The pros and cons of digital currency

The global outbreak of Covid-19 ushered in a lot of digital transformations in many sectors. Central banks have been in discussions since then, on the feasibility of introducing central bank based digital currencies.

The main motivation for the proposed introduction is to take advantage of technological advancements that support the implementation of digital currency.

A central bank digital currency (CBDC) is a new type of money issued by a central bank — such as the Central Bank Of Kenya — and that is intended to serve as legal tender. In as much as CBDCs will probably use the same technology as cryptocurrencies, they differ in terms of legal banking.

A CBDC will be regulated and will be based on the value of the Kenya shilling. A cryptocurrency is however largely unregulated and its value is not tied to any asset. Its value largely depends on speculation by investors. Furthermore, cryptocurrencies are not centralised, unlike the CBDC which is centralised.

Some countries like El Salvador recognise cryptocurrencies as legal tender. In Kenya, however, caution was issued by the Central Bank over the usage of cryptocurrency. However, a large number of Kenyans continue to trade in cryptocurrencies.

Kenya is in discussions over the possible introduction of a CBDC, the Sand Dollar, that has already been launched in the Bahamas.

Nigeria is the first African country and one of the few in the world to introduce a CBDC known as eNaira.

The eNaira is a digital wallet whose implementation is facilitated by a smartphone. Kenya is at discussion stage especially considering that the country already has a form of mobile money.

Kenya was the global pioneer in mobile money through the M-Pesa platform. M-Pesa market penetration stands at almost 70per cent.

A South African professor has questioned the need for a CBDC in Kenya considering the high market penetration of mobile money platforms.

There are many advantages and risks posed by CBDCs. According to a study, CBDCs are yet to establish that the benefits of introduction outweigh the risks. One of the advantages is that CBDC will cut out middlemen like banks in commercial transactions.

This is a double-edged sword because the banking industry may be negatively impacted by the introduction of the CBDC. The consumer may be protected from adverse effects such as the collapse of banks.

However, the CBDC’s negative effect on the banking industry may adversely impact the economy. The CBDC is open to cyberattacks and data privacy breaches. CBDC usage will however support commercial transactions like smart contracts and others.

The motivations of the introduction of CBDCs may guide the benefits that it will bring in any country. In Bahamas for example, the CBDC is very beneficial due to the large percentage of unbanked population. The introduction of digital currency will have an effect of looping in the unbanked population.

In Kenya, the situation is not the same due to the high market penetration of mobile money and financial services. Therefore the impact of CBDC may not be so high. However, from the discussion paper by CBK the main aim of launching CBDC in Kenya is to foster cross-border transactions.

In the event CBDC is introduced in Kenya, a lot of legal reforms have to be undertaken. For example, the Central Bank Act defines legal tender as notes and coins. The Act may have to be amended to support the introduction of CBDC. I suppose that the CBDC will be backed by regulations to support its rollout.

The CBK is currently inviting comments from the public.