China pushes ahead with central bank digital currency

Speaking at the China Finance 40 forum in Yichun this weekend, Mu Changchun, the deputy director of The People’s Bank of China (PBoC) payments division, said: "the People’s Bank’s digital currency can now be said to be ready."

While no launch date was given, Changchun asserted the PBoC’s intention to support the yuan’s "circulation and internationalization" by replacing notes and coins — which are classified as M0 in banking terms — with a blockchain-based digital currency.

As PBoC Deputy Governor Fan Yifei outlined last year, the central bank hopes that moving to digital will save costs, increase the speed of circulation, improve the security and convenience of transactions, and afford the PBoC greater control over the yuan. "[Central bank digital currency] is conducive to curbing the public’s demand for private encrypted digital currency and consolidating monetary sovereignty," said Yifei.

Breaking the blockchain silos

Unsurprisingly, the technical structure of the digital yuan will be a far cry from the likes of Bitcoin and Ethereum. Although the currency claims to be built on the blockchain, it relies on a hybrid "two-tier" approach, which supposedly gives the network enough throughput to cope with widespread use:

"A pure blockchain architecture," said Changchun at the forum, would not allow the currency to be effectively used for “small-scale retail high-frequency business scenarios.”

To effectively serve China’s “complex economy, vast territory and large population,” the currency system shares control between two tiers — the PBoC on an upper level, and commercial banks on a secondary level.

52 patents filed by the Digital Currency Research Lab of the PBoC give a clearer indication of how this system might work, revealing both centralized and decentralized elements that come together to “break the silo between blockchain-based cryptocurrency and the existing monetary system.”

The patents detail a wallet that citizens will be able to download which allows them to swap yuan for the digital currency. This will be encrypted like a cryptocurrency wallet with private keys, but will also allow the PBoC to monitor transactions.

“Virtual currency is easier to trace, allowing the central bank to monitor its velocity and the whereabouts of the money and improve its monetary policies accordingly,” said PBoC research lead Yao Qian to the South China Morning Post.

The Libra catalyst

With a history of strict currency control and some of the highest levels of electronic payments globally, it makes sense that China would be keen to explore a digital yuan. But comments from officials suggest that external economic forces have catalyzed the most recent stage of its development.

Much like other central banks around the world, the People’s Bank of China is concerned that Facebook’s Libra could potentially reduce the authority of monetary policy.

Recent trade difficulties, however, and a history of less-than-friendly relations, make China more sensitive than most to the global dominance of the dollar — which analysts have suggested that Project Libra could reinforce.

"Libra should be regarded as foreign currency and integrated into the framework of China’s foreign exchange management," said China foreign exchange official Sun Tianqi at the Finance 40 forum. "Otherwise, the use of Libra should be prohibited."

Speaking at a conference at Peking University, PBoC research director Wang Xin expanded on these concerns.

"If [Libra] is most closely associated with the dollar," said Wang, “there would be in essence one boss, that is the US dollar and the United States. If so, it would bring a series of economic, financial, and even international political consequences.”

Though it is not yet clear how much weight the dollar will have in Libra’s basket of world currencies, it is likely to be a major constituent, which could strengthen its status as the de facto global currency.

For China, which has long sought to dethrone the dollar, this could be seen as a step in the wrong direction — making the development of its own digital currency more urgent than ever.

Meanwhile, the country continues to maintain a blanket ban on cryptocurrency trading and is now thought to be considering the elimination of bitcoin mining.