As discussed in the newsletter this month that looked at CBDCs, with many stimulus packages announced, unemployment levels eclipsing those of 2008 in the US and debt rising to extraordinarily high levels, it’s no doubt we are in a time of crisis. It is difficult to find the silver lining in times such as these but one can look at history to find solace. Times of crisis often lead to significant and long lasting innovations. Could this crisis act as a catalyst for the adoption of Central Bank Digital Currencies (CBDCs)?

In 1941, Alan Turing became a huge asset for the Allies when he cracked the complex Enigma code and successfully decoded German communications. By the end of the war, Turing was working on the notion that a machine could plug into the speed and resilience of electronic technology. Hardware was developed, programming implemented and computer science was born.

Times of crisis have acted as a catalyst for innovations to be used in the wider public. In 1977, Citibank invested more than $100 million in the installation of ATMs in New York, seen as a huge gamble at the time. The decision paid off when the city was hit by a blizzard forcing banks to close. ATM use rose by 20%. However, the first ATM had opened in London ten years before, showing that innovations are sometimes adopted through necessity.

Let’s not also forget, Bitcoin was also created in 2008 as a reaction to the monetary policies implemented that year.

What innovation will come from COVID-19?

It’s very difficult to predict, but perhaps we can start by looking at the problems that have surfaced. Many small businesses in Europe and the US are at risk because they do not have enough runway money that lasts further than a month. Moreover, due to the pandemic, they may have to shift their businesses online, for which new monetary expenses may come up such as packaging and transportation (perhaps by a Courier Australia company or in another location), website development, POS system for safe transactions, etc. The issues don’t end there, online businesses may also need to implement new marketing and advertising strategies to improve sales and generate money so that they can keep the company running. If this isn’t possible, companies may need to fire a few of the employees as they may not be able to provide enough salary to the employee for a dignified living. To cope with such a financial crisis, employees may need to create a diverse source of income like stock market dividends, bonds, and games (if interested, check out real money earning games).

Because of this financial worry, taxes may also be concerning to these businesses as they have to make sure they are paying on time and the right amount. So they may utilize the resources of small business accountants Birmingham services or services within their location, to give them that support during this unbalanced time. In response to these monetary issues, the UK announced the CBILS scheme, and in the US small businesses have been allocated a total of $350 billion. In France, hardship grants of up to €1,500 a month have been made available to small business owners. However, central banks either cannot administer this funding fast enough or look to a third party to do so. In the UK many have not received the funds and in the US the packages are administered by fintechs such as PayPal, Intuit, and Funding Circle, services that come at a fee for central banks. Due to infrastructure, central banks across the world are either struggling to send funds to companies in a timely fashion or are hit by fees from the private sector to do so.

Could CBDCs be a solution to recently encountered problems?

What could be a solution? CBDCs. Central banks need a solution to bring efficiency with the transfer of value, and CBDCs bring this by utilising a shared infrastructure. CBDCs are gaining significant momentum, too. Since the outbreak of COVID-19, there have been some major movements from governments regarding CBDC adoption:

• 24 March: China completes basic function of ‘top priority’ digital Yuan
• 29 March: Digital Dollar mentioned in three bills in the US
• 1 April: Banque de France begins experimenting with digital euro
• 6 April: Deutsche Bank encourages CBDC developments
• 6 April: South Korea central bank plans to pilot CBDC
• 21 April: Dutch Central Bank wants to do a CBDC trial
• 11 May: European Central Bank steps up CBDC efforts

This is not an exception, either. CBDCs were building momentum before the outbreak. According to a 2019 report issued by the Bank for International Settlements (BIS), a Switzerland-based organization representing 62 of the world’s central banks, 70% of financial authorities worldwide were researching the potential effects that CBDCs could have on their economies.

Accessibility of private markets

In times of crisis private markets offer higher yields and very interesting opportunities for investors. It’s for this reason private markets have been booming for the last few years. Yet, due to the lack of a market infrastructure, private market investments are extremely localized and inaccessible – making it difficult for investors to find opportunities and troublesome for issuers to manage their investors.

Private markets would benefit significantly from the use of a shared infrastructure because there is a clear need from investors who want more data, more transparency and the ability to act rapidly. These needs become even more important in times of crisis. By applying trust, compliance and control on a shared infrastructure, market participants can unlock transferability and improve liquidity in an industry that has been starved of it.

Improved clearing process

Currently, clearing houses act as central counterparties to both sides of a trade and due to rules and regulations these actors are required to maintain records of information around transaction and counterparty risks, along with the cost of reconciling each party’s data at each step of the contract execution. This results in a process that leads to long settlement periods of T+2 or T+3, human error and a costly allocation of resources.

CBDCs would improve this process by acting as the catalyst for the use of a shared ledger used to reconcile records through cryptographic hashes. Transactional data can be instantly accessed and approved by authorised parties, drastically improving settlement times, accuracy and resource allocation.

Cap table management

Many processes within capital markets are manual. Cap table management is a notable example. Most companies have a paper-based registry of shareholders. Every time there is a change in the cap table, managers or agents manually update it. Corporate actions such as stock splits, communications and dividend payouts can further complicate matters when processed by manual methods.

Through the use of a blockchain, one can create a set of smart contracts that represent the assets and their investor eligibility rules and linking this to the company’s onchain identity, firms can benefit from a tokenized cap table. Business owners are now able to remove the burden of manually updating their cap tables by implementing a digital-first system that allows them to access real time information. Transfers become faster, cheaper and available on a digital interface.

Compliance enforcement

Due to rules and regulations, laws that are getting stricter every year, issuers are required to create, maintain store information on their investors. From the lack of infrastructure, each institution has to store this information on centralised networks, creating vast amounts of work duplication and wasted resources.

This process is improved drastically through the use of a shared infrastructure and the appropriate tools for actors to enforce compliance. Using signatures or cryptographic hashes allows data to be shared on chain whilst proving validity from KYC providers without sharing personal and sensitive information. Duplicate checks are not required, driving efficiency in the process. This is one particular area that could save the industry around $160 million annually in cost saving, according to Goldman Sachs.

Our Take

CBDCs will eventually unlock huge benefits for capital markets. When this will happen is not so clear but the race between governments is heating up. Stablecoins are gaining significant developments too. Total supply of the top five fiat-backed stablecoins has increased by over 25 percent, primarily led by U.S. dollar-pegged Tether (USDT) on the Ethereum network, with over $1.5 billion in issuance since March 12. It’s difficult to say exactly when digital currencies will achieve mainstream adoption but for sure a race is ramping up between the major global economies. COVID-19 could be just the crisis CBDCs have needed for major economies to spring into action.