What are Central Bank Digital Currencies (CBDC): Beginner’s Guide

Dany Chetverikov
December 24, 2020
What is CBDC

Experts say that the emergence of Central Bank Digital Currencies (CBDC) is one of the most important trends that will determine the future of money in the next decade. According to the report of the Bank for International Settlements (BIS), 80% of central banks are already engaged in researching CBDC. The coronavirus pandemic also speeds up the work on creating CBDCs in different regulations.

Why are governments all over the world obsessed with CBDCs? How do they differ from fiat, what types exist, and what country will be first to introduce them? Read this article to find out!

CBDC vs Digital Money

The concept of CBDCs was directly inspired by the rising popularity of cryptocurrencies. However, the difference between those two concepts is very clear. Crypto is money that is decentralized (more or less). The central bank digital currencies are, by definition, controlled by the national bank. 

In essence, CBDC is not a cryptocurrency. It is a national digital currency that is issued by the central bank and has the status of legal tender. It may be backed by blockchain technology, but that is not the general requirement. It will not be fully private. It will not be permissionless. It will not enforce a specific and limited inflation schedule.

What is the difference between CBDC and the fiat we use now?

  • CBDC is designed to increase stability in the financial sector. It will boost the competition between banks, fintech companies, and cryptocurrencies. So in simple words, it will put national currencies on the same technological field as crypto. 
  • CBDC will increase financial inclusiveness as it offers a payment infrastructure with lower transfer costs. In some iterations, even offline payments will be possible. 
  • It is easier for central banks to operate in a digital economy – faster services, more manageable flow of cash, and simpler to monitor. 
  • CBDC will expand the fiscal policy tools available to regulators. For example, to avoid the so-called “zero lower bound”. CBDC’s programmability and transparency will make it easier for regulators to control the economy. More transparent data on payment flows will improve the quality of macroeconomic statistics.

Zero lower bound: a macroeconomic problem that occurs when the short-term nominal interest rate is at or near zero, causing a liquidity trap and limiting the central bank’s capacity to stimulate economic growth.

  • CBDC will encourage the use of local currency to pay for goods and services. It is especially important in countries with dollarization problems.

Dollarization: A process when the national currency is substituted by the dollar (or any other international currency) in the role of medium of exchange and/or legal tender.

  • The wholesale (for banks only) version of CBDC will reduce settlement risks, provide 24-hour access to liquidity for banks, and reduce costs in cross-border transfers.
  • CBDC is considered to be more secure since it is harder to counterfeit and use in tax evasion or money laundering. However, it largely depends on the technical implementation of an asset. CDBC can be centralized but backed by the blockchain, making the security level very high. If fully centralized, the currency will be more vulnerable to hacker attacks. 

Central banks have been using the virtual forms of national currency for decades. In fact, most of the cash that central banks emission and transfer is made in the non-physical form. Why do we need the CBDCs all of a sudden?

The recent global trend to research the CBDCs is the need of the industry to technologically upgrade the economic sector, inspired by the success of crypto market. Despite the CBDCs going against the basic principles of crypto (decentralization, anonymity) there are still many benefits that digital national currency can offer.

The motivation for CBDC research and development varies depending on the jurisdiction. In developed economies, central banks see CBDC as a means of improving security and resilience, as well as the efficiency of domestic payments and achieving financial stability. For central banks in emerging economies, the most important factor is increasing financial inclusion among citizens.

Comparing different types of currencies as a radar graph. Source: IMF

Types of CBDC

It is important to understand that the CBDC is still a very young industry that hasn’t fully launched in any country yet. Therefore, there is no single generally accepted CBDC classification. The key parameters by which central banks divide the CBDCs new are: 

  • Architecture
  • Infrastructure
  • Technology and conditions to entry
  • Anonymity
  • Domestic and/or cross-border

The architecture is the basis that distinguishes one type of CBDC from another. Depending on the architecture, researchers highlight two main categories: W-CBDC (wholesale, commercial) and retail CBDC (general purpose).

Commercial (W-CBDC)

The wholesale version of CBDC is a payment system managed by central banks. It is available only to a small pool of participants, such as financial institutions that hold funds in central bank accounts and professional market actors. Think of W-CBDC as corporate bank deposits in central banks.

W-CBDC Pros:

  • Manageable money demand
  • Flexible monetary policy
  • Financial stability
  • 24/7 liquidity
  • Cheap international transfers;

W-CBDC Cons:

  • Very limited to interbank transactions, transfer settlements, and international trade where banks often act as escrows.

The wholesale CBDC model is most popular among central banks in leading economies since their retail payment systems are already quite effective, operate almost instantly, and are always available. Also, most citizens have access to banking services. 

For developed countries, W-CBDC will speed up financial operations, improve security, and reduce costs. For example, a direct link between stock markets and cash platforms will increase the speed of transactions and eliminate settlement risk. W-CBDCs also simplify cross-border payment infrastructure by reducing the number of intermediaries. 

Real-time monitoring and tracking options, as well as money supply control, will help banks and regulators to combat money laundering and tax evasion.

W-CBDCs can also be built using distributed ledger technology (DLT). It will add some “smart” features to commercial CBDCs. For example, they will be able to deliver targeted financing and use conditional (personal) interest rates.

Retail CBDC

Retail CBDC is a digital currency available for wide use by individuals and legal entities. They serve as a substitute (or supplement) for cash and an alternative to bank deposits.

Although there are different variations in the retail digital currency model, most central banks highlight the following key characteristics:

  • Retail CBDC is a new form of central bank money issued and controlled by the regulator. 
  • All citizens, companies, and government agencies should accept digital currency as a means of payment
  • The central bank distributes the CBDC in a one-to-one ratio with fiat currency and must be freely convertible into cash.
  • The CBDC must operate on an open infrastructure that allows private companies to create new products and services.
  • The cost of the transaction should be lower than the existing systems.

The concept of retail CBDC is relatively popular among central banks in emerging economies. Financial institutions in those governments seek to play a leading role in the fast-growing fintech industry. Their main goal is to introduce financial inclusion, foster the shift towards a cashless society, and reduce the cost of issuing and processing money.

Central banks in developed countries are not particularly enthusiastic about retail CBDCs. That’s because they don’t want to create competition between the central bank and the developed private sector, considering the potential benefits of using retail digital currencies to be limited. In their view, introducing retail CDDCs is too bold (or premature) step.

Countries leading the CBDC adoption

In 2017-2018 the public statements of central bank governors and board members about Central Bank Digital Currencies were mostly negative, especially with regard to retail CBDCs. The rhetoric began to change in late 2018. Currently, they view CBDCs more positively. Central banks representing one-fifth of the world’s population said they are likely to issue CBDCs in the next five years.

Since late 2018, central bank governors have viewed CBDC more positively. Data: BIS (Bank of International Settlements)  report from August 2020.

As of mid-July 2020, 36 central banks had published papers looking at retail or wholesale CBDCs. At least three countries (Uruguay, Ecuador, and Ukraine) have completed retail CBDC pilots. Six more retail CBDC pilots are underway: in Sweden, South Korea, the Eastern Caribbean Currency Union, the Bahamas, the People’s Republic of China, and Cambodia.

As of summer 2020, 18 central banks have published studies on retail CBDCs, and 13 banks have announced studies or development of wholesale CBDCs. Data: August 2020 Bank of International Settlements report.


Perhaps the most CBDC buzz is now focused on what the digital currency of the world’s second economy will be. According to a report by The Block, the development of the “digital yuan” (the official name is Digital Currency, Electronic Payment, or DCEP) began back in 2014.

In summer 2020, several cities launched a pilot experiment. It allows residents to pay with digital yuan for small purchases in catering, retail, and education. More than 20 companies and four state banks participate in the test. The Central Bank of China is also planning to use digital yuan for taxi services and large commercial transactions.

Judging by the experiment, the digital yuan will become a full-fledged substitute for cash. China has all the conditions to apply CBDC on a full scale –  it has the largest mobile payment market with more than a billion users.

According to The Block, the architecture of the digital yuan will allow the central bank to control the issuance, operation of the main registry and anonymity issues. Commercial banks will serve as wallet providers and the infrastructure for transactions.

 The DCEP architecture plans to incorporate “controlled anonymity”. This is evident from the patents of the People’s Bank of China. This means that different participants in the system will have limited information about each other. However, this is China, so government agencies will be able to easily obtain any data they need. Another key characteristic of the digital yuan’s “cash” should be offline transactions.

Experts believe that the Chinese authorities should define a strategy to bring the DCEP to the market in 2021.

In addition to domestic use, China could use the digital yuan to replace the U.S. dollar, which dominates international payments. To do so, the DCEP should, in particular, become a competitor to SWIFT. The upcoming 2022 Winter Olympics in Beijing should be a great field to test the DCEP on foreign audiences.

As for the largest economy and the main theoretical competitor of digital yuan, the U.S. Fed has so far taken a “conservative approach” to CBDC.


Sweden was one of the first countries whose authorities developed the CBDC solutions. The reason is the extremely low use of cash in the country. Physical money accounts for only 5% of all household payments, while 60% of people use cards. 

The testing stage of the digital krona (e-krona) began in 2017. After three years of studies, it entered the pilot stage. The Accenture company assists the Swedish government in the development of its CBDC. The company records the payments, deposits, transfers, and other transactions on the R3 Corda blockchain.


Uruguay is among the top economically developed countries in Latin America. The government piloted its own CBDC (e-peso) from September 2017 to April 2018 among regular consumers and businesses. Instead of using a distributed ledger technology, the state-owned telecommunications company Antel operated the digital wallets.

The e-peso system provided for anonymous transactions and transfers without an Internet connection, and each e-peso “banknote” had a unique cryptographic signature. Now the results of the project are being evaluated in terms of user anonymity, the possibility of introducing interest instruments, and the overall impact on the economy.


Another European country that is actively developing retail CBDC is Ukraine. The National Bank of Ukraine (NBU) successfully tested the “digital hryvnia” during the four months of 2018. During the test, the NBU released 5,443 electronic hryvnias on 79 mobile wallets.

Users could transfer digital money between wallets, add balance on mobile numbers of the LifeCell operator, and make charitable donations.

The regulator built the system on a private version of the Stellar protocol. It had two levels: 1) internal, where the NBU managed the register; 2) external, where banks and financial institutions managed the transactions. As a result, NBU stated that Stellar is unsuitable for a national-scale system, but has not yet named an alternative.

Now the Ukrainian central bank is studying both the centralized and decentralized model of the digital hryvnia system. Bahamas Central Bank (Sand Dollar) and the Eastern Caribbean Central Bank (DXCD) also launched similar projects.

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