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Can Central Bank Digital Currencies Replace Stablecoins?

Image Credits: Forbes (Image Modified)

The rapid rise in circulation of stablecoins over the past couple of years and the popularity of Central Bank Digital Currencies (CBDCs) of various countries has raised questions on what the outcome of both would be in future. While cryptocurrency is reputable for its innovation in ushering in a new era of financial inclusion, it is, however, not without its shortcomings as various countries are beginning to clamp down on it. This article explores the meaning of both currencies, the relationship and the likely co-existence of both in the future. Let’s dive straight into it.

What are stablecoins?

Stablecoins are cryptocurrencies that seek to regulate the crypto market by offering price stability, especially during market volatility. Let’s skip the grammar and technical definitions. In simple terms, stablecoin is like a referee in a football match; despite the fun and enthusiasm, it does not get carried away and ensures stability. A popular stablecoin is Tether(USDT), whose price is pegged to the US Dollar. Some have their prices pegged with other assets such as gold, forex reserves, other cryptocurrencies. It is common knowledge that cryptocurrency is highly volatile; prices go high and drop from time to time. Stablecoin is important because of the way it stabilizes the market during volatility. 

CBDCs explained

Central Bank Digital Currencies are innovations that have gained wider popularity in recent months. It refers to a virtual form of fiat currencies. CBDCs are pegged with a country’s official fiat currency i.e., e-naira. Most CBDCs arose out of the need to nip the menace of cryptocurrencies in the bud. Thus, it is issued and regulated by the nation’s highest monetary authority or a central bank with the full backing of the government. 

Can stablecoin and CBDCs co-exist?

It might be too early to make clarifications on the future CBDCs and stable coins since most CBDCs arose out of the government’s aversion to cryptocurrency. However, a strong case can be made for their co-existence; they provide separate services such as DeFi services and liquidity provisioning as well as direct access to the country’s official fiat currency. It is needless to state that stablecoins serve as the motivation behind the development of CBDCs, for the latter to keep evolving into easy-to-use options, stablecoins must play an important role in its development. Since CBDCs already have the backing of the government, it is treated as the digital equivalence of the country’s official currency that can be used to purchase goods, settle bills and un day to day activities. Unlike stablecoins, it is not an asset. Both have different functions, although they are similar it is common knowledge that nothing similar is the same. 

Co-existence between stablecoin and CBDCs: what experts have to say

Speaking with KoreaHerald, Nelson Chow, chief fintech officer of the Fintech Facilitation office at the Hong Kong Monetary authority stated why both CBDCs and stablecoin will co-exist by calling them ‘two different animals.’ He stated that they will coexist because cryptocurrencies(stablecoin) are not solving payment problems, rather, they are used as a means of storage. This is different from the decades-old problems of cross-border transactions that CBDCs seek to achieve. 

John Kiffmeiste, a former senior financial sector expert at International Monetary Fund (IMF) holds a dissenting opinion. He stated that the emergence of CBDCs projects would make crypto-assets obsolete. To avoid this, he explained that since legislative walls are beginning to close against crypto assets, they will begin to operate under the rules that other conventional assets operate within. When this occurs, both will co-exist. 

This assertion was further corroborated by a report of the G7 Working Group on Stablecoins that was conducted to investigate the impact of global stablecoins. The report states that the components (such as the issuer and market-makers) within stablecoins may be complex, thereby leading to fragilities if the relationships between the components remain unclear. Also, that the purchases of safe assets of stablecoins reserve could lead to a shortage of high-quality liquid assets thereby affecting financial stability.  Due to this, it recommends that stablecoins should be regulated. 

The importance of competition cannot be overemphasized – irrespective of the sector that is being examined. Going forward, there will be uncertainties in the crypto and financial industry at large, these gaps will be filled by the coexistenceco-existence of both CBDCs and stablecoins.

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