Key Insights
- CBDCs are digital forms of a country’s official money, issued directly by your country’s central bank.
- CBDCs offer access to secure payments via mobile apps and can also make payment systems faster and cheaper to run.
- Stablecoins, on the other hand, are a different category of cryptocurrency. Sisters to CBDCs, in some ways.
- The major difference between both is that while CBDCs are issued by central banks, stablecoins are issued by private firms.
- The balance between them will depend mostly on what happens in the future, and we may soon find ourselves using both in very different but similar ways.
The digital finance space has changed by a great deal over the last few years.
Amid this wave of change, several new concepts have emerged, with most of them sounding very similar to one another, despite being very different.
Some of these concepts include the issue of Central Bank Digital Currencies (CBDCs) versus stablecoins.
Both of these kinds of cryptocurrencies are legitimate members of the digital space. They are very similar and were created to improve the way we make payments.
Yet, they’re built on very different foundations, and in order to truly understand where digital finance is headed, it is important to understand what either of these are.
What Are Central Bank Digital Currencies?
From their names alone, these kinds of cryptocurrencies are self-explanatory.
Think of CBDCs as digital forms of a country’s official money.
Imagine being able to hold the same dollar, Euro, Rupee or Naira notes you have in your wallet in a digital form.
These digital monies are issued directly by your country’s central bank, and this is the main idea behind CBDCs.
The major aspect to keep in mind is the issuer. CBDCs are not created by private companies or decentralized networks.
They are government-backed and are therefore legal tender. This means that businesses and individuals in that country are required (by law) to accept them as payment.
Why Are Governments Jumping on CBDCs?
Governments and central banks around the world are actively experimenting with CBDCs. Most of them have already even developed them.
One very good reason these governments are doing this is to improve financial inclusion.
This is especially true in countries where a large part of the population is unbanked.
CBDCs can offer access to secure and digital payments via mobile apps.
CBDCs can also make payment systems faster and cheaper to run than regular cash/card systems.
Governments can also better track and control CBDCs than cash. This amount of government oversight has seen major friction from pro-privacy commentators all over the world.
However, governments continue to argue that CBDCs make implementing monetary policy easier.
Finally, CBDCs shine by offering a safe alternative to actual bank savings, because in times of financial instability, people tend to feel safer with a central bank-issued digital currency.
What Are Stablecoins, and How Are They Different?
Stablecoins, on the other hand, are a different category of cryptocurrency. Sisters to CBDCs, in some ways.
These cryptocurrencies are designed to maintain a stable value.
They are unlike Bitcoin or Ethereum, which can fluctuate wildly at times, and keep their price tied to an external asset (most commonly the US dollar).
This makes them very useful in the crypto space because they allow users to trade, borrow, lend or move money across borders.
The major difference between stablecoins and CBDCs is that while CBDCs are issued by central banks and are controlled by governments, stablecoins are issued by private firms and mirror the price of their underlying asset.
As such, a CBDC issued by the US government would have a $1 price per token at all times but would be under the control of the federation.
A dollar-based stablecoin, on the other hand, would also have a $1 price per token but would provide some form of freedom to its users in terms of decentralization.
Types of Stablecoins
Stablecoins go even deeper into the finance space than CBDCs. This is where the types of stablecoins come into play.
1. Fiat-backed stablecoins
These stablecoins are the most common, and for every digital coin issued, there is an equivalent amount of fiat currency (like USD) stored in a bank account as collateral.
This is another major difference between CBDCs and stablecoins, because while governments can simply mint new CBDCs on a whim, stablecoins need actual backing.
2. Crypto-collateralized stablecoins
These kinds of stablecoins are backed by other cryptocurrencies instead of fiat. Since cryptocurrencies can be volatile, they tend to hold more collateral than the value they issue to cover for any price swings.
3. Algorithmic stablecoins
These kinds of stablecoins do not need 1:1 reserves to hold value. Instead, they rely on algorithms and smart contracts to control supply and demand.
However, many of these tend to struggle with holding their pegs and have a history of bitter crashes.
CBDCs vs Stablecoin
As illustrated earlier, CBDCs and stablecoins are very similar at first glance. Both are forms of digital money, and both maintain pegs of some form to another asset.
However, their differences are massive and worth noting.
1. Issuer and Trust
CBDCs are issued by a central bank and backed by the government. This means that they have a high degree of credibility.
Stablecoins, on the other hand, are issued by private entities, and their reliability depends on the issuer’s ability to maintain reserves.
2. Legal Tender Status
CBDCs instantly receive legal tender status, which means that they can be used just like cash, and everyone in the country must accept them.
Stablecoins, on the other hand, generally don’t have legal tender status. They can be used for payments, but acceptance is highly voluntary.
3. Regulation
CBDCs are strictly regulated and supervised by the central bank. Sometimes, other government agencies even get involved.
Stablecoins exist in a regulatory gray zone. Some countries are starting to implement rules, but oversight is not universal yet.
4. Use Case and Function
CBDCs are designed to be a digital version of a country’s national currency. They can be used by individuals, businesses and institutions for any kind of transaction or savings.
Most times, stablecoins are used within the crypto and DeFi spaces as a medium of exchange. A bridge of sorts between fiat and crypto.
5. Privacy and Transparency
The level of privacy that CBDCs offer depends on how they are designed.
Some might allow anonymous transactions like cash, while others might require identity verification for each payment.
Stablecoins, on the other hand, offer full transparency.
Overall, stablecoins are currently a bigger industry than CBDCs, mostly because citizens of many countries kick against them and the “unreasonable amount of” government oversight they introduce.
However, the balance between them will depend mostly on what happens in the future.
Governments continue to test CBDCs; we may soon find ourselves using both side by side, in very different but similar ways.
