The digital dollar is a proposed digital US dollar that is expected to serve as a stable alternative to other digital currencies, such as cryptocurrencies. Often called Central Bank Digital Currencies (CBDCs), these digital currencies would be equivalent to paper money issued in the United States and would be different than the digital money already in use (with Harvard Business Review estimating over 97 percent of money in circulation is from online transactions).
However, most of this digital money is stored in a commercial bank ledger, or in a public ledger for cryptocurrency. Whereas a CBDC would be a liability of the central bank, which would mean it would be backed by and owned by the Federal Reserve, similar to paper money. The US Central bank released a paper looking into the possibility of adopting a CBDC on January 24, 2022, which looked to analyze the possibilities and concerns with a CBDC, with enthusiasts seeing the paper as a key milestone in the adoption of a digital dollar policy.
A proposed benefit of a CBDC would be the ability to back the currency with the Federal Reserve, giving the currency more security. Another main benefit would be the reduction or elimination of fees, allowing users to eliminate the middlemen from transactions, allowing users to transfer money from their digital wallet directly to a cashier. Having a CBDC is expected to further pressure credit card companies and payment processors to lower fees to be competitive.
Another argument for a CBDC has been that it can open up digital transactions to those who do not have bank accounts, with more than 5 percent of US households being unbanked, according to the Federal Reserve. It would also make it easier for the federal government to distribute benefits, such as distributing relief payments directly into a digital wallet, which would be required for this system to work.
The move towards a digital dollar, or even a mirroring of the paper dollar with a digital dollar, would further allow the United States dollar to remain dominant as a reserve currency. Whereas failing to develop such a currency is considered a possible international problem, as the popularity of another digital currency, such as China's digital yuan, could be seen as more attractive for the faster transfer and settlement times for cross-border trades. The use of a digital currency could also ease monetary policy by removing intermediaries between the Fed and citizens.
Perhaps the most mentioned disadvantage with a CBDC is the privacy concern, as the same relationship discussed above of bringing citizens closer to the Fed, to ease monetary policy and help the unbanked take part in the digital economy, could enable the governing authorities to monitor and manipulate transactions as they occur in the network. Further, as the federal government could use such a system to distribute relief payments, there is no reason that it could not flip that and sanction individual users financially without warning.
Many of these privacy concerns have been realized in China with the digital yuan, which has been a way for the Chinese currency to divorce itself from the reach of the US financial system and has been a way for the state to expand its surveillance reach into citizens homes. Advocates for CBDCs suggest the constitutional rights enjoyed by Americans would protect them from financial surveillance without due process, but as other surveillance issues have shown that these rights are not always respected, and in other cases ignored.
Cryptocurrency advocates have also warned that the development of a digital dollar could stifle the emerging stablecoin ecosystem, which has been proposed as a chance to potentially displace fiat currency as a transaction medium. However, some individuals, depending on their views of cryptocurrencies and stablecoins, could see that as an advantage.
Security is another major issue with the CBDC. A digital system can be hacked, and there is no physical barrier to lifting copious amounts of digital currency. This would make this currency an obvious target for hackers, especially if such a currency is centralized and closely tied with individuals, and would put users' data and finances at risk.
In collaboration with the Massachusetts Institute of Technology, the Federal Reserve Bank of Boston released research on the technological viability of a Federal Reserve-backed CBDC. The results of the research proved promising, with the research producing two separate architectures for a potential CBDC, with one code base capable of handling 1.7 million transactions per second, more than 2.5 times the number of transactions capable of being handled by Visa's network, reportedly. And the majority of these transactions were settled in less than two seconds.
This research was released a month after the report issued by the Board of Governors of the Federal Reserve. In the report, the above mentioned concerns of security and privacy were stressed, especially in regards to balancing the goal of safeguarding Americans' privacy rights and also balancing the goal with the transparency necessary to deter criminal activity. In the research conducted by the Federal Reserve Bank of Boston, this is a difficult problem to resolve, as they experimented with the CBDC technology.
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- CryptocurrencyA cryptocurrency (or crypto currency) is a digital asset designed to work as a medium of exchange using cryptography to secure the transactions and to control the creation of additional units of the currency. Cryptocurrencies are a subset of alternative currencies, or specifically of digital currencies.