Amid the growing prominence of decentralized finance, central banks are increasing their endeavors to maintain control over financial systems, including through central bank digital currencies (CBDCs).
Recent strides by MENA countries indicate the region’s growing interest in CBDCs. Earlier this month, Saudi Arabia’s central bank joined a cross-border trial for CBDCs, Project mBridge, which already included China, the United Arab Emirates, and other members. Around the same time, Qatar launched a CBDC project that is set to enter its first experimental phase later this year.
In this Council Views, experts from the ME Council and its network address the geopolitical motivations behind the adoption of CBDCs, their potential socio-economic impacts in the MENA region, and how these initiatives could reshape the future of money.
Future Readiness is Needed for CBDCs in the MENA Region
Traditional currencies are becoming outdated, paving the way for digital currencies, including CBDCs, to take center stage. CBDCs represent more than just technological advancements; they signify a fundamental shift in the financial landscape, with far-reaching consequences. To prepare for this, MENA central banks must embrace this transition by taking a more active role in the global discussion on CBDCs.
Times of crisis, such as the 1997 Asian financial crisis and the 2008 global financial turmoil, spark discussions on the evolution of money and its impact on financial systems. From the invention of standardized gold coins by the Lydians to the current discourse on CBDCs, the evolution of money underscores the need for proactive engagement in shaping its future. The COVID-19 pandemic accelerated the shift towards digitalization and cryptocurrencies, emphasizing the need for proactive measures to ensure financial stability and hedge against the risks of cash-based, traditional currencies. In the face of long-term challenges, like geopolitical tensions and climate change, the need for future readiness is becoming even more urgent, particularly for MENA countries.
One entry point into the global CBDC discussion could be the establishment of a joint innovation hub for the MENA region at the Bank for International Settlements, which hosts other international CBDC initiatives. This platform would enable MENA central banks to collaborate on the planning and implementation of CBDCs, ensuring their successful integration into the global financial governance architecture.
In sum, the adoption of CBDCs represents a pivotal moment in the evolution of money. MENA countries must seize this opportunity to proactively shape the future of money.
CBDCs Provide a Hedge Against Dollar Weaponization
According to a recent IMF survey of monetary authorities in the Middle East and North Africa region, every central bank expressed an interest in exploring the adoption of CBDCs. Several central banks in the GCC have already taken steps to design and pilot their CBDCs. The declared objectives by respondents to the survey largely focused on expanding financial inclusion and making domestic and cross-border payment systems more efficient. These objectives apply with varying degrees of relevance and urgency to all countries.
The survey does not reveal, however, whether countries are also motivated by geopolitical considerations to adopt these digital currencies. Yet these must be factored in as the dollar-dominated international financial system adjusts to heightened geopolitical competition and growing financial fragmentation. Specifically, the growing threat and actual weaponization of the U.S. dollar to impose sanctions and block access to cross-border payments are pushing countries to mitigate the risks from over-reliance on the dollar and Western-controlled systems. With CBDCs, countries would be able to process and settle financial transactions, bypassing the dollar-based system altogether.
It is no coincidence that the countries most advanced in adopting CBDCs in the region—Saudi Arabia and the UAE—are the most active geopolitically and arguably also the most exposed to U.S. measures. Both countries have maintained robust ties with Russia following the invasion of Ukraine while pursuing deeper trade and technological cooperation with China. Both Russia and China have been on the receiving end of U.S. sanctions in recent years and are founding members of the BRICS club, which now includes the UAE, while Saudi Arabia is still considering an invitation to join.
How MENA Countries Can Benefit from CBDCs
CBDCs can be the cornerstone for secure and efficient monetary, financial, and market digital transactions. For the MENA region, socio-economic benefits from the roll-out of CBDCs would be two-fold:
First, for developing nations, a retail CBDC could lead to greater financial inclusion. Only 48% of adults in the MENA region—excluding high-income nations—have a financial account, around 23 percentage points lower compared to the developing economy average. CBDCs designed to operate offline could be used by the unbanked and large populations of immigrants, refugees and displaced individuals. Moreover, interoperability is a vital feature that would enable greater adoption and usage of CBDCs. Data derived from CBDC usage can be used to establish credit profiles, improving access to finance including for small and medium-sized enterprises (SMEs), as this would lower disparities in lending arising from a lack of information on credit risk.
Second, for wealthier countries like those in the Gulf Cooperation Council (GCC), CBDCs would facilitate trade and financial transactions through faster, cheaper, more transparent, and more inclusive cross-border payment services, while reducing the risk of cross-border payments and increasing settlement efficiency.
Importantly, CBDCs need to be supported by secure, inclusive infrastructure, including digital public infrastructure to enable digital identities. This could be along the lines of a national digital ID (such as India’s Aadhaar), real-time payment systems (Brazil’s Pix or Egypt’s InstaPay), or integrated payment systems (e.g. China’s e-CNY pilot program and integration with Hong Kong), among others. Digital inclusion needs to be one of the pillars of CBDC rollouts, with financial literacy and data protection integrated into the process. There should be a holistic—not a silo—approach to designing and rolling out CBDCs.
Testing the Waters for CBDCs
The global interest in CBDCs—be it in research and development, piloting programs, or the decision to adopt—largely derives from the desire of central banks to uphold and maintain centralized finance and the difficulty of regulating cryptocurrencies. In decentralized finance, the biggest development in recent months was the U.S. approval of exchange traded funds (ETFs) for Bitcoin and Ether. China, on the other hand, has formally outlawed cryptocurrencies and the People’s Bank of China has already conducted a pilot for a digital yuan, the e-CNY.
China’s push for the e-CNY has led to interoperability tests at the Bank of International Settlements (BIS) through Project mBridge, which Saudi Arabia recently joined as a “full participant” alongside the central banks of China, Hong Kong SAR, Thailand, and the UAE. Prior to Project mBridge, Saudi Arabia and the UAE conducted an interoperability test through Project Aber. There are several other interoperability projects at BIS, including Project Mandala (with the central banks of the Republic of Korea, Singapore, Malaysia and Australia) and Project Agorá, which includes the Bank of Japan, the Bank of Korea, Banque de France representing the Eurosystem, the Bank of Mexico, Swiss National Bank, Bank of England, and the Federal Reserve Bank of New York.
The country groupings of these projects reflect the intricate play of geopolitics and technology gaps underlying the development of CBDCs. In the MENA region, taking prudent steps toward CBDCs is crucial. However, countries should deliberate on the desired technology and prototypes, based on their preferences that are shaped by socio-economic conditions within jurisdictions. Such preparations would benefit the region, regardless of the countries’ decisions to adopt CBDCs, in gauging where they aim to be in digital finance.
Finding the Right Role for Central Banks with Digital Currencies
Proponents of CBDCs argue that they offer substantial socio-economic benefits, including enhancing financial inclusion among underserved and unbanked populations. Indeed, CBDCs can improve the efficiency of transactions by cutting transaction costs and times, which can have a disproportionately positive impact on low-income and underserved populations. CBDCs are especially promising for cross-border transactions, reducing costs and delays in processing remittances and benefiting migrant workers and their families. Governments can also use CBDCs to send payments directly to citizens, which can be especially beneficial in times of emergencies and crises.
However, while CBDCs can and should be designed to enhance financial inclusion, other digital platforms already offer free and near-instant money transfers, mobile payments, and branchless banking solutions. For example, M-PESA, which launched as a mobile money service in Kenya in 2007, now offers access to savings and credit. Even delays in cross-border transactions can be addressed through developing common standards and improving interoperability across banking systems. Emergency payments to citizens can be made through current digital payment platforms, not necessarily using digital currencies.
Central banks play a critical role in managing the money supply, implementing monetary policy, and regulating financial institutions. When issuing CBDCs, central banks should not be distracted from these primary functions. Indeed, they should focus on the risks and challenges associated with CBDCs, such as cybersecurity threats and data privacy issues. Especially in the early days, central banks must take care not to displace or crowd out other digital platforms. They should issue digital currencies that are designed to ensure financial inclusion but allow other platforms to serve as channels for reaching those in need.
The Three Myths About Central Bank Digital Currency
The prospects stemming from the adoption of CBDCs have spawned a growing “techno-optimism,” especially in the Global South. However such sentiments are based on several myths.
The first myth relates to the ability of CBDCs to dethrone the U.S. dollar as the international reserve currency. In particular, China’s e-CNY (digital yuan) carries the hopes of demographically and economically emerging Global South countries seeking to mitigate the weaponization of the dollar. However, in the medium run, the dollar is largely expected to remain the dominant reserve currency barring catastrophic events or major policy mistakes.
The second myth relates to the CBDC’s ability to do away with macro-structural issues facing developing countries. Nigeria’s introduction of the eNaira provides a case in point that CBDCs do not help solve perennial macro-structural issues. The limited uptake following the introduction of the eNaira led the authorities to resort to cracking down on cryptocurrencies and the black market in foreign exchange.
The third myth relates to the benevolence of governments pushing for CBDCs. Indeed, governments around the world have invoked financial inclusion as the prime motive behind the push to adopt CBDCs. Yet, untold objectives could lead to the suppression of private digital money and in turn the end of anonymity that those currencies allow. While private digital money, including cryptocurrency, carries risks and should be regulated, CBDCs should be viewed as a complement and not a substitute to private money.
CBDCs: The Global and Regional Impetus and Missteps
The momentum behind the use of CBDCs is surging globally, including within the GCC. Yet the motivations behind adopting CBDCs vary. For GCC countries, key aims include enhancing financial stability and gaining a stronger global presence. The GCC’s energy-rich economies with fixed exchange rates could see their currencies function as sovereign stablecoins (digital currencies pegged to commodities or traditional currencies), potentially surpassing private stablecoins like Tether. This would position Gulf central banks as influential players in the space.
Globally, CBDCs are seen as tools for real-time financial oversight and regulatory enhancement. Real-time transaction tracking allows central banks to monitor economic activities closely, detect irregularities promptly, and implement regulatory measures swiftly. Even with limited circulation, CBDCs’ insights can help prevent financial crises, mitigate systemic risks, and improve stability. However, viewing CBDCs as replacements for decentralized stablecoins is misguided. Stablecoins operate outside traditional systems, offering decentralized, borderless services that CBDCs cannot replicate.
The existing digitization of payment systems has matured significantly, suggesting CBDCs may not provide immediate domestic benefits. However, adopting CBDCs is crucial for future-proofing financial infrastructures, especially for enhancing cross-border settlements. Additionally, CBDCs can integrate seamlessly with a digitized trade finance ecosystem, utilizing distributed ledger technology and smart contracts. This presents a significant opportunity, potentially revolutionizing trade and finance with faster, more cost-effective, and more secure transactions.
While the motivations behind adopting CBDCs are clear, their role should be complementary to decentralized stablecoins. Countries should focus on leveraging CBDCs for future-proofing, integrating with advanced trade finance ecosystems, and improving cross-border settlements to ensure a robust, innovative, and resilient financial ecosystem.
Payment System Innovations: Risks and Opportunities
In this digital era, CBDCs and other innovative payment systems are revolutionizing finance by enabling seamless financial transactions. Countries like China, Thailand, and the United Arab Emirates are pioneering CBDCs to provide secure and efficient digital payments, paving the way for others.
Singapore is also spearheading several groundbreaking initiatives. Projects like Dunbar, Partior, and Nexus are exploring the use of CBDCs for cross-border payments, tokenization and interoperability. Notably, Project Orchid introduces Purpose Bound Money (PBM), using smart contracts to earmark funds for specific purposes, including sustainability and green finance initiatives, to enhance transparency and targeted interventions.
Complementing these are Distributed Ledger Technology payment systems, such as the Bank of International Settlement’s Finternet and Hyperledger, which drive financial inclusion for underserved populations and enable access to sustainable finance by streamlining transactions.
Stablecoins, digital assets pegged to fiat or real-world assets, are emerging as reliable mediums for exchange and stores of value in the digital economy. Stablecoins like Tether and USD Coin are reshaping payment landscapes.
While transformative, these innovations pose risks regarding financial stability, money laundering, and monetary policy implications. Careful consideration and collaboration are crucial to mitigate risks and reap benefits, including progress toward sustainable development goals.
The MENA region’s unique economic dynamics could leverage these technologies for secure, privacy-preserving digital transactions and seamless payments, boosting trade, growth, and access to green finance. However, addressing potential currency freezes, navigating banking crises, and ensuring rapid capital flows remain vital.