar-cbdc-has-2-1m-in-circulation-after-3-years/ (accessed on 1 March 2024).

[2] Mohácsi, P. (2023), The Digital Economy’s New Monetary Imperative, https://www.project-syndicate.org/onpoint/cbdcs-have-become-a-political-imperative-by-piroska-nagy-mohacsi-2023-06 (accessed on 1 March 2024).

[8] Nambiampurath, R. (2023), WeChat Pay Integrates Digital Yuan App for Faster Payments, https://beincrypto.com/wechat-pay-integrated-digital-yuan-app-fast-payments/ (accessed on 1 March 2024).

[1] Prasad, E. (2021), The Future of Money: How the Digital Revolution Is Transforming Currencies and Finance, Cambridge, Massachusetts: The Belknap Press of Harvard, https://www.hup.harvard.edu/books/9780674258440.

[10] Reserve Bank of India (2022), Concept Note on Central Bank Digital Currency, RBI, Mumbai, https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/CONCEPTNOTEACB531172E0B4DFC9A6E506C2C24FFB6.PDF.

[15] Reuters (2023), Brazil central bank names its digital currency “DREX”, scheduled for 2024 launch, https://www.reuters.com/technology/brazil-central-bank-names-its-digital-currency-drex-scheduled-2024-launch-2023-08-07/ (accessed on 1 March 2024).

[11] Singh, A. (2024), India CBDC Insider Reveals Current Stance of Country’s Central Bank, https://www.coindesk.com/policy/2024/02/02/india-cbdc-insider-reveals-current-stance-of-countrys-central-bank/ (accessed on 1 March 2024).

[6] US Federal Reserve (2022), Money and Payments: The US Dollar in the Age of Digital Transformation, Board of Governors of the Federal Reserve, Washington D.C, https://www.federalreserve.gov/publications/files/money-and-payments-20220120.pdf.