Comparing Bitcoin to central bank digital currencies (CBDCs) is becoming increasingly relevant for both central banks and the general public. The most significant difference between the two emerging technologies lies in their underlying philosophies.
Bitcoin was created to operate outside the control of central banks, as a way of avoiding conventional financial controls. It highlighted the potential impact of cryptocurrencies on monetary policy and exposed the flaws of the Federal Reserve’s response to the 2008 global financial crisis. In contrast, CBDCs are designed to be controlled by central banks, which is in direct conflict with the philosophy of cryptocurrencies.
Furthermore, Bitcoin aims to provide an alternative to traditional banks and protect against inflation, whereas CBDCs seek to preserve the oligopoly of the global banking system. The key focus of cryptocurrencies is democratizing financial systems, while CBDCs prioritize central control. These fundamental differences illustrate the contrast between the two technologies and the philosophies that guide their development.
There is a common misconception that central bank digital currencies (CBDCs) are simply another form of cryptocurrency. However, as previously mentioned, CBDCs are different in that they are under the control of central banks for every transaction. CBDCs can be issued in either token or account-based variants.
If CBDCs are issued in token form, the token is sent directly to the central bank in question. In this case, CBDCs would serve as an additional payment mechanism. This is a significant difference from cryptocurrencies like Bitcoin, which operate independently of central banks and rely on blockchain technology to enable peer-to-peer transactions. While CBDCs and cryptocurrencies share some similarities, the underlying principles and mechanisms behind each are distinct.
| Criteria | CBDCs | Bitcoin |
| Control | Centralized, regulated by central banks | Decentralized, not controlled by any central authority |
| Anonymity | Fully traceable, identity of the user behind each transaction is revealed | Pseudonymous, identity of the user behind each transaction is not revealed |
| Security | Uses cryptography but may be more vulnerable to security breaches due to centralized nature | Decentralized, uses cryptography for a high level of security |
| Purpose | Designed to complement physical currency and provide a digital equivalent | Provides an alternative to traditional currency that is not controlled by any central authority |
There are currently two main forms of currency – physical money in the form of banknotes and coins, and digital money in the form of account balances in banks and payment processors such as PayPal. Despite the fact that digital money makes up the bulk of the currency supply, there is a need for a Central Bank Digital Currency (CBDC).
In the past, small transactions were typically conducted using cash. This had the advantage of preserving privacy, as cash transactions don’t reveal anything about the buyer to the seller. Cash also allows people to save money securely, even if they don’t trust banks. In many countries, it’s still common for people to keep banknotes or dollar bills under their mattress.
However, more and more people are now using credit cards, smartphones, and other electronic payment methods to make purchases. These methods are convenient, but they also reveal a lot of information about the buyer to merchants, third parties, and even governments. This can be a cause for concern, as it can lead to surveillance and loss of privacy.
Furthermore, funds held in bank accounts or on phone apps can be frozen or seized, making them less secure than cash stored at home. This means that people who rely solely on electronic forms of payment may be more vulnerable to financial abuse or loss than those who keep some cash on hand.
As we continue to transition away from cash, we are increasingly relying on corporate ledgers that are based on traditional currencies such as dollars, euros, and renminbi. However, it’s also possible that in the future we could see the emergence of corporate currencies issued by companies themselves.
As of March 2023, there were already $167 billion worth of stablecoins in circulation, and this number is expected to continue to rise in the coming months and years. While stablecoins are primarily virtual assets that are pegged to fiat currencies, they are controlled by non-state corporate entities and function as a type of shadow banking system.
However, regardless of their specific form, corporate money – whether in the form of traditional fintech or new stablecoins – is susceptible to censorship, tracking, regulatory capture, and is an insufficient substitute for physical currency and its functions as a means of saving and protecting privacy.
As the world rapidly evolves towards a cashless society, the popularity of digital currencies continues to soar. However, not all digital currencies are created equal. While Bitcoin is undoubtedly the most well-known and widely used digital currency, Central Bank Digital Currencies (CBDCs) have recently emerged as a potential game-changer in the world of finance.
What are CBDCs?
CBDCs are digital currencies that are issued and backed by central banks Governments worldwide are considering the replacement of cash with a new type of central bank liability called central bank digital currency (CBDC). Currently, central bank liabilities exist as digital reserves given to commercial banks and banknotes distributed to the public. CBDCs would be digital central bank liabilities distributed directly to the public.
CBDC is a digital fiat currency that is issued directly from the central bank to the public, without the need for intermediaries like commercial banks. This allows for efficient transactions that are settled instantly, without any unnecessary friction. CBDCs could also help increase financial inclusion for those who are unbanked or underbanked.
The key difference between CBDCs and other forms of digital money is that all monetary data is accessible from a single database, maintained by the central bank. This centralized system raises concerns about data privacy and security, as all financial transactions would be monitored by the central bank. It also means that there is potential for greater government control over the financial system.
The manner in which we utilize money is rapidly evolving. We are transitioning from physical cash to digital payment methods that are frequently linked to corporate ledgers. This transformation is a component of a broader pattern away from bearer instruments like bearer bonds and stock certificates.
Central Bank Digital Currencies Status
Advantage
One advantage of central bank digital currency (CBDC) is the potential for a more efficient payment system in regions where traditional currency management is expensive. Another benefit is increased financial inclusion, as CBDC does not require users to have a bank account.
A Central Bank Digital Currency (CBDC) would allow a central bank to track the precise location of every unit of the currency, assuming it is stored in a centralized database. This could potentially aid in preventing illegal activities.
CBDCs could also enable governments to provide direct aid and stimulus payments to citizens during crises, regardless of whether they have a bank account.
Disadvantage
Central bank digital currency (CBDC) is recorded on a central bank’s balance sheet, which may expand if there is high demand. Additionally, the central bank may need to provide extra liquidity to banks, leading to the assumption of credit risk.
If citizens withdraw too much money from banks and purchase CBDCs, it could trigger a bank run. Moreover, users may have reservations about a technology that was supposed to be private, becoming centralized under government control, raising concerns about cybersecurity.
The biggest threat to our financial freedom
The implementation of a Central Bank Digital Currency (CBDC) system could give central banks precise control over fiscal stimulus by distributing cash to specific subsets of the population with ease. However, if physical banknotes cannot be withdrawn from deposit accounts, CBDCs could potentially pave the way for negative interest rates where citizens are charged a fee for saving their money.
An important question is whether CBDCs will function like cash, providing anonymity to buyers and sellers, or function like commercial money and reveal personal information to third parties. Governments have expressed a unified stance against designing CBDC systems with full anonymity, and such systems may include backdoors allowing governments to access transaction data.
One potential risk of a fully implemented CBDC system is financial censorship. For instance, a social credit system could lead to the money in a person’s CBDC wallet being turned off algorithmically if their social media accounts are monitored and their social credit score is reduced for any reason. This could lead to political opponents, activists, protesters, and their supporters being subjected to financial censorship.
Furthermore, governments could use CBDCs to financially exclude individuals or entire groups of people with ease, leaving them with nothing. This could lead to governments targeting dissidents, sexual minorities, ethnic minorities, or religious minorities.
Additionally, the programmable nature of digital currencies could limit individual freedom by prohibiting the purchase of certain products, restricting donations to NGOs, or inducing behavior that the government seeks.
The CBDC (Central Bank Digital Currency) being developed and implemented by China is connected to an individual’s digital identification and features an expiration date on the currency it represents.
Types of CBDCs
There are two kinds of central bank digital currencies (CBDCs): wholesale and retail. Wholesale CBDCs are mainly intended for use by financial institutions. Retail CBDCs, on the other hand, are intended for use by consumers and businesses, similar to physical currency.
Wholesale CBDCs
Wholesale CBDCs are similar to holding reserves in a central bank. The central bank provides an account to financial institutions where they can deposit funds or settle interbank transfers. Central banks can then use monetary policy tools like reserve requirements or interest on reserve balances to influence lending and set interest rates.
Retail CBDC
Retail CBDCs are digital currencies backed by the government and used by consumers and businesses. They eliminate the intermediary risk, which refers to the risk that private issuers of digital currencies may go bankrupt and result in customers losing their assets.
What is Bitcoin?
Bitcoin is a decentralized digital currency that was created in 2009 by an unknown person or group using the pseudonym Satoshi Nakamoto. It operates on a peer-to-peer network and uses cryptography to facilitate secure transactions and to control the creation of new units of currency. Bitcoin is not backed by any government or institution and operates independently of any central authority.
Bitcoin is a global payment system that is not linked to personal identification, cannot be stopped by authorities, and does not require intermediaries. With bitcoin, anyone can download software from the internet and send money to anyone else within minutes, without government approval, personal information, or censorship. Transactions do not include identifying information such as phone numbers or email addresses. This is the vision that Wei Dai and Adam Back advocated for in the 1990s: if citizens cannot persuade governments to protect their financial rights, they must create technology that makes mass surveillance impossible.
The second advantage of bitcoin is its “be your own bank” feature, which makes it more difficult to seize. Users have the option to hold and secure their own funds and keep their private keys hidden in various ways. This means that if a government attempts to seize bitcoin, it would be much more difficult and expensive than seizing gold held in banks, as was done in the past.
Advantage
Bitcoins are digital currencies. It uses an algorithm and cryptographic protocols. This makes them impossible to counterfeit.
Bitcoin is not regulated by any political or governing authority, and therefore is not subject to political influence. It cannot be frozen or seized by any government or authority, as it operates independently of any centralized control.
The Bitcoin payment network is highly secure and resistant to counterfeiting or cheating. Only 21 million bitcoins will ever exist, making the value of Bitcoin a long-term promise against other real-world currencies. This high level of security and finite supply make Bitcoin a valuable asset with the potential for long-term growth.
Bitcoin transactions are tamper-proof, meaning that they cannot be altered or tampered with. This provides a high level of security and trust in the Bitcoin network, as transactions are recorded and verified in a transparent and immutable manner.
Censorship resistance
The fiat monetary system is centralized, which means we have to rely on central banks and commercial banks to manage the financial system with integrity. However, there is a long history of this trust being violated, and this is the primary weakness in our current financial system. Bitcoin, on the other hand, is fully decentralized with no single point of failure, and is designed to empower individuals rather than the state. Nakamoto recognized this weakness in the fiat system and highlighted it in the Bitcoin whitepaper.
The security and decentralization of the Bitcoin network are ensured by the fact that each node in the network acts as a check and balance on the rest of the network. Unlike centralized systems that have a single point of failure, the decentralized nature of the Bitcoin network makes it resistant to attack and corruption. As more nodes join the network, the level of decentralization increases, making it even more resistant to censorship and corruption.
One of the most critical features of the Bitcoin network is its absolute scarcity, with a fixed supply limit of 21 million Bitcoins. This scarcity is enforced in a decentralized manner, which removes the power to manipulate the currency from any central authority. This attribute of absolute scarcity is what makes the Bitcoin network functional and valuable, as it creates financial incentives that drive its adoption and usage. In contrast, CBDCs have no supply limit and are designed to lose value over time, just like current fiat money. Therefore, without censorship resistance built-in, the entire system is compromised.
Bitcoin’s censorship resistance has once again been proven, as demonstrated by the recent incident. If the wallet in question had belonged to a central bank digital currency (CBDC), the outcome would have been drastically different. This highlights a key distinction between Bitcoin and CBDCs: while Bitcoin has the potential to address the fundamental flaws of the current monetary system and create a more stable economic foundation, CBDCs simply represent a digital version of the existing system, without addressing its shortcomings. By fixing the broken monetary system, Bitcoin provides a solid base upon which other economic issues can be addressed.
Bitcoins are digital currencies. It uses an algorithm and cryptographic protocols. This makes them impossible to counterfeit.
Bitcoin is not regulated by any political or governing authority, and therefore is not subject to political influence. It cannot be frozen or seized by any government or authority, as it operates independently of any centralized control.
The Bitcoin payment network is highly secure and resistant to counterfeiting or cheating. Only 21 million bitcoins will ever exist, making the value of Bitcoin a long-term promise against other real-world currencies. This high level of security and finite supply make Bitcoin a valuable asset with the potential for long-term growth.
Bitcoin transactions are tamper-proof, meaning that they cannot be altered or tampered with. This provides a high level of security and trust in the Bitcoin network, as transactions are recorded and verified in a transparent and immutable manner.
Disadvantage
Once a Bitcoin payment is initiated and completed, it cannot be refunded or held. Transactions take place directly between users without the need for an intermediary, which means that Bitcoin cannot be transferred back once it has been sent.
To summarize, Central Bank Digital Currency (CBDC) and Bitcoin are both digital currencies, but they differ significantly in their characteristics and purposes.
CBDCs are issued and supported by central banks, giving them a centralized control structure. They are intended to promote financial inclusion, implement monetary policies, and reduce transaction costs.
On the other hand, Bitcoin is a decentralized currency that operates on a peer-to-peer network with no central authority or control. It is designed to be transparent, decentralized, and resistant to censorship, providing users with a higher degree of privacy and security.
While both CBDC and Bitcoin offer fast and low-cost transactions, their intended purposes differ. It is worth noting that their impact on the financial system may also vary.
In summary, while CBDC and Bitcoin share similarities as digital currencies, their fundamental differences make them unique and cater to different users and purposes.
Source
- What is a Blockchain Smart Contract? (March 5, 2023)
- Bitcoin Lightning Network and how does it work? (March 4, 2023)
- Monthly Crypto News February 2023 (March 3, 2023)
- Reasons to add Bitcoin to your portfolio (March 3, 2023)
- What Is a Cryptocurrency ATM And How Does It Work? (March 3, 2023)
- Can cryptocurrency go mainstream? (March 3, 2023)
Naren is a finance graduate who is passionate about cryptocurrency and blockchain technology. He demonstrates his expertise in these subjects by writing for cryptoetf.in. Thanks to his finance background, he is able to write effectively about cryptocurrency.