Huang Yiping: Some Speculations and Thoughts on Central Bank Digital Currency and Cryptocurrency

Author: Huang Yiping (Chairman of the Academic Committee of CF40, Director of the Digital Finance Research Center at Peking University, former Monetary Policy Committee Member of the Central Bank)

Source: China Finance 40 Forum

The following is the keynote speech delivered by the author at the "Bund Roundtable: Central Bank Digital Currency: Trends and Prospects" during the plenary session "Fintech: Digital Technology Releases Digital Productivity" at the Fourth Bund Financial Summit on December 11, 2022. It has been translated and organized by the Secretariat of the China Finance 40 Forum, with subheadings added by the editor (China Finance 40 Forum).

I. The Design of Central Bank Digital Currency Needs to Consider Multiple Dimensions

The People's Bank of China has been promoting the digital renminbi since 2014 and has been piloting it for several years. According to the "Digital Renminbi White Paper," there are three main reasons for promoting the digital renminbi: first, to provide multiple forms of currency, with digital currency serving as a supplement to paper currency. Second, to enhance the inclusiveness and security of the financial system, improving payment efficiency and the fairness of payment services. Third, it may be used in the future to support some form of cross-border payments.

In unofficial discussions, there are other speculations. The first suggests that the digital renminbi is intended to replace existing mobile payment services. The second suggests that the digital renminbi is meant to centralize payment data within the central bank. The third suggests that the digital renminbi aims to promote the internationalization of the renminbi, thereby replacing the US dollar. However, these claims are not accepted by official sources.

Central bank digital currency is one of several new trends that have emerged recently. The benefits and costs of central bank digital currency ultimately depend on the design of the digital currency system.

The design of the digital renminbi is clear. It is a central bank digital currency aimed at individual users, featuring a two-tier distribution mechanism that is loosely coupled with bank accounts. This means that users can make small payments directly using tokens without paying interest. My personal understanding is that the primary motivation behind the design of the digital renminbi is payment. This is also why some official statements indicate that the digital renminbi is mainly a substitute for M0, rather than M1 or M2. The design of the central bank digital currency with "two-tier distribution + no interest payment" is also important, as it minimizes potential impacts on financial intermediaries like banks, which is crucial for all central banks.

When designing central bank digital currency, trade-offs need to be made, such as privacy protection. If privacy protection is inadequate, the public's willingness to use central bank digital currency may decrease. I once heard a story about some small street shops refusing to accept mobile payment tools because they heard the government was going to tax online payment transactions. It is undoubtedly necessary for digital transactions to be included in the national tax system. However, the above example clearly shows that both positive and negative incentives can change people's behavior patterns. Some believe that central bank digital currency may enhance financial efficiency and increase the velocity of money circulation, while others believe it may lead to disintermediation of banks, thereby raising financing costs and slowing economic growth. The final outcome will depend on the specific design of the central bank digital currency. The same applies to financial stability. Whether central bank digital currency will trigger new financial risks and whether it will help central banks more accurately monitor and mitigate new risks also depend on the design of the central bank digital currency.

II. Outlook on the Future Development Trends of Digital Renminbi

There are various speculations about the future development trends of digital renminbi. First, currently, the digital renminbi is only aimed at individual users, but it may be expanded to institutional issuance at some future stage. Second, the current application scope of the digital renminbi is limited to domestic use, but the People's Bank of China has already participated in the Bank for International Settlements' multilateral central bank digital currency bridge (mBridge) project. At some future stage, cross-border payments may become an important function of the digital renminbi. Third, the People's Bank of China currently does not pay interest on the digital renminbi, but the possibility of considering interest payments at some future stage cannot be ruled out. Fourth, whether private institutions may issue stablecoins backed by digital renminbi is a very sensitive issue, but it is at least worth considering what the pros and cons are.

The digital renminbi has been piloted for several years but has not yet been widely adopted. Quoting Mu Changchun from the People's Bank of China's Digital Renminbi Research Institute, three things still need to be advanced: first, to develop a more comprehensive ecosystem and build extensive usage scenarios nationwide; second, to further optimize the system to ensure financial stability and security; third, to establish a more complete legal and policy framework to manage the use of digital renminbi.

III. The Need to Emphasize the Balance Between Data Security and Productivity

From the current landscape of China's mobile payment system, there are two main payment platforms: WeChat Pay and Alipay. Both systems are relatively independent; an Alipay account can only transfer money to another Alipay account. Therefore, although the data in Alipay and WeChat systems are complete, they are mutually isolated. However, based on this data, the platforms have derived many new businesses and products. The relatively mature big data credit risk assessment, for instance, first utilizes data from the ecosystem to assess credit risk for credit white users and provide credit services. Of course, some may also worry about whether data being held by private enterprises will lead to issues regarding user rights protection.

Thus, there is speculation that one of the motivations for the central bank to develop the digital renminbi is to centralize payment data. In the digital renminbi system, nine authorized institutions each develop digital wallets, and these wallets can complete payment transactions, such as a buyer transferring money from an Industrial and Commercial Bank wallet account to a seller's Alipay wallet. The difference in this process compared to the current transfer from one WeChat Pay to another is that the Industrial and Commercial Bank only holds half of the transaction information, while Ant Group only holds the other half of the payment information. This way, transaction data is fragmented. However, the central bank will have the complete set of data, which, objectively speaking, may be beneficial for data security and information protection.

At the same time, a new question needs to be addressed: when all data is centralized in the central bank, will the central bank pay more attention to data security rather than fully leveraging the productivity of big data analysis? Clearly, this is also an important trade-off issue.

The suggestions made by Tobias Adrian, Director of the Monetary and Capital Markets Department of the International Monetary Fund, regarding a multi-country collaborative payment platform are worth noting. On one hand, if this platform is established, it may provide a new infrastructure for payments between countries. On the other hand, this platform could also support international data exchange, allowing countries to retain their own data while using services without providing raw data, such as exporting algorithms, verification, or other services.

IV. The Need for Updated Regulation of Cryptographic Assets in the Future

Finally, regarding the stance on cryptocurrencies, several factors need to be considered. First, cryptocurrencies like Bitcoin are not strictly currencies but more like digital assets, due to their lack of intrinsic value. More importantly, research shows that about a quarter of Bitcoin account holders and half of trading activities are related to illegal transactions.

Second, the regulatory attitude towards cryptocurrencies and digital assets depends on the maturity of the financial system and regulatory framework in the respective country. It is well known that the Chinese government currently prohibits cryptocurrency trading in China. The main reason is that our country still faces significant challenges in anti-money laundering. Additionally, our country retains many capital account control measures; if digital assets like cryptocurrencies could be freely traded, the problems arising would far outweigh the benefits.

Finally, long-term trends need to be fully considered. Prohibiting cryptocurrencies may be practical in the short term, but whether it is sustainable in the long term deserves in-depth analysis. Some new digital technologies brought by cryptocurrencies are highly valuable to the formal financial system, including tokenization, distributed ledgers, blockchain technology, and so on. If cryptocurrency trading and related activities are prohibited for a long time, it may lead to missed opportunities for important digital technology developments, and prohibition may not necessarily be effective in the long term. There is currently no particularly good approach to regulate cryptocurrencies, especially for a developing country, that can ensure stability while also being effective, but ultimately, an effective solution may still need to be found.