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5 Things You Need to Know About China’s Digital Yuan

2021-06-07
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China’s digital yuan is making big waves internationally. The digital yuan is a way for the People’s Bank of China (PBOC) to effectively digitize banknotes and coins in circulation. Though the Chinese market is already advanced in cashless payments, the digital yuan would accelerate this process. As real-world trials of China’s new digital currency continue, here are five things you need to know about the country’s latest technological development.

1. It is an efficient way to enhance the transmission of monetary policy.

The PBOC has been leading the work on creating China’s digital yuan that aims to replace some of the cash in circulation. According to Deputy Governor of the PBOC Fan Yifei, there is a strong demand to digitize currency because physically producing and storing these assets is expensive. In an article from Yicai Global, Fan said cash and coins are not easy to use. In fact, they are easy to counterfeit and because of their anonymity, they could be used for illicit purposes. With the digital yuan in circulation, payments would be more efficient and safe, likely improving the transmission of monetary policy that would ultimately create financial stability through a system of “controllable anonymity.” This would involve those operating digital yuan wallets to disclose transactions to the PBOC as the “sole third party.” The PBOC will control the digital yuan to ensure there aren’t valuation differences between its digital and physical currency. To avoid counterfeit money, the PBOC would design and implement measures to make it impossible for anyone besides the PBOC to create new digital yuan.

2. It will not replace other currencies and it is not like bitcoin.

In developing digital yuan, China does not aim to challenge the status of the U.S. dollar as the world's currency reserve. Xiaochuan Zhou, former governor of the People’s Bank of China, said that while the development of a digital yuan may help facilitate cross-border payments, China has never intended to replace the U.S. dollar as the preferred international payment currency. Zhou went on to speak at a forum hosted by Tsinghua University in Beijing on May 22, wherein he reaffirmed his belief that the digital yuan should not be linked to the concept of internationalization, which targets the financial system, specifically on unlocking and extending financial policies to reform the financial system, rather than the technology sector. When it comes to comparing the digital yuan to bitcoin, the former is vastly different. Unlike the digital yuan, bitcoin is a decentralized cryptocurrency that is not controlled by any central authority like the PBOC. Moreover, bitcoin is reinforced by blockchain technology, which is a public ledger of every transaction that has taken place that cannot be interfered with or changed retroactively. Currently, the technical makeup of the digital yuan remains unclear.

3. It will increase competition within the payments space and reduce systemic risk.

The digital yuan could potentially increase competition within the payments space and reduce systemic risk. Currently, Chinese tech giants like Alipay and WeChat Pay – run by Ant Group and Tencent, respectively – dominate the digital payments sector in China. Linghao Bao, an analyst at Trivium China, a company that analyzes China’s economy and politics, told CNBC the following: “The existing system is owned by private companies. Should Alipay or WeChat pay goes [sic] bankrupt, which is extremely unlikely, it creates a systematic risk.” According to Bao, the primary reason driving the PBOC to control the digital yuan is to “level the playing field,” in addition to creating a new system that would generate greater efficiency. “The way I see it is digital yuan is not a direct competitor to Alipay or WeChat Pay but a new platform that allows other players to come in and compete with WeChat and Alipay. Those could be commercial banks or other payment companies.”

4. Consumers will receive digital currency via a two-tier system of distribution.

The distribution of the digital yuan will be conducted via a two-tier system. Specifically, the PBOC will distribute the digital yuan to commercial banks. These commercial banks will then be in charge of disseminating the currency to its consumers through a process, which would allow consumers to exchange their coins and cash for digital yuan. CNBC reports that China has already given away millions of dollars’ worth of the digital currency through a series of lotteries in multiple cities, including Shenzhen, Chengdu, and Suzhou. Beijing is the most recent city to adopt this process; around $6.2 million in digital currency will be distributed from the government to the city’s residents. This two-tier distribution model could help prevent disintermediation within the sector, according to Fan, since the central bank would not face any other competition from other entities.

5. No new money will be in circulation.

The Wall Street Journal notes that China’s central bank won’t use the new technology as a way to issue more money into circulation, since every yuan issued digitally will essentially cancel one yuan circulating in physical form. Because the PBOC backs the digital yuan, officials can see all transactions taking place at any given time, unlike with cash. This gives the government better control over the money supply. Although it’s too early for the PBOC to publish final legislation for the digital currency program, it has made a point to emphasize its ability to limit the number of digital yuan individuals can keep, indicating the control the central bank has over the circulation of the digital yuan that ensures the privacy and security of its consumers.

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