Bryant Nielson | March 27, 2023
As central banks are intensifying their research on the Central Bank Digital Currencies (CBDCs), the CBDCs’ international dimension to facilitate cross-border payments will be huge. While most of the CBDCs focus more on domestic payments globally, a few central banks are currently in collaboration to explore and research the use of CBDCs for cross-border payments.
The G20 has prioritized cross-border payments, with CBDCs emerging as the top-most area of interest. As many countries are set to assume the presidency of the G20 in the coming year, this would become a golden chance for many countries to lead the CBDC and cross-border payments discussions.
What value do CBDCs bring to the market?
Before getting into the details for cross-border payments via CBDCs, let us quickly read why CBDCs are important.
Although the implications of digital currency can only be evaluated vaguely at this point in time, the influence from financial stability and monetary policy perspective could be significant, presenting both benefits and risks. CBDCs can potentially affect the economic ecosystem of any country substantially. However, for optimal design purposes, Central Banks need to have a cost-effective analysis, eliminating potential unintentional side effects. Cutting out the negative part, here are some of the values that CBDCs have to offer.
- Low cost: CBDCs can lower the transaction costs for institutional and retail payments.
- Financial inclusion: CBDCs can improve digital payment accessibility for users who do not hold a bank account.
- Economical: CBDCs are cheaper than cash, avoiding storage, production, disposal, and transportation that is associated with the making of physical currency.
- The minimum risk involved: CBDCs are much safer to use than physical cash because they have the potential to reduce fraud and money laundering issues in the financial market.
- Innovative: Digital money is technologically sound as they do not require any intermediaries (read further for details), improving the cross-border payment systems in terms of speed and settlement.
- Increased competition: CBDCs can give an edge in competing with the payment systems, thus necessitating the players for innovation. It can make the banks compete to attract deposits that are migrating to CBCDs.
- Liquidity: CBDCs offer 24/7 accessibility in assisting short-term liquidity, even on bank holidays.
Domestic CBDC payments and cross-border considerations
As we said earlier that most CBDCs are focused on domestic payments, but improving the cross-border payment process also has the same importance for CBDC work.
Cross-border payments are an essential aspect of economic growth in a globalized economy, including remittances. Today, most remittances are sent abroad through money transfers, trying to leverage their global network in the retail market. However, there are some issues with international money transfers that can be well-taken by implementing CBDCs for cross-border payments. These issues are as follows:
- High transfer fees
- No guarantee of the money reaching the recipient in full.
- Lack of interoperability in the international transfer between the domestic payment transfer systems
In this context, implementing CBDCs for domestic and cross-border payments would simplify the transfer process by enhancing their performance and making their settlement readily available 24 hours, for 7 days a week, even outside closed-loop solutions or money transfer operators controlling end-to-end payment.
Furthermore, the issuance of CBDCs for making payments cross-border would help in simplifying the intermediation chains, lower the transfer costs and increase speed. Therefore, cross-border payments through the Central Bank Digital Currencies can be visualized differently. For example, the CBDC systems’ interoperability can be examined for reducing the existing restrictions to facilitate cross-currency and cross-border payments.
The role of intermediaries in creating cross-border payments
Initially, the role of intermediaries in cross-border payments emerged out of necessity to fulfill the essential function to complete a transaction, also called a transaction chain. Over time, these intermediaries have evolved from developing paper bills for exchange in the middle ages to financial intermediaries offering a range of settlement, cross-border payments, and clearing services. The use of intermediaries in making cross-border payments entirely depends on how the payment is being processed. Since intermediaries are dominant in the most typical back-end model, the correspondent banking model, streamlining such a complicated structure could enhance the costs, speed, and transparency of cross-border payments.
The role of intermediaries in the CBDC transaction chain
We know that CBDC is an excellent solution to enhance cross-border payments. Keeping this in mind, the model of cross-border payments through CBDCs looks more like a peer-to=peer arrangement that connects the payee and the payer via a peer-to-peer payment system instead of a correspondent banking arrangement. As an outcome, CBDCs could remove the use of intermediaries, thus simplifying the cross-border payments settlements. However, the CBDCs making cross-border payments accessible and convenient depends on what design the central banks choose for minimizing the number of intermediaries in cross-border transfers while keeping intact the benefits of intermediaries to businesses and consumers.
