The Development of E-HKD in Hong Kong – The Future Way of Currency?

A study shows that 90% of interrogates central banks around the world are exploring the future issuance of central bank digital currencies (CBDCs). Blockchain.News interviewed industry experts to find out the prospects for Hong Kong’s digital currency and its potential adoption.

The outlook for e-HKD

In a recent discussion paper published by the Hong Kong Monetary Authority (HKMA), the local regulator has reached out to the public for consultation on the development of retail central bank digital currency (rCBDC) or digital Hong Kong dollar (e-HKD) . The discussion paper lists a wide range of issues with a dozen key questions covering a wide range of issues:

  • The benefits and potential challenges of e-HKD
  • The balance between privacy and the prevention of illicit activities
  • Interoperability with existing payment system
  • Considerations in terms of legal, design and political perspectives
  • The level of private sector participation

The role of e-HKD

rCBDCs can be divided into two-tier distribution models: the wholesale interbank system and the retail user wallet system, according to the e-HKD technical model. white paper.

“Wholesale CDBC is used for transfers between the central bank and commercial banks or other institutions, while retail CDBC is used for transfers between commercial banks and the general public for retail transactions”, said Professor Chew Seen-Meng, Associate Professor of Practice in Finance and Associate Dean (External Engagement) of the Chinese University of Hong Kong (CUHK) explained.

When it comes to retail CBDCs, a doubt that might arise among the public might be why the market still needs another digital payment tool among other various options in HK?

Chew, the former economist of the Singapore office of the International Monetary Fund (IMF) and Morgan Stanley, acknowledged that “it is true that there is no urgent need for a digital HKD”. picture - 2022-05-18T105416.481.jpg

However, “having an e-HKD could make our lives even more convenient by eliminating the need to carry physical notes and coins and allow virtually all payments to be made at the touch of a mobile phone” in the long run, Chew said.

Moreover, “HKMA’s monetary policy transmission mechanism can become more efficient through e-HKD,” Chew added.

Furthermore, the researcher believes that digital currency could provide a faster and more convenient way to transfer value by potentially supporting more economic activity if digital currency is accepted as a medium of exchange by the public over the long term.

“Since the value of e-HKD will be controlled by HKMA, it is already a kind of stablecoin. As long as HKMA is able to keep the value of e-HKD stable through algorithms or its foreign exchange reserves, the risk of a fall in the value of e-HKD should be quite low.

Currently, a plethora of payment platforms have already conquered the market.

Electronic wallets with Peer-to-Peer (P2P) payment functions are becoming widespread in Hong Kong.

In e-commerce alone, digital wallets are expected to account for 40% of the city’s online transaction value by 2025, surpassing credit cards, according to the 2022 Global Payments Report from US financial technology firm FIS. .

In an exclusive interview with Blockchain.News, Etelka Bogardi, Partner of Asia Lead of Global Payments and Fintech Practice, Norton Rose Fulbright Hong Kong, told the outlet that “one of the main design considerations should be interoperability with existing systems”. picture - 2022-05-18T105536.320.jpg

Bogardi, a Hong Kong-based financial services regulatory lawyer and former Hong Kong Monetary Authority’s lead lawyer suggests regulator should be wary of e-HKD’s impacts on banks and any potential disintermediation effects, given Hong Kong’s status as a financial center international market and the strong presence of the financial sector.

Meanwhile, Chew also shared a similar view and added that “with so many payment options in Hong Kong, interoperability between e-HKD and all existing payment systems must be fully ensured and secure before the launch of e-HKD.”

“Unless e-HKD can solve some of the problems of current e-payment services or be much more convenient than existing e-payment options, it would be difficult for e-HKD to be adopted by the public among the plethora of payments retail options in Hong Kong,” Bogardi added.

Through the document, the HKMA recalls that “the aim of developing e-HKD is not to replace existing payment methods” but “to avoid creating a closed-loop payment system, which hinders payments made between e-HKD users and users of other means of payment”. systems”.

The rCBDC should provide connectivity between other payment service providers, for example, cross-platform payments should be made efficiently.

Token-based or account-based?

The balance between privacy and access to data is another critical consideration among the systematic questions. The working paper mentions that the main design feature of e-HKD to consider is whether it is issued on token basis or on account.

According to the document, the token base would enable more anonymity in payments between different parties, protecting against abuse of individual data by commercial entities. Still, it could be risky to facilitate illicit activities.

On the other hand, the account-based approach “would require the recording of balances and transactions of rCBDC holders. This approach would rely on the ability to verify the identity of the account holder and could help comply with AML/CFT requirements.

Both approaches require a ledger to perform the transactions with Distributed Ledger Technology (DLT) and tokenization, which could be structured to trace users based on the parties’ degree of anonymity and access to information.

However, Professor Chew said the regulator’s traceability of digital currency indicates that small retailers such as taxi drivers may be reluctant or uninterested in changing their behaviors or trading habits due to taxation concerns.

The regulator said “complete anonymity is implausible”, e-HKD should comply with existing laws and ordinances. Its legal term and legal tender would logically align with the monetary system.

“Overall, while there is work to be done to integrate an e-HKD into the existing legislative framework for currency issuance and related matters, these are not insurmountable hurdles. “The most technical legal issues raised relate to the application of effective AML controls and data privacy laws. In that sense, the discussion around a two-tier issuance and distribution structure is very beneficial,” said Bogardi explained.

Global Adoption of CDBCs

Over the past two years, the global market has been trapped by uncertainties related to the COVID-19 pandemic.

Amid the turmoil, growing demand for improved efficiency in cross-border payments and the emergence of cryptocurrencies, such as stablecoins and other tokens, have also given rise to regulatory challenges, pushing global governments to update their monetary policy in response.

According to the last report published by the Bank for International Settlements (BIS), 90% of interrogates central banks around the world are considering issuing central bank digital currencies. The financial institution added that about two-thirds of central banks surveyed would consider issuing retail CBDCs in the near future.

In 2020, the Bahamas became the first sovereign nation to issue a CBDC, called a “sand dollar”, as a pioneer in adopting a new form of currency, driven by its geography and the cost of delivering currency to its territory.

“In countries with a weak currency or an underdeveloped financial system, and a large unbanked population, the CBDC is more useful and can be more easily adopted by its citizens,” Chew explained.

Yet the potential benefits of the SAND dollar have not lived up to its expectations.

An IMF report says the island nation’s adoption of the SAND dollar is just under 0.1% of the currency in circulation.

The issue of financial inclusion is a constant concern for this Caribbean nation. The World Bank defines financial inclusion as the access of individuals and businesses to valuable and affordable financial products and services for their finances which must be provided in a responsible and sustainable manner. The Bahamas is also desperate to improve its cybersecurity for its digital currency.

Bogardi believes that the Hong Kong market benefits from a unique position with a well-developed retail payment landscape:

“Financial inclusion issues may not be as relevant as other jurisdictions that have chosen to move forward with CBDCs (e.g. Bahamian dollar). Accordingly, it is correct that the HKMA’s exploration of e-HKD focuses on a means of fueling digital innovation in Hong Kong and helping it position itself against the potential challenges of new forms of means of payment such as stablecoins.

At the regional level, China has been conducting a wide range of digital yuan (e-CNY) pilot tests since 2020, developed by the People’s Bank of China (PBoC).

The administration deployed a huge pilot test during its Beijing Winter Olympics, and currently, the e-CNY app is one of the most downloaded apps in the country. The app has had over 83 million downloads through iOS and Android systems so far.

“In China, electronic payments have been dominated by Alipay and WeChat Pay for several years now. The central government is keen to introduce e-CNY to keep control of the monetary system before private companies like Alibaba and Tencent become too influential in the country’s payment system. As it is a big country, it needs to do many pilot tests in many cities so that citizens can familiarize themselves with e-CNY before its official launch, and of course this will take some time,” Chew said.

On the other hand, experts suggest geopolitics factors, such as war, could also accelerate the progress of CBDC issuance.

While the goal of introducing the CBDC among other countries or regions might be different, the HKMA revealed that it “is inclined towards the coin approach under which e-HKD would only be issued by a single authority” in the long term.

Adding this, we are looking for Banking Officers to handle all customer-facing activities related to the distribution of e-HKD.

“If the technology is ready, the HKMA may consider conducting multi-stage pilot tests for Hong Kongers to try e-HKD on their mobile phones so that they can familiarize themselves with it and learn more about its utility,” Chew said.

The HKMA reiterated that it has not yet decided to introduce e-HKD.

Image source: Shutterstock

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