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Let’s talk about digital currency. There are varying reports on the fintech industry's growth trajectory, but one thing is clear: it’s on an incline and is certainly here to stay. This industry boom has resulted in a number of financial services, digital currencies, and other products coming to light within the space. Digital currencies, such as cryptocurrency, and the newly “minted” central bank digital currency, are among those taking the world by storm. But what are digital currencies and why or how do they hold value? We delve into digital currency and take a look at how they’re shaping the future of payments.
Types of digital currency:
Cryptocurrency.
Cryptocurrency, in case you need a refresher, is a digital currency that is secured by cryptography while having its transactions verified and records maintained via a decentralised system, rather than relying on any central authority. You’ve undoubtedly heard of Bitcoin, the most popular cryptocurrency to date which reached an all-time high value of $68,000 in November 2021. (At the time of writing this, Bitcoin’s value was sitting pretty at $23,484.) Cryptocurrency has somewhat disrupted the payments space, and it was this disruption that caused central banks around the world to take a pause and consider joining in on the action.
Central Bank Digital Currency.
CBDCs are similar to cryptocurrencies in that they are also considered to be a digital currency, however, these digital tokens are issued by the central bank and their value is underpinned by the relevant country’s fiat currency. Other differences include CBDCs use of private permissioned blockchain networks versus cryptocurrency’s open networks that do not require permissions. Cryptocurrency holders are pseudonymous, offering some sense of anonymity, whereas CBDC’s are linked to a person’s bank account and therefore identity.
Stablecoins.
Stablecoins are a variation of “traditional” cryptocurrencies, and as the name suggests, they were invented to be less volatile and, thus, more lucrative for widespread use. The value of stablecoins is pegged to a country’s fiat currency (much like that of central bank digital currency), financial instrument, or other commodities (such as gold), which is why it maintains stability comparative to cryptocurrencies. While stablecoins are a variation of cryptocurrency, there isn’t a limited amount available; stablecoins are issued based on economic conditions and the value of the assets that back them.
The value of digital currency:
The main advantage of digital currency is that it minimises the time it takes for transactions to be actioned and it cuts down on the costs associated with fiat currency. It is also more secure; blockchain technology ensures that counterfeiting, fraud, and duplication cannot occur. Another advocate for the shift to digital currency use is decentralisation. This means removing governing bodies from the mix, so you have full access and control over your funds when you need them, rather than having to complete paperwork or jump through hoops to gain approval to access or move your money. Decentralising further means that transactions occur between peers, without the interference of third parties (who charge transactional fees and slow the process). Confidentiality has also driven the rise of digital currency as they track only the transaction history and do not collect information on individuals, unlike traditional financial services.
One crucial disadvantage of digital currency to consider, however, is its susceptibility to being hacked. This not only poses a threat to individuals investing but to economies on a larger scale. The importance of security should never be downplayed when it comes to the Fintech industry and digital currencies are no exception.
Why digital currency matters:
Digital currencies are shaping the future of finance by solving several problems associated with cash. The first step toward digital currency has existed since 1950, in the form of credit cards with the introduction of electronic transfers occurring in 1970. The problem, however, is that these methods are expensive and take time to process. Digital currencies aim to remove the time it takes to transfer money and minimise (and in some cases eliminate) transaction costs. Being peer-to-peer, digital currencies also eliminate the need for central databases for record-keeping and offer transparency. In addition, digital currencies solve the concern of “double-spending”. The production and distribution set-up employs a system of serial numbers to ensure that each “note” is unique. Paired with cryptography, blind signatures, and encryption, this ensures that digital currencies cannot be tampered with, further protecting users’ transactions.
While central bank digital currency might still be just an idea with a few kinks to work out, cryptocurrency, CBDCs, and other digital means of payment are certainly disrupting the financial services industry and changing the way the global population manages their money. Any way you look at it, fintech is an exciting space filled with possibility that is shaping our future.
