Digital currency good for poverty war

In the past week, many people have been asking what the central bank digital currency (CBDC) is all about and how it will be different from the current fiat currency.

Nonetheless, a discussion paper on CBDCs by the Central Bank of Kenya (CBK), which invites public comments, has set in motion the digitalisation of currency in Kenya.

In other words, Kenya is developing a digital form of its fiat currency, which has been synonymous with the CBK. Instead of printing cash, the CBK will be issuing electronic coins or accounts backed by the government's full faith and credit.

Digital currency is not an entirely new concept in the country having pioneered mobile money that on the surface is closely similar to the CBDC. It is worth noting how mobile money was embraced by every Kenyan even by my old grandmother who understood its importance and worth.

But what makes CBDC different from mobile money is that it will be applied in many more ways than just payments. It is an inevitable journey of deepening digitalisation in everything to improve productivity and create new value.

Let us therefore not confuse CBDCs with cryptocurrencies. The difference between CBDCs and cryptocurrencies lies in who controls them.

Whilst the CBDC is firmly centralised in central banks, cryptocurrencies are decentralised and controlled by various entities whose value comes from respective utilities or the scale of use by the community.

CBDCs were developed to help governments take control of monetary policy and to provide an alternative to cryptocurrencies that are privately issued. The disruptive path of this new form of currency is enormous.

It is a revolution that spares no one. And the emerging currency will make it possible for governments to simplify fiscal and monetary policy.

Early studies have shown that CBDCs will deal a major blow to the inefficiencies associated with tax evasion in a cash-only economy. Removal of revenue collection distortions will widen the tax base, leading to lower tax rates, and introduce other incentives like rewarding tax payments.

CBDCs will be issued directly to users for retail purposes and to intermediaries like banks as wholesale for purposes of intermediating the existing digital central bank reserves.

As a result, central banks will be collecting enormous data that will be essential to make informed macroeconomic decisions. They will also use the data to better understand complex issues such as poverty and directly intervene when need arises.

With data, the government can isolate low-income earners and make direct cash transfers to the poor in times of crisis like the pandemic.

Digital currency will therefore be an essential tool to deal with inequality and wealth redistribution to improve the livelihoods of many people who are desperately trying to move out of poverty.

CBDCs will therefore become part of the critical financial infrastructure and eliminate the informal enterprise sector by capturing their economic activities into the national statistics.

The micro and small enterprises that dominate the informal sector and employ a large number of people could finally be part of the official economic fabric and possibly begin to scale their enterprises.

Many of these benefits will depend on the design of the CBDC and how the currency is managed. At its most basic level, the contrast is whether the network is designed to allow anybody or only designated members to participate.

The usage of blockchain technology, which is employed by cryptocurrencies, can help in democratising the use of CBDC by allowing central banks to maintain control while also guaranteeing the privacy and independence of users. But the solution could be expensive in terms of energy requirements.

Whether we end up with a permissioned or permissionless design of CBDC, we need to start working towards an effective digital future.