Cross-border payments are crucial to the global economy’s increasing integration. Despite technological advances, international transactions run at very low speeds, are prohibitively costly and are full of inefficiency. But that, of course, will change under the new scheme of Central Bank Digital Currencies.

CBDC Promise

A number of central banks around the world are considering issuing retail CBDCs. In addition to their domestic uses, CBDCs have huge potential to improve cross-border payments. Here is why:

1. Safety and Liquidity: CBDCs are a safe and liquid asset since they are directly backed by the central bank. It reduces the need for multiple financial intermediaries, thereby settling risks.
2. A Clean Slate for Infrastructure: Unlike retrofitting legacy payment systems for interoperability—an often-painful process—CBDCs provide a clean slate in which cross-border functionality can be integrated from the start, therefore increasing efficiencies.
3. Diversity and Resilience: CBDCs can be introduced as an additional medium for international transactions, making diversity in payments possible. This will enhance competition and increase the payment system’s resilience and efficiency.

The macroeconomic effects will be significant. Lower-cost, faster, and more inclusive cross-border payments will strengthen international trade and enable remittance flows to flourish. And with CBDCs designed for this, central banks could find even higher domestic use.

Moreover, designing a CBDC system that is optimized for cross-border payments raises much the same issues associated with other payment systems but also implies an even more involved role for the central bank. In effect, since end-users would actually hold a liability of the central bank, the central bank’s role in infrastructure development and operational oversight becomes that much more intensive.

Key considerations for designing a CBDC system whose architecture is optimized for cross-border transactions include:

1. Access Policies and Roles: Central banks will need to carefully weigh access policies for end-users and intermediaries. The wider the access, the lower the cost of foreign exchange, but this leads to macro-financial risks associated with capital flow volatility or currency substitution.
2. Adoption of International Standards: International standards on the initiation of payments, data management, and messaging, especially the adoption of ISO 20022, is the only way to ensure much-needed cross-border communication and interoperability.
3. Instant Settlement and 24×7 Availability: This can dramatically minimize settlement and liquidity risks with the introduction of mechanisms of instant payments with round-the clock availability.
4. Programmability: Programmability features, like programmable PvP, with the objective of increasing the efficiency already proved by many CBDC experiments.
5. Compliance: Technologies that preserve privacy, yet comply with anti-money laundering and combating the financing of terrorism regulatory requirements, have to be implemented.
6. Modular Technical Designs: Flexible designs that could easily plug into a myriad of arrangements would enable the evolution of CBDC systems to suit the dynamics of cross-border payments.

Collaborative Efforts: The Way Forward

International cooperation lies at the heart of CBDC success. Initiatives such as Project Icebreaker—a joint experiment by the central banks of Israel, Norway, and Sweden—show that joined systems of CBDC offer much potential. Making use of a communication hub for the linking of CBDC test systems, Project Icebreaker has shown the far-reaching feasibility of retail CBDCs in facilitating cross-border payments.

Similarly, Project Nexus is a blueprint for the interconnection of a range of national payment systems to reach the goal of international retail payments in seconds. Project Nexus is the kind of initiative that says an awful lot about consistency in regulatory approaches, shared standards, and common infrastructures.

The way toward optimized cross-border payments is a long and windy one, but the arrival of CBDCs heralds new opportunities. There is a lot that central banks can gain from these, provided that they make wise design decisions at the very beginning and facilitate international collaboration. What that means is a future in which cross-border payments will be fast, cheap, and inclusive, driving global economic growth and prosperity.

References:

• BIS, IMF, and World Bank. (2021 & 2022). [Various Publications].
• CPMI. (2020). [Report on Challenges and Frictions in Cross-Border Payments].
• FSB. (2020a & 2020b). [G20 Roadmap for Enhancing Cross-Border Payments].
• Project Icebreaker. (2023c). [BISIH and Others].
• Project Nexus. (2021). [BISIH].