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BIS Economist Proposes "Embedded Supervision" to Enhance Transparency of Tokenized Markets

Economist Raphael Auer of the Bank for International Settlements (BIS) has championed distributed ledger technology (DLT) as a way of supervising financial market risks.

Essentially, Auer purports that, “The spread of distributed ledger technology in finance could help to improve the efficiency and quality of supervision.” In his recently released working paper, Auer made the case for ‘embedded supervision’ which leverages machine learning or artificial intelligence and effectively creates a framework that allows compliance with regulatory goals to be automatically monitored by reading the market’s ledger, thus reducing the need for firms to actively collect, verify and deliver data.

The paper explains that DLT and smart contracts can be leveraged to create new forms of transparency and data credibility for the development of financial markets and can eventually eliminate the need for any third-party data verification. Auer writes that there is a necessity for regulators to establish auxiliary frameworks to govern distributed markets, however, DLT would ensure a more cost-effective and higher quality of compliance. He concludes, “Embedded supervision could further help maintain the confidentiality of firms and their customers, since cryptographic tools can be used to report an institution’s aggregated financial exposures to the supervisor without disclosing the underlying individual transactions.”

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Six Central Banks Form Working Group to Assess Central Bank Digital Currencies

Six central banks around the world have come together to create a working group to share experiences on use cases on central bank digital currency (CBDC). With significant expertise in exploring digital currencies, these six central banks are the Bank of Canada, Bank of England, Bank of Japan, European Central bank, Sveriges Riksbank in Sweden, and the Swiss National Bank, along with the Bank for International Settlements (BIS).

Benoît Cœuré, the Head of the BIS Innovation Hub, will be the co-chair of the group along with Jon Cunliffe, the Deputy Governor of the Bank of England and the Chair of the BIS Committee on Payments and Market Infrastructures (CPMI). Cœuré is also the chair of the G7 working group on stablecoins and was previously the CPMI chair.

The announcement explicitly stated that the working group would “assess CBDC use cases; economic, functional and technical design choices, including cross-border interoperability; and the sharing of knowledge on emerging technologies.”

Although other Asian central banks, such as the People’s Bank of China, the Monetary Authority of Singapore, with extensive CBDC research experience, have not been included in the group. China’s central bank has been reportedly testing out its CBDC, and Singapore’s central bank has been in the process of its CBDC Project Ubin. The Bank of Thailand has been exploring CBDC as well with its Project Inthanon, with CryptoBLK.

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BIS Newest Quarterly Report: What Potentials Do CBDCs and Distributed Ledger Technology Hold?

The Bank for International Settlements (BIS) has released its newest quarterly report on the changes in the payment industry, including the market impact of the recent coronavirus outbreak.

Some of the trends mentioned in the report include stablecoins, tokenized securities, central bank digital currencies (CBDCs), cross-border payments, and peer-to-peer payments.

The pace of change and innovations’ potential for disruption in the payments industry was one of the key takeaways of the report. In turn, this has propelled payment systems to the top of policymakers’ agenda, according to the BIS.

Technology and cross-border payments

“The most transformative option for improving payments is a peer-to-peer arrangement that links payers and payees directly and minimizes the number of intermediaries. Many peer-to-peer arrangements use distributed ledger technology (DLT),” read the report.

Bitcoin and Libra have also caught the institution’s attention, while the BIS acknowledged that central banks are increasingly exploring the “desirability and feasibility of establishing their own peer-to-peer systems through digital currencies.

Central bank digital currencies

The current challenge of central bank digital currencies, as explained in the report, is the design of the digital currency that “combines the virtues of a direct claim on the central bank with the convenience offered by intermediaries.”

Some of the key areas CBDCs that the report covered is that CBDCs should be secure, accessible, and offer retail convenience while protecting users’ privacy.

The results based on the study by Auer, Cornelli, and Frost (2020) found that the results of the CBDC projects are mixed; some projects have determined the costs for creating a CBDC exceed the benefits.

The report mentioned Project Inthanon-LionRock,a CBDC study by the Bank of Thailand and the Hong Kong Monetary Authority in 2020, where a proof of concept was completed for wholesale payments. One of the key findings from the study concluded that due to the highly efficient and trusted retail and wholesale payment infrastructures in Hong Kong, there is not an urgent need for a CBDC at both the retail and wholesale levels. Although there is little value in developing a CBDC for retail payments, the study found that there has been an increase of interest in cross-border payments in funding solutions. The two authorities hope the study will help both jurisdictions in terms of trade.

Previously reported by Blockchain.News, Sweden is currently one of the least cash-dependent countries in the world, with banknotes only taking up 1 percent of the Swedish GDP, according to Riksbank’s data.The data also showed compared the Swedish’s cash GDP against 11 percent in Europe, 8 percent in the United States, and 4 percent in the UK.

The BIS also designed the CBDC pyramid, addressing the needs of the consumer if a CBDC is offered.

Source: BIS

Although bankers have been in dispute over DLT and CBDC, BIS researchers say that existing trials have “not always been encouraging,” although central banks such as the People’s Bank of Chinahave been pushing forward with CBDC trials.

Tokenization: The future of securities settlement

The BIS mentioned that currently, traders are used to the inefficiencies of the settlement systems, although these inefficiencies are regarded as limitations. Blockchain could be used to disrupt the systems to remove the need for intermediaries, and the resulting efficiencies could be a game-changer for markets.

However, there is a catch – “Market participants might not want to move to shorter settlement cycles, as this could increase liquidity requirements and give market-makers less time to source the cash or securities needed for settlement,” the report said.

These issues, along with legal requirements must be dealt with before the BIS decides that a distributed ledger-based technology would be suitable for a new securities system.

World Bank Pushes to Raise the Bar for FinTech and DLT for Cross-Border Interoperability and Financial Inclusion

The World Bank Group has recently published a study, issued by the Bank for International Settlements (BIS) on “Payment aspects of financial inclusion in the FinTech era,” highlighting the concepts derived using blockchain, including stablecoins, and central bank digital currencies (CBDCs).

Disruptive technology and innovation have made its way to the financial services sector, specifically evident in the payments industry. This has led to the “era of fintech,” as the report indicates, which has the ability to transform the provision of financial services, leading to advanced business models, applications, processes, and products.

The report reflects and enhances the guidance issued in the report on Payment aspects of financial inclusion by the World Bank along with the Committee on Payments and Market Infrastructures in 2016. In this report, FinTech has been emphasized with its opportunities and challenges in improving access to and the usage of safe transaction accounts.

As usual, as the report indicates the benefits of leveraging financial technology for financial inclusion strategies, it also emphasizes on attending to the potential risks. These risks include operational and cyber resilience risks, and it is essential to note and protect customer funds, data, privacy, digital exclusion, and market concentration.

FinTech developments could potentially enable an increased international and cross-sectoral coordination, with the development of CBDCs, and other cross-border innovations, the report calls for the continuation of addressing the risks involved.

Distributed ledger technology

Distributed ledger technology (DLT) has been regarded as one of the most relevant new technologies in the FinTech development area for financial inclusion, along with cloud computing, contactless technologies, digital identification, and the internet of things. These technologies could be applied to existing payment products or financial products to promote broader access to the population.

The institution indicated hope that the technology would live up to its expectations, as the application of DLT could address the challenges in enhancing access to financial services. Other than the payment and financial services applications, identity management systems, and asset registries could also be eased with DLT.

The PAFI FinTech wheel shows the focus of new technologies in the center of the wheel while allowing for optimization for traditional existing processes and products, and new products that could be harnessed with the technology, according to the report.

Source: Bank for International Settlements

What about Stablecoins and Libra?

The World Bank also highlighted the role of stablecoins and CBDCs in cross-border transactions, and stablecoin projects such as Facebook’s Libra has acted as a catalyst for many jurisdictions to be open to exploring CBDCs to address cross-border payment difficulties.

The report stated, “Stablecoins have prompted central banks in some countries to accelerate their investigations into CBDCs and generally resulted in greater attention being paid to the challenges of financial inclusion and more efficient cross-border payments […] No global retail stablecoin initiative is currently operational.”

BIS report on the changes in the payment industry, impact of the coronavirus outbreak

The Bank for International Settlements (BIS) has previously released a quarterly report on the changes in the payment industry, including the market impact of the recent coronavirus outbreak.

Some of the trends mentioned in the report include stablecoins, tokenized securities, CBDCs, cross-border payments, and peer-to-peer payments.

Bitcoin and Libra have also caught the institution’s attention. At the same time, the BIS acknowledged that central banks are increasingly exploring the “desirability and feasibility of establishing their own peer-to-peer systems through digital currencies.

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How Does Cryptocurrency Regulation News Affect the Bitcoin Price? Bank Of International Settlements Research Reveals

New research conducted on behalf of the Bank for International Settlements indicates that contrary to popular belief, the Bitcoin price and other cryptocurrency prices respond very positively to news of incoming regulations,when they are clear.

The Dallas Federal Reserve Bank’s Globalization Institute recently published a working paper by researchers from the Bank for International Settlements which found that crypto markets react positively to clear regulations and often decline at news of central bank resistance and bans.

Crypto Markets Thrive With Clear Regulation

It may be no surprise that the official white paper reveals that cryptocurrency markets tend to take a plunge when news surfaces of a potential government or central bank imposed ban on the horizon. The findings ,however, show clear evidence of the markets surging when clear crypto regulations are announced.

Source: Federal Reserve Bank of Dallas Globalization Institute

The researchers analyzed Bitcoin and other cryptocurrencies to determine the factors that were instigating price movements in relation to official government action. Tackling the question directly, the BIS researchers wrote, “Why do news events about national regulations have such a substantial impact on cryptoassets that have no formal legal homes and are traded internationally? Part of our interpretation is that cryptocurrencies rely on regulated institutions to convert regular currency into cryptocurrencies.”

The above indicates that having clear regulatory oversight when bridging the traditional markets to the crypto markets through fiat on and off-ramps are still important to crypto traders as are finding official institutional channels.

Despite its reputation of wanting to be left well alone by regulation, the new research highlights the contrary and clearly indicates that at this fork in crypto’s history, as put by the researchers,”authorities around the globe do have some scope to make regulation effective,” as the community appears to be seeking more regulatory clarity, not less.

BIS Reports on the Changes to Payment Industry and COVID Impact

As reported on April 15, the Bank for International Settlements (BIS) has previously released a quarterly report on the changes in the payment industry, including the market impact of the recent coronavirus outbreak.

Some of the trends mentioned in the report include stablecoins, tokenized securities, CBDCs, cross-border payments, and peer-to-peer payments.

Bank of International Settlement Revealed Positive Outlook on Central Bank Digital Currencies

The Bank for International Settlements (BIS), a coalition of 62 central banks, has weighed in on the trending topic of central bank digital currencies (CBDCs).

The global central bank noted a positive interest by central banks to develop their state-backed digital currencies. This observation was contained in a special chapter it released ahead of its forthcoming annual report. The report reiterates the desire of central banks to stay relevant in discharging its duties in helping to maintain the safety and integrity of the payment system.

BIS’ position on CBDCs

As a global organization, the BIS has a mission to serve central banks in their pursuit of monetary and financial stability, to foster international cooperation in those areas, and to act as a bank for central banks. In discharging its vested duties, the Bank for International Settlement releases on an annual basis, a report detailing the advances in monetary policies and technological adoption by central banks. This report is usually formulated with data released by member bodies.

The BIS reaffirms the flexibility of central banks in embracing digital innovation that is dynamically changing the payment services landscape. One of the major innovations is in the development and the eventual digitization of fiat currencies to wade off existing cryptocurrencies and the proposed Facebook Libra.

BIS also strengthens members to harness their roles as operators, overseers, and catalysts in the financial system of their country to fast-track the creation of their own CBDC. A BIS survey conducted in 2019 revealed that about 70% of central banks under its umbrella were exploring the option of a CBDC. Seeing the trend, the apex bank felt obligated to lend its support.

Subtle concerns about CBDC

The blockchain technology that CBDCs are proposed to be built upon has a pseudo-anonymous framework. Experts believe the privacy current currencies offer may be masked out with centralized control that would come into effect with CBDCs. While the proposed CBDCs will help central banks regain full authority of the financial ecosystem, its prospects are not so enticing to the independent investor.

Central Bank Digital Currencies Are Not Like Bitcoin or Cryptocurrency

Central bank digital currencies are perhaps one of the most transformative developments in our world financial system currently in development. CBDC are digital assets, but they are not cryptocurrencies and in fact strike at the heart of the very philosophy that brought Bitcoin into existence.

Central banks around the world are competing to be the first to release their central bank digital currencies (CBDC) as the world economy is being reshaped by the challenges of the COVID-19 pandemic. China has been the frontrunner, aggressively piloting its own DCEP (Digital Yuan) and the most powerful central banks including the Federal Reserve and the European Central Bank collaborating on research to assess the positives and negatives of CBDC implementation.

The move by central banks to create sovereign backed digital currencies have accelerated as the cryptocurrency market has matured. Ethereum is no longer the hypothetical flaccid unused base layer blockchain but instead finds itself hosting an entirely new ecosystem of decentralized finance. Bitcoin appears to have come even further, after weathering the storm of being labeled a bubble pump and dump scheme, the pioneer cryptocurrency is now being leveraged more than ever in retail use cases and particularly as an institutional hedge.

While these cryptos have been maturing, there is no doubt the real scare for central banks occurred at the announcement of the impending launch of Facebook’s Libra token. While central banks were wary of Bitcoin’s power, the reality is that with less than 5% global adoption, there remained little to fear. Facebook however was preparing to enter the world of finance with their platform already consisting of over two billion users ready to leverage Libra, which would have created a seismic shift in the global monetary system.

Making a comparison between the soon to be launched central bank digital currencies and decentralized cryptocurrency is understandable, but from what we know the core principles behind a CBDC actually run counter to the philosophy of crypto. Bitcoin itself was created as a means to escape the monolithic central banks and debasing monetary policy of the Federal Reserve in reaction to the 2008 global financial crisis. BTC and crypto are a way to escape the banks and hedge against the loss of spending power in cash. CBDC is playing for the other side, desperate to maintain the oligopoly of the world’s banking system.

Crypto VS CBDC—What’s the Difference?

Centralized Vs Decentralized

The first and most obvious critical difference between a cryptocurrency like Bitcoin and a CBDC is one is decentralized, and the latter is very centralized. Cryptocurrencies are supported by numerous distributed nodes that are incentivized through block rewards to maintain the network. CBDC is supported by one central network, driven to serve only the public policy of the sovereign state that issues them.

Having central banks in control will mean more central bank decisions, which is what has brought us to this precipice of having to reconsider our global financial system. As has been the case throughout COVID-19, central banks are likely to focus on one issue while ignoring another, perhaps focusing on creating employment and buoying the markets while allowing their debt to pile up and without adequately dealing with inflation. Privacy and Autonomy

The second point of contention between a CBDC and Bitcoin or crypto, is the idea of financial autonomy and privacy, with the former being less likely to respect your privacy and data. Central banks are infused to regulatory bodies, while crypto remains largely independent particularly in a peer-to-peer sense. As identified in the Bank for International Settlements recent report, in terms of data the question is which agencies should have access to it and how much access?

Cryptocurrencies in a peer-to-peer setting allow the user to decide how much data they choose to share about themselves, but it does seem inevitable that every transaction of a future CBDC would see chunks of data automatically shared with regulatory authorities or tax agencies.

While this may not seem like a huge issue if you aren’t doing anything illegal, as was apparent in the Department of Justice’s recent Cryptocurrency Enforcement Framework, and highlighted by Ripple co-founder Brad Larsen—the default assumption is that people who wish to use privacy-preserving technology are presumed to be bad actors. However, there are many reasons for this that are not just related to criminal activity. Although privacy is obviously a necessity for criminals, law-abiding citizens need privacy as well to protect themselves from such criminals who are constantly on the hunt for a vulnerable target.

Security

The final point of difference pertains to security, and so far cryptocurrencies have weathered this storm while central banks have not. Weaknesses in blockchains and particularly exchange security have been identified—issues with self-custody and identification of wallet addresses after reuse, the possibility of a chain-wide 51% attack and more.

While it may not appear obvious, CBDCs present an even larger attack surface and are likely to be cyber-attacked by rival states who now have to contend with one centralized point of failure for financially motivated hackers to attack. States that issue CBDC will most likely face an onslaught of cyberattacks, particularly in the early years and as has been highlighted this year—government agencies and countries are very susceptible to coordinated hacking efforts as well.

The Philosophical Difference

Although the rise of CBDC development is an obvious testament to the success of cryptocurrency, the differences are numerous. CBDC will effectively compete and attempt to negate crypto, not necessarily find ways to bring Bitcoin into the fold.

While central bank digital currencies will have the speed and practicality of cryptocurrency, opposition to crypto is fundamentally why CBDC will soon exist and philosophically they are the antithesis of everything Bitcoin was created for—to escape the constraints of a broken financial system, empower individuals with financial autonomy, and to bring transparency and trust to finance.

Bank for International Settlements to Issue a PoC CBDC With the Swiss Central Bank Before the End of 2020

The Bank for International Settlements (BIS) is reportedly set to issue a Central Bank Digital Currency (CBDC) at the Proof of Concept (PoC)stage in conjunction with the Swiss National Bank. As reported by the Chinese media outlet The Paper, Benoît Cœuré, head of the Innovation Center of the Bank for International Settlements (BIS), revealed this plan at the second Bund Summit and noted that the PoC is set to go live by before the end of this year.

The race to launch a Central Bank Digital Currency has taken the center stage for at least 80% of the Central Banks aligned with the BIS and in addition to its collaborative plans with the Swiss National Bank, the BIS also intends to establish a cross border use of CBDCs with such central banks including The Bank of Thailand and the Hong Kong Monetary Authority of China to mention a few.

As Cœuré noted, the co-launch of the PoC with the Swiss National Bank will make room for additional experiments to explore the use of a Central Bank Digital Currency in a commercial or retail setting, compliance monitoring as well as digital identity tracking.

How receptive can Switzerland be to this collaboration?

Besides Switzerland housing the Bank of International Settlements (BIS), the country has been receptive to several blockchains and cryptocurrency innovations from time. One such reception is in the country serving as the base of the Libra Association whose stablecoin proposal has met with stiff resistance from several world powers including the United States of America.

Switzerland is also working to reform its current laws in order to validate digital assets and cryptocurrencies all in a bid to drive innovation. The country’s diverse reception to digital currencies and blockchain innovations makes it a suitable partner is chosen by the BIS to trial the proposed CBDC PoC.

IMF Believes Central Banks Need Strong Legal Frameworks for CBDCs to Work

The issuance of central bank digital currencies (CBDCs) by apex global banks has become a hot topic in the crypto space, and the International Monetary Fund (IMF) has delved into it with some precautionary measures.

The IMF believes that strong legal frameworks are necessitated because CBDCs pose reputational, financial, and legal risks for central banks.

A race against time

The issuance of CBDCs seems to be a race against time because, in the eyes of many nations, owning a CBDC is instrumental in having control of the global markets. This can be shown by the fact that the Bank for International Settlements (BIS), along with seven central banks, recently released a report identifying the foundational principles necessary for any publicly available CBDCs to help central banks meet their public policy objectives.

The IMF has, however, advised central banks to tread with caution because they may be jumping the gun by overlooking some essential legal frameworks needed for a CBDC to work. The global monetary organization noted:

“First, most central bank laws do not currently authorize the issuance of CBDC to the general public. Second, from a monetary law perspective, it is not evident that “currency” status can be attributed to CBDC.”

Monetary law poses some challenges

The IMF affirmed that the monetary law is not straightforward because it triggers fundamental legal policy difficulties compared to the central bank law, which can be solved using simple reforms. Furthermore, it acknowledged that a CBDC’s design features will determine the outline of the legal framework.

Once rolled out, CBDCs are expected to drive the financial inclusion of nearly 1.7 billion people left out of the banking system. This is because CBDCs are digital assets, which are pegged to a real-world asset and backed by the central banks meaning that they represent a claim against the bank exactly the way banknotes work. Central banks will also be in full control of the supply.

New BIS Report Advocates Using Embedded Monitoring Trackers For Stablecoins

A new report from the Bank for International Settlements (BIS) has advocated the deployment of ‘Embedded Systems’ in the monitoring of global stablecoin projects such as Facebook’s proposed Libra.

The report noted that the emergence of distributed ledger technology has caused a paradigm shift in payment systems particularly with the rollout of stablecoins.

The coming of stablecoins also served as a wake-up call for Central Banks around the world who are saddled with providing the needed regulations for these fast-emerging digital currencies that aim to overhaul global payment systems. This new BIS report proposes the use of embedded monitoring systems as one of the viable means to employ in the tracking and regulation of stablecoins.

“Global stablecoins should take into account the potential of other stablecoin uses, such as embedding a robust monetary instrument into digital environments, especially in the context of decentralized systems,” the BIS report reads. “Looking forward, in such cases, one possible option from a regulatory standpoint is to embed supervisory requirements into stablecoin systems themselves, allowing for “embedded supervision.”

According to the Bank for International Settlements (BIS), besides the integration of embedded monitoring systems into stablecoin projects, Central Bank Digital Currencies (CBDCs) could also serve as an effective way in curtailing the global dominance that private global stablecoins like Libra may bring.

To date, some countries have made remarkable advances in developing their own CBDC with the BIS confirming that a good number of Central Banks have a positive outlook to Central Bank Digital Currencies. While those countries with positive disposition are at a varying stage with respect to their CBDC developments, nations like the Bahamas and China have rolled out an actual CBDC that is being used in transactions. The launch of the Bahamas Sand Dollar is official while that of China is in its advanced trial stages.

The BIS appears to have confidence in ‘Embedded Supervision’ systems. A BIS economist prior to this time once suggested the use of Embedded supervision to enhance the transparency of tokenized markets.