Hosting a CBDC? Only one of Bitcoin, Ethereum or XRP can do it, says report

A 44-page report commissioned by CPA Australia delves into the status of central bank digital currency development worldwide, while exploring viable blockchain candidates for hosting CBDCs in the coming years.

The report offers up evaluations of the three most transacted cryptocurrencies — Bitcoin (BTC), Ether (ETH) and XRP — and analyses their suitability (or lack thereof) for use by central banks.

Bitcoin’s decentralized network and lack of oversight by banks or governments make it generally unsuitable for use in a national CBDC network, notes the report. Although Bitcoin is still accepted as a medium of exchange the world over, its volatility and unpredictability have resulted in a lack of trust among central banks. The report states:

“Despite it not being legal tender, Bitcoin is popular, and it is accepted as a medium of exchange in many places. Bitcoin’s price has been subject to spectacular volatility in recent years and this volatility has resulted in a lack of confidence in Bitcoin as a medium of exchange or as a store of value and raised concerns among central banks as to the viability of cryptocurrencies as CBDCs."

While Bitcoin continues to puzzle and confound lawmakers in most jurisdictions, the report also notes that its legal status as a currency is undergoing a transformation. The report cites a ruling by the Commercial Court of Nanterre in France in 2020 that declared “Bitcoin is an intangible asset with an exchange value, equivalent to fiat money at law."

“This, along with a January 2020 UK High Court decision recognising digital currency as property, and a February 2020 NSW District Court decision that acknowledges digital currency as a store of value, the legitimacy of digital and cryptocurrencies is gaining credence from a legal and economic standpoint,” states the report.

Ethereum suffers from many of the same pitfalls as Bitcoin when it comes to hosting CBDCs, according to the report. Despite allowing for “programmable money” through the use of smart contracts, Ethereum’s decentralization and inability to be controlled by any state actor make it an unlikely candidate for hosting CBDCs. The report states:

“ETH is like Bitcoin, in that it is purely digital, fully decentralised outside any state control. An important distinguishing feature of Ethereum platform compared to the Bitcoin blockchain is that it allows for the operation of smart contracts, and therefore programmable money and payments."

Running contrary to Ethereum’s perceived inadequacy for use in government systems, the Reserve Bank of Australia used Ethereum-based technology in November 2020 when it sought to develop a proof-of-concept for a tokenized CBDC.

A slightly more optimistic view is offered regarding the use of Ripple and XRP. According to the report, the Ripple Network and the XRP coin are looked on more favorably by banks and governments due to their centralized nature. The report states:

“Ripple and XRP enjoy the trust of many banks as a model for CBDCs because it is highly centralised and is based on a permissioned network where only certain network nodes can validate transactions, as opposed to decentralised and permissionless Bitcoin and Ether.”

The report claims that the centralized nature of Ripple’s operations makes it similar to central banks, due to how developers can control the “timing and quantity of supply” of its associated tokens. It states: “Ripple also allows the creation of new currencies and Ripple developers can decide the timing and quantity of supply in a similar way to current central bank operations.”

The report also notes that Ripple “does not operate on a blockchain network per se,” referencing the Ripple Protocol consensus algorithm, which it rightly states is Ripple’s own patented technology.

The report points out that France’s central bank, the Banque de France, has already expressed interest in exploring Ripple as a possible platform for hosting a Europewide CBDC.

In summary, the report notes that the COVID-19 pandemic has accelerated the digital transformation, spurring faster development of digital payment systems, blockchain projects and the financial technology sector at large.

Between the rise of Bitcoin and the emergence of corporate-led financial infrastructures like Facebook’s Libra (now Diem), central banks are being forced to keep a close eye on the ongoing development of blockchain and cryptocurrency projects.