CBDCs: The Time Has Come

For better or worse, digital currency is here to stay. Within the last decade, the use of virtual currencies has increased significantly, with retailers such as Whole Foods and Starbucks accepting payment in bitcoin.1 Perhaps encouraged by their adoption (Bitcoin has soared from $5,000 in March 2020 to $40,000 in January 2021)2 or considering that citizens may move away from fiat currencies to private cryptocurrencies such as Facebook’s Libra (now called Diem),3 central banks have been quick to consult and act. Thus, some central banks have issued or piloted central bank digital currencies (CBDCs) including the Bahamas, China and Cambodia, among others, while several others are considering launching their own.

A CBDC is different from virtual currency in multiple ways. Central banks today offer two forms of money: bank notes (fiat currency) and central bank reserves. CBDCs would present an additional form of money. According to a Bank for International Settlements (BIS) paper, a CBDC is “a digital payment instrument, denominated in the national unit of account, that is a direct liability of the central bank.”4 The value of CBDCs is tied to the national fiat currency, e.g., one pound sterling in the United Kingdom (U.K.) would be equivalent to one pound in CBDC. Virtual currencies like Bitcoin operate on decentralized infrastructure with no single owner. From a technology perspective, Bitcoin uses blockchain, a distributed ledger technology (DLT). However, CBDCs may operate on different technology architectures.

Why Are Central Banks Considering CBDCs?

The role of central banks focuses on public trust in money, maintaining price stability and providing payment infrastructure. One school of thought is that CBDC may offer advantages that cash does not. There are instances of unsafe private money where citizens have invested in cryptocurrencies and had their assets lost or stolen. Dozens of cryptocurrencies launch each month with initial coin offerings (ICOs).5 Unlike initial public offerings, ICOs are not regulated, which make them highly appealing for fraudsters. A 2018 report from Satis Research Group revealed that out of approximately 1,500 ICOs, 78% were identified as scams worth $1.3 billion.Another case for considering CBDCs is to deter illegal activity. The complete anonymity that cash provides makes money laundering easier. CBDCs can offer traceability in ways that cash cannot. Then, there is the aspect of control and trust. If citizens move to using private money for transactions, central banks will lose control over fiscal policy. In many parts of the western world, the use of cash is declining and COVID-19 has accelerated this decline. These factors have caused central banks to consider the potential implementation of CBDCs.

What Are the Design Considerations for CBDCs?

There are several technical considerations for the design and operation of CBDCs. One consideration is whether CBDCs should be programmable. Programmable money refers to the concept of obligations or conditions associated with CBDCs. Creating programmable money would enable future innovation and the provision of multiple services associated with wallets that hold CBDCs. However, this may add cost and require higher levels of technical performance. Another consideration is whether CBDCs should be token-based. Token-based CBDCs have significant advantages in preventing duplication, allowing storage on a device or potential offline use. These factors will also have a bearing on digital identity verification as part of the know your customer (KYC) processes and transaction monitoring (TM) rules.6

CBDCs can offer traceability in ways that cash cannot

Beyond design considerations, other opportunities include the ease and speed of cross-border transfers in a manner that provides safety from laundering and possibilities for lower costs that may reduce the need for informal money transfer systems, such as hawala, and facilitate further financial inclusion.

Potential risks to consider include the safety and security of CBDCs, high levels of security requirements with financial intermediaries—such as financial institutions (FIs) and payment service providers (PSPs)—and anti-money laundering (AML) controls that need to be strengthened further. In addition, central banks must consider the possibility of digital bank runs. Prior to the financial crisis of 2007-2008, there were long queues at branches of British bank Northern Rock as people were trying to withdraw all their deposits. The digital equivalent may enable the same in a matter of seconds and end up destabilizing the financial system. Any CBDCs issued will also need to operate alongside cash and other forms of private money, at least for a period. Finally, financial disintermediation is another risk. Consideration needs to be given to an en masse conversion of traditional money into CBDCs and the role played by financial intermediaries (financial services, money services businesses and other PSPs). According to The Economist, “commercial banks might be drained of the deposits with which they today fund their lending. Disintermediation of the banking system might make impossible the financial magic that allows households to pair long-dated mortgage borrowing with instantaneously redeemable deposits.”7

How Widespread Is Adoption Today?

Opponents of CBDCs argue that most advantages CBDCs bring could be achieved through other forms of digital payments. Warning of a digital bank run, the head of Deutsche Bundesbank argues that while he cannot foresee additional benefits to traditional digital payments, high-cash societies would benefit from their own CBDCs as they would provide a way to track the circulation of funds, something that is much harder to do with cash.8 Other experts, including central bankers, argue that CBDCs do not have a sufficient business case to progress immediately. Some countries have nonetheless proceeded with pilots, including the following.

  • China
    — China launched its pilot of the digital Yuan Renminbi, with tests starting in April 2020. According to the BBC, “China’s central bank has issued 10 million yuan ($1.5 million) worth of digital currency to 50,000 people in the Shenzhen area via a lottery. The move is the latest in a series of trials testing out China’s new Digital Currency Electronic Payment (DCEP).”9
    — According to Cointelegraph, “On Oct. 5, PboC’s [the People’s Bank of China] deputy governor Fan Yifei announced that DCEP wallets processed 1.1 billion renminbi ($162 million) in transactions between April and August 2020. According to the official, China’s central bank opened 113,300 personal digital wallets and 8,859 corporate digital wallets within the digital yuan initiative.”10
  • The Bahamas
    — According to an October 20 Facebook post from SandDollar.BS, Sand Dollar became available to all 393,000 residents of the Bahamas at roughly 10:00 PM UTC.11 This made the Bahamas the first country in the world to officially roll out a CBDC.12 Sand Dollar also has specific safeguards built to mitigate digital bank runs.
  • Australia
    — The Reserve Bank of Australia has announced a partnership with Commonwealth Bank, National Australia Bank, Perpetual and ConsenSys to explore the use of a wholesale CBDC using DLT. However, unlike China and the Bahamas, Australia is investigating the use of CBDCs limited to wholesale markets only.13
  • The U.K.
    — In March 2020, the Bank of England released a consultation paper titled, “Central Bank Digital Currency: opportunities, challenges and design.”14 However, the Bank of England has not made the decision on whether to introduce digital pounds.
  • Europe
    — The European Central Bank (ECB) is considering the launch of a digital euro and a task force has been set up with more information expected toward the middle of 2021.15 The ECB and the European Commission have created a joint technical group to assess the policy, legal and technical aspects of adopting a digital euro.16
  • Saudi Arabia/United Arab Emirates
    — The Saudi Arabia Central Bank (SAMA) and the Central Bank of the United Arab Emirates (CBUAE) teamed up in 2019 to launch a joint digital currency and distributed ledger project called Aber. The project’s goal was to explore the feasibility of issuing a wholesale CBDC with a view of developing cross-border payment systems.17 SAMA and the CBUAE published the project results in November 2020 confirming that “a cross-border dual-issued currency was technically viable and that it was possible to design a distributed payment system that offers the two countries significant improvement over centralized payment systems in terms of architectural resilience.”18

What Are the Impacts of CBDCs on AML?

Compared to cash, CBDCs come with traceability that would detect and potentially deter money laundering. However, as with all innovations, the bad actors innovate too. To understand the impact of such innovations, one must consider the renewed forms of fraud that saw an uptick as digital payments rapidly increased during COVID-19. There has been increased ransomware, computer fraud, scams and identity theft on a scale never achieved before.19 The movement to digital forms of payment through credit cards and PSPs, such as PayPal, about two decades ago must also be taken into account. These innovations introduced the concept of digital identity theft, compromised account and card details, and so on―crimes that were either nonexistent or committed in a very limited capacity previously. The use of CBDCs will no doubt result in the increase of certain criminal typologies and result in the invention of new ones.

To understand what the future of money laundering may look like in a CBDC world, one must consider how they may operate. Consider CBDCs that may be available for retail use, like the use of cash today as opposed to wholesale CBDCs that only financial intermediaries can access. If central banks issue CBDC tokens of programmable money, and the intermediaries are responsible for their distribution, then AML controls will need to be applied by financial intermediaries like obliged entities today.

Cybercrime is likely to increase as criminals find new loopholes to access CBDCs. Cybersecurity and protection of CBDCs will play a crucial role in public trust. AML controls and cybersecurity teams will need to come together to ensure new typologies are understood, red flags indicative of cybercrime are investigated and proceeds of cybercrime are better identified.

Today, bank accounts play an important role in integrating laundered money back into the system. Money mules enable the use of their bank accounts for illicit activities, often unknowingly. This trend is likely to increase significantly as traditional cash gets converted to CBDCs.20 In early 2020, the U.S. Justice Department indicted two Chinese nationals for laundering more than $100 million worth of crypto assets that North Korean regime operatives hacked from a cryptocurrency exchange. Using simple computer programs, the launderers moved stolen tokens between various digital wallets through thousands of transactions to try to conceal the funds’ origins.21

Digital wallet services exist today to cater to private virtual assets. These services are likely to offer increased features with programmable money. Any weaknesses either in their security or loopholes in their services are likely to be targeted by criminal networks.

Given the expectation of token traceability, irrespective of the underlying technology infrastructure used, it is more than likely that cash will continue to be the channel of choice for money launderers with conversion from cash to CBDCs being the focus of criminal activities.

What Do Compliance Officers and Regulated Entities Need to Do to Prepare?

Compliance officers of the future will need to get comfortable with concepts of new money, the technology underpinning them, and the new and renewed risks they will no doubt bring with them. While CBDCs offer significant advantages over cash, the very fact that cash is likely to coexist with CBDCs will create complexities that will need to be considered in TM systems.

Traditional rule-based systems are being replaced by modules that use complex data inputs and artificial intelligence. The trend is likely to accelerate further to adapt to the needs to monitor multiple forms of money—fiat currency, CBDCs and private virtual assets.

In today’s regulatory framework, many regulators already consider virtual currency providers and exchanges as regulated entities especially where they provide services to convert from fiat to virtual currencies or vice versa. This scope will need to be reviewed to consider all conversion permutations between different forms of money. Studies detailing AML and cybersecurity considerations on CBDCs need further attention. New forms of money will no doubt give rise to new typologies of crime and opportunities for criminals. The more that is done to simulate, run through scenarios and prepare for these dangers, the better it is for nations, regulated entities and citizens. 

Shilpa Arora, CAMS, AML director—Europe, Middle East and Africa, ACAMS

Sandra Saadi, AML researcher and writer, ACAMS

  1. Anthony Cuthbertson, “Bitcoin Now Accepted at Starbucks, Whole Foods and Dozens of Other Retailers,” The Independent, May 14, 2019, https://www.independent.co.uk/life-style/gadgets-and-tech/news/bitcoin-stores-spend-where-starbucks-whole-foods-crypto-a8913366.html
  2. “Bitcoin: a symptom of market mania — or the new gold?” Financial Times, 2020, https://www.ft.com/content/608acefb-22ca-44e2-a438-2d874b37d695
  3. “Facebook’s Libra currency to launch next year in limited format,” Financial Times, 2020, https://www.ft.com/content/cfe4ca11-139a-4d4e-8a65-b3be3a0166be
  4. “Central bank digital currencies: foundational principles and core features” Bank for International Settlements, 2020, https://www.bis.org/publ/othp33.pdf
  5. “How to Identify Cryptocurrency and ICO Scams,” Tech Telegraph, May 3, 2020, https://www.techtelegraph.co.uk/how-to-identify-cryptocurrency-and-ico-scams/
  6. “CRYPTOASSET MARKET COVERAGE INITIATION: NETWORK CREATION,” Bloomberg, July 11, 2018, https://research.bloomberg.com/pub/res/d28giW28tf6G7T_Wr77aU0gDgFQ
  7. “Will central-bank digital currencies break the banking system?” The Economist , December 3, 2020, https://www.economist.com/finance-and-economics/2020/12/05/will-central-bank-digital-currencies-break-the-banking-system?gclsrc=aw.ds&gclid=Cj0KCQiAlsv_BRDtARIsAHMGVSaqI3xEvYbBVUc79gG2nTq1yIs4oGFfjNh_YvUPMzTNJZ-Y054miK4aAvpTEALw_wcB&gclsrc=aw.ds
  8. Jens Weidman, “On the future of money and payments,” Bundesbank, September 11, 2020, https://www.bundesbank.de/en/press/speeches/on-the-future-of-money-and-payments-843720
  9. “Shenzhen residents embrace digital currency,” BBC, October 13, 2020, https://www.bbc.co.uk/news/business-54519326
  10. Helen Partz, “Shenzhen to hand out 10 million digital yuan in currency giveaway,” Cointelegraph, October 9, 2020, https://cointelegraph.com/news/shenzhen-to-hand-out-10-million-digital-yuan-in-currency-giveaway
  11. “Sand Dollar.BS,” Facebook, October 20, 2020, https://www.facebook.com/sanddollarbs/posts/648910325827716
  12. Turner Wright, “The Bahamas launches world’s first CBDC, the ‘Sand Dollar,’” Cointelegraph, October 21, 2020, https://cointelegraph.com/news/the-bahamas-launches-world-s-first-cbdc-the-sand-dollar
  13. Baker McKenzie, “Reserve Bank of Australia Partners With Big Banks to Launch Central Bank Digital Currency,” Lexology, November 16, 2020, https://www.lexology.com/library/detail.aspx?g=d62e1615-8f44-4f74-88b6-89cdc266ef87
  14. “Central Bank Digital Currency: opportunities, challenges and design,” Bank of England, March 12, 2020, https://www.bankofengland.co.uk/paper/2020/central-bank-digital-currency-opportunities-challenges-and-design-discussion-paper
  15. “A digital euro,” European Central Bank, https://www.ecb.europa.eu/euro/html/digitaleuro.en.html#:~:text=A%20digital%20euro%20would%20make,encourage%20innovation%20in%20retail%20payments
  16. “Remarks by Executive Vice-President Dombrovskis at the press conference on the fostering the openness, strength and resilience of Europe’s economic and financial system,” European Commission, January 19, 2021, https://ec.europa.eu/commission/presscorner/detail/en/speech_21_161
  17. “CBUAE and SAMA Issue Report on Results of Joint Digital Currency Project ‘Aber,’” Central Bank of the UAE and Saudi Central Bank, November 29, 2020, https://centralbank.ae/sites/default/files/2020-11/CBUAE%20and%20SAMA%20Issue%20Report%20on%20Results%20of%20Joint%20Digital%20Currency%20Project%20Aber_EN.pdf
  18. “Project Aber Final Report,” November 2020, https://www.sama.gov.sa/en-US/News/Documents/Project_Aber_report-EN.pdf
  19. David Ferbrache, “The rise of ransomware during COVID-19,” KPMG, https://home.kpmg/xx/en/home/insights/2020/05/rise-of-ransomware-during-covid-19.html
  20. Yaya J. Fanusie, “Central Bank Digital Currencies: The Threat From Money Launderers and How to Stop Them,” Lawfare, November 2020, https://www.lawfareblog.com/central-bank-digital-currencies-threat-money-launderers-and-how-stop-them
  21. “United States of America v. 113 Virtual Currency Accounts,” U.S. District Court for the District of Colombia, March 2, 2020, www.justice.gov/opa/press-release/file/1253491/download

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