China is making pace with the release of CBDC, testing infrastructure prior to adoption

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The yuan is not considered to be a major currency. Could the digitization change that? China is breaking new ground in and beyond the Shenzhen region.

The COVID-19 crisis did little to dampen China’s interest in becoming the first major economy to distribute the digital currency of the central bank. On the contrary, its digital currency/electronic payment project appears to be speeding up.

In the Shenzhen region, for example, 100,000 locals received a total of $31 million digital yuan through a lottery free of charge this month, and now residents can use ATMs to convert digital yuan to cash on a test basis.

Meanwhile, China’s Postal Savings Bank has reportedly developed physical wallet cards to store digital yuan, something that is useful for elderly people who are not always comfortable with electronic currency. The government, which appears to cover all eventualities, has recently enlisted Alipay’s payment platform in the construction of digital yuan systems in the Shanghai area as well.

Why all the rush?

Kevin Desouza, Professor of Business, Technology, and Strategy at the Queensland University of Technology, said to Cointelegraph: “China is accelerating its pace of development of its CBDC. Simply put, they see this as a critical competitive advantage in the digital economy.” Given the nature of China’s markets and governance and its determination to gain a “first-mover” advantage in the CBDC race, “we can expect China to triple this forward-looking effort.”

Eswar Prasad, Professor of Economics at Cornell University and Senior Fellow at the Brookings Institution said to Cointelegraph: “China has made significant progress in establishing and refining the design and conceptual framework for its CBDC” and has brought “the shift from physical to digital versions of central bank retail money much closer to reality.”

When fully rolled out, the digital yuan will be used as the M0 currency—i.e. cash in circulation, like coins and notes, according to an official of the People’s Bank of China. The preparation was extensive, with 2020 pilot tests in four regions—Shenzhen, Suzhou, Xiong’an, and Chengdu, plus the Winter Olympics—while the 2021 agenda calls for testing in five regions—Shanghai, Hainan, Changsha, Qingdao, Dalian, and Xi’an. According to the Beijing Review, the emphasis has been placed on usability in these test areas.

A key phrase from the report stated that “both mobile phones were offline.” China’s digital yuan will not require an internet connection, something viewed as critical in a land where many remote areas still have no or spotty internet access.

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Challenges like interoperability and privacy remain

However, China has not resolved all the problems associated with the CBDC. “There are still important issues that need to be addressed in terms of scalability, interoperability, and transactional privacy for DC/EP users,” said Prasad to Cointelegraph.

Yu Xiong, International Associate Dean at Surrey University and Chair of Business Analytics at Surrey Business School said to Cointelegraph: “There will still be some technical issues before full implementation, but the main issues have already been addressed during the test period.”

Chinese consumers are flexible when it comes to applying new payment methods, and the digital yuan wallet is expected to be similar to those already widely used in China on non-bank payment platforms such as Alipay or WeChat Pay, Xiong explained. Users will download digital yuan wallets to their smartphones where they can store their digital currency. “All major online trading and communication platforms will follow, so the infrastructure will not be an issue,” he added.

Essentially, a user won’t have to open a bank account to get started—just provide a unique form of identification, such as a driver’s license or a cell phone number. The digital yuan would be an event of some social importance for China, Xiong suggested, because it could bring many poor people into the financial system and reduce poverty.

Monetary surveillance

Elsewhere, China is already mostly cashless, so the digital yuan will not bring dramatic changes to the retail sector. But as for reasons beyond social equity, why China is so committed to a digital yuan, Desouza said to Cointelegraph:

“The reason for China’s investment in this is to increase the credibility and universality of their currency. Today, the yuan is not seen as a major currency. However, in the future, they see the CBDC taking a leadership position in the digital currency market.”

There is also a practical reason. Desouza suggested that the CBDC would increase the ability of the central bank to monitor and control the flow of money between citizens. In fact, a digital yuan appears to be a double-edged sword. Enabling the government to track the flow of money could be useful for combating corruption, as Xiong said, and would also “help the government monitor the financial system and reduce the chance of a financial crisis.”

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Digital yuan could reduce certain investment risks, for example, by continuing to build mammoth residential complexes in so-called “ghost” cities—i.e. under-occupied developments.

But perhaps these advantages come at the cost of sacrificing privacy and even some basic freedoms. Political critics or dissidents could be more easily denied access to the finance system if all cash flows could be tracked—as they could with the CBDC.

During recent protests in Hong Kong, protesters waited in long lines to purchase subway tickets with cash—fearing that, otherwise, the authorities would be able to track them down to the demonstration site and take punitive action, Marta Belcher, a Ropes & Gray lawyer, told Fortune Magazine, adding: “A cashless society is a surveillance society.”

Sidharth Sogani, CEO of crypto and blockchain research firm Crebaco, even sees a bitcoin (BTC) aspect in China’s drive to digital yuan. He believes that China has not switched to decentralized crypto, but that the software, hardware, and mining industries have been allowed to grow. “At the moment, the majority of bitcoin is mined in China—so I see an ulterior motive behind being aggressive with their CBDC. Perhaps it would make it possible for China to trade BTC more efficiently,” he said.

Can it be replicated elsewhere?

At this point, the PBoC has accumulated a wealth of data on how consumers would actually use a digital currency. The central bank provided employees in the Shanghai hospital with the above-mentioned plastic cards holding digital yuan to order meals in the staff restaurant, for example; and, at the beginning of January, Alipay tested the digital yuan in the Shanghai shopping center, placing signs in the beverage stores where consumers could use the usual Alipay scan code function—only by selecting a yuan pay opt-out. Will other countries now draw on the experience of China as they build their CBDCs?

A DC/EP-type project could be replicated elsewhere, Xiong said, but it would take time for acceptance, as with mobile payments. China can quickly adapt to the new payment method because its banks and e-commerce platforms can be easily synchronized. Xiong has outlined:

“But most of the Western countries could not enforce a new policy/technology smoothly. So, the DC/EP model will be carried out first in China, and other countries will have to gradually grow the users and infrastructure, which will take time.”

Is the U.S. dithering?

Does it really matter if China comes to market first among the large digital currency economies? The Bahamas, a small West Indies nation, launched the first CBDC available to all residents in October—so that China will not be the first country overall. “In CBDCs, it will have the first-mover advantage,” said Sogani. “If a U.S. [digital] dollar comes after two years, they may lose the market.”

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Others aren’t so sure. “It will hardly put a dent in the dollar’s status as the dominant global reserve currency,” Prasad told Cointelegraph. “The dollar’s strengths lie not just in the depth and liquidity of U.S. financial markets but also the institutional framework that underpins the currency’s status as a safe haven.”

Neha Narula, director of the Digital Currency Initiative at MIT Media Lab, said in November: “They will be able to see all the payments that people make and gather information about all these payments. That’s—[it] might make sense in China. But I don’t think it makes any sense in the United States… And we’ve got to think about how to design the system so that’s not the case.”

In sum, even if China is already a mostly-cashless society, especially in its cities, it continues to methodically roll out the digital currency of the central bank on a scale not previously seen, both for internal reasons—like broader social equity and the ability to exercise more financial and political control—but also because it realizes that global leadership means having a world-class c.

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