Leading cryptocurrency fund manager Grayscale Investments explained some fundamental differences in the nature of central bank digital currencies (CBDC) and Bitcoin (BTC). 

In a recent report, Grayscale suggests that CBDCs are an upgrade to the traditional digital payment infrastructure, while Bitcoin is an upgraded version of money itself. The document reads:

“CBDCs are sometimes viewed as synonymous to, or as replacements for, digital currencies like Bitcoin, but they represent a meaningful departure from the decentralized protocols inherent to many cryptocurrencies. CBDCs attempt to upgrade payment infrastructure while Bitcoin is an attempt to upgrade money. If CBDCs gain traction, they may actually bolster the value proposition for Bitcoin and other digital currencies.”

The author of the report — director of research at Grayscale Investments Philip Bonello — explained that CBDCs are digital versions of fiat currencies, and retain many of their features. 

A successful CBDC, according to Bonello, could streamline citizen benefit distribution and provide automated Know Your Customer and Anti-Money Laundering compliance through a centrally controlled digital ledger.

But this also raises significant privacy concerns, as the party controlling this central ledger can see and manage all the transactions carried out through the CBDC. 

Interestingly, former United States Treasury Secretary Lawrence Summers recently argued that the current financial system grants too much privacy. According to him, a CBDC could solve this issue:

“Of all of the important freedoms, the ability to possess, transfer and do business with multi-million dollar sums of money seems to me to be one of the least important freedoms governments should be preserving. […] The case for central bank digital currencies is around equalizing the playing field between smaller and larger players, and making it more difficult for anonymous forms of finance to flourish.”

Bonello explains that the introduction of a CBDC would require financial infrastructure such as merchant payment solutions, digital asset custody, exchange services and wallets to be upgraded. He said that implementing such large-scale changes would surely pose some challenges:

“Operationally, this sort of change would also require new policy and management practices at several different levels, including oversight of hundreds of millions of users’ digital wallets. This would represent a significant shift in managing the control, movement, and accounting of money.”

CBDCs do not fix monetary policy

Furthermore, Bonello points out that “CBDC initiatives tend to focus on the payment advantages over legacy systems, but don’t highlight how a CBDC would maintain its value in an environment characterized by monetary inflation.” In fact, he seemingly suggests that digitizing fiat money would result in easier creation of new fiat money:

“If a central bank successfully digitizes its currency, it would still have the ability to dictate and implement monetary policy. In fact, with logic encoded into a CBDC, it would be easier for a central bank to issue new currency and even set effective rates on assets held in personal custody. In sharp contrast, Bitcoin’s monetary policy is fixed, a feature widely known by its users.”

Bonello concludes that “policy makers will decide how a CBDC is used,” while “Bitcoin can be thought of as an apolitical alternative.” He reiterated that a hypothetical digital dollar will not kill Bitcoin:

“Bitcoin allows anyone to store and transfer value without the risk of debasement, censorship, or seizure. CBDCs may censor non-ordained addresses, and central banks will continue to control the monetary policy. On the surface it seems like a digital dollar might displace Bitcoin’s growth because they are both digital, but it actually fails to address these principal concerns.”

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