The Digital Yuan

The Digital Yuan

Another Cryptocurrency or the Future?

07/2021  | Reading time: 12 minutes

In October 2020, the People’s Bank of China (PBOC) started its pilot programme for its new currency, the digital yuan. Since then, the world’s first central bank digital currency (CBDC) has been in circulation in the country. After a pilot period in Shenzhen, the digital yuan has been distributed in Suzhou and Beijing in the form of red envelopes, which are the traditional means of gifting each other money on holidays and life events. During this year’s Lunar New Year alone, randomly selected people have received about 1,5 million US dollars’ worth of digital yuan, which clearly shows the commitment of the government to make this currency work. But what is the digital yuan and why is it so important? What could it mean for the global financial markets, and what does the dollar have to do with it? What are the risks and opportunities in the newest financial technology (FinTech) advancement? The aim of this blog post is to briefly assess these questions.

The development of the digital yuan (or e-yuan) started back in 2014, when the People’s Bank of China has begun working on the first-ever central bank digital currency (CBDC) that supposed to replace a certain amount of the circulating cash with digitalised money. Already in April of the same year, the PBOC announced that it would conduct “hypothetical-use tests of the digital yuan in several regions,” including Xiong’an and Chengdu, among others. One of the most important aspects of the new digital yuan is the fact that—contrary to cryptocurrencies—there is a controlling authority (namely the PBOC) overseeing and managing the development and imminent release of the digital currency. China’s engagement to launch its own digital asset is not surprising, as there has been an increasing focus on such digital financial solutions since the first half of 2010. The evolution of cryptocurrencies, most notably the one of bitcoin, whose price reached a new peak recently, showed that these new methods for value transfer are getting more and more acknowledged and used around the world. Lately, however, problems began to emerge. For instance, a few months ago, Tesla—one of the companies accepting such payments—backed out of its support of bitcoin due to climate concerns. While the withdrawal of the American company caused a substantial shock to the whole crypto market, the decision of the Chinese government to ban the mining and usage of all cryptocurrencies in the country was probably even more damaging and led to the sharp decline of the prices of these assets.

What is cryptocurrency?

In order to understand the Chinese crackdown on cryptocurrencies, one must first understand what cryptocurrencies are. The main thing about these assets, like the bitcoin itself, is that they usually work with a so-called blockchain technology, and they can be “mined” for a chance of being rewarded with a little amount of bitcoin.

In short, blockchain is a digital ledger that enables people to engage in various transactions. All transactions are recorded and stored chronologically and publicly in virtually created distributed ledgers (distributed ledger technology, DLT) on multiple computers around the world, which individually create a block, as they manage the data of transactions happening in real time. Once these blocks are filled, they are connected to new blocks to create a chain of blocks, that is spread out across all of the computers connected to the blockchain network. Each block is a record of transactions of specific data, which could, among others, contain cryptocurrency. It is, furthermore, a rather important feature that all the information on the blockchain is publicly available, i.e. the information is stored on many computers and is distributed around the globe. This kind of decentralisation also means that there is no specific party or authority to control it.

Moreover, the blocks cannot be edited once closed, which means that the system would not allow any attempts to edit a piece of information in any of the blocks, thus creating an additional layer of safety against fraud besides the safety of anonymity.

In this context, the mining of a cryptocurrency means no more than joining this blockchain network with a computer in order to help to operate the system and thereby contributing to more safety and quicker transactions. In exchange for this, the network randomly rewards miners with a little amount of bitcoin and, hence, makes the mining a profiting endeavour. The excessive use of electricity that is required to run the computers, however, raised a number of concerns with regard to the environmental impact of the process. Nonetheless, as it seems nowadays, there is also a possibility to run these mining operations on renewable energy sources, which would partially eliminate these concerns.

All in all, this means that these kinds of cryptocurrencies are decentralised, are ran by the computers mining them via a DLT on the blockchain network, transactions with them are safe and quick, and cannot be leveraged by central banks, which means that the price of a single coin will always mirror its underlying value, or at least what people believe its value to be.

What is a central bank digital currency (CBDC) and why is it different from cryptocurrencies?

CBDCs, however, are rather different than other digital currencies, as they are issued and supervised by the respective central banks. While these digital currencies bring with them some advantages of cryptocurrencies (like quicker and cheaper transactions), they differ from them in a very fundamental aspect, namely that they are centralised. This means that the same rules apply for digital currencies issued by central banks, as for cash issued by the same institutions.

Looking at current trends, it is no surprise that more and more countries started to embark on issuing their own CBDC in order to create a regulated and centralised alternative to the heavily unregulated and volatile market of cryptocurrencies. The essential goal is to create their own supply of digital money and thereby decreasing instability and increasing safety in the market. Nowadays, countries around the world that have begun with the research and development of their own digital currencies include, among others, the Marshall Islands, Sweden and the Bahamas. While in these countries, pilot programmes are already taking place, the one country that is the furthest in this process is certainly China.

The Chinese digital yuan

The digital yuan is a tool for the PBOC to digitalise some of its banknotes in circulation. Since the Chinese domestic market is one of the most advanced markets for cashless payment, the digital currency would be an effective way to speed up the complete switch to a cashless society, as it is anticipated that cash—in a long run—will eventually be replaced by something in digital format.

Besides the comfortability of not having to carry cash around, digitalised currencies have further advantages too. As the PBOC claims, there are a number of benefits for the use of the digital yuan, which include more efficient and quicker payments, lower fees of money transfers, safer payments and financial stability. It goes, however, without saying that the “controllable anonymity”, which is an important feature of the e-yuan system and that allows the authorities to oversee the transactions, is exactly the opposite of a decentralised financial asset, such as Bitcoin, where complete anonymity is guaranteed by the blockchain technology. This “controllable anonymity” would involve operating digital yuan wallets (which are prerequisites for holding digital yuan) to disclose transactions to the “sole third party”, the PBOC. In practical terms, users would have a “loose coupling of accounts”, i.e. their current bank account may not necessarily be closely linked to their digital yuan account.

Moreover, making use of the Chinese digital currency would also be possible through providing only a phone number, which would allow the PBOC to keep track of the necessary data in order to avoid potential frauds and criminal activities. This, however, also brings about the risk of possibly giving yet another platform for the Chinese authorities to increase surveillance on the citizens.

The domestic scene

Although it has so far been denied by the PBOC, an additional and important benefit of the regulated digital currency is that it would increase competition within the cashless financial market in China. As WeChat Pay and Alipay dominate the Chinese digital payments, and, hence, operating as a duopoly, the two private companies behind this kind of cashless system could potentially create a systematic risk, if, for example, they would go bankrupt, claimed Linghao Bao, analyst at Trivium China. With the controlled nature of the PBOC issued currency, a digitalised version of the yuan will, hence, give the Chinese government more command over the financial markets.

The allocation of the digital yuan will be done by the PBOC to commercial banks, which then will be distributed to their customers by allowing them to exchange their physical money for digital yuan on a one-to-one ratio. During the pilot program, the PBOC has given away millions of dollars worth of digital yuan in Shenzhen, Suzhou and Beijing. Of course, those yuans needed to be accepted by vendors as well, for which the government introduced some incentives to them, such as the waiving of the transaction fees and wide accessibility.

However, WeChat Pay and Alipay still have a substantial advantage, as the mobile payments market is dominated by these two firms. Being accepted in most places around China, they seize more than 90% of the market share in the country where the total value of these kinds of digital financial transactions exceeded 40 trillion US dollars in 2018. In this regard, it is no surprise, that some see the digital yuan as a way to compete with these Chinese tech giants and their existing cashless infrastructures. Nevertheless, in the first instance, the two tech giants don’t need to be afraid, as Linghao Bao claimed: “…digital yuan is not a direct competitor to Alipay or WeChat Pay but a new platform that allows other players to come in and compete with WeChat and Alipay”. Whether this friendly stance will continue in the long run is, however, unclear.

Besides the opportunities on the domestic market, if the digital yuan would gain traction globally, it could also provide China with some wide-ranging international gains as well. While, on the one hand, this kind of digitalised currency has the potential to provide the country with more reliance on its own currency, on the other hand, it would also be an instrumental mean to challenge the US–led global financial system dominated by the dollar. What the decreasing reliance on the US would mean for China and the other nations adapting the digital yuan is a chance to bypass the financial systems dominated by American digital financial infrastructures. This could be certainly appealing especially for those aiming to escape sanctions imposed on them by the Western world, as it would create another means for transactions around the world that evade the SWIFT system (the current system for bank transactions) used essentially by the whole world.


The international implications

Following this train of thought, a quite important goal of the Chinese digital currency could be the further internalization of the yuan, even if so far many analysts believe that the digital yuan would only mildly boost the internalisation of the Chinese currency. It should, however, also be considered that the digital yuan, with its quickness and significantly lower costs, has the potential to gain a broader and worldwide acceptance. From this perspective, it is no coincidence that—in its attempt to pave the way for the broader internalization of the currency—the PBOC joined Thailand, the United Arab Emirates and Hong Kong in February 2021 in their effort to create a joint cross border central bank digital currency.

From this vantage point, it is, not surprising that before this year’s G7 meeting, some experts specifically highlighted the fact that China's recent steps to issue a digital yuan have raised concerns from Western nations. Anticipating that the Chinese CBDC might be able to give rise to a new economic zone centring around China and the nations taking part in its Belt and Road initiative (BRI), Western leaders fear that this would not only challenge the dollar’s global dominance but ultimately the positions of the US as well. It seems thus that this new Chinese endeavour could be yet another area of the US–China competition.

This problem would only become even more severe, as the digital yuan would gain a foothold globally. The wider acceptance of a PBOC issued digital currency would not only give the Chinese government access to the digital yuan's transaction data domestically and worldwide but could potentially create a way to bypass Western sanctions, including the blocking of transactions in dollars and other key currencies. It is therefore no wonder that the G7 countries called for transparency and a regulated system for CBDCs around the world, just after China has launched its pilot program.


China turned some of its money into computer code. Instead of moving money around with bank transactions, most Chinese people will soon have access to a digital wallet to store their digital currency. The advantages of the digital yuan are many. Among others, a withdrawal would be possible from any state bank, no transaction fees have to be paid, and it is planned to operate offline as well. Furthermore, it is supposed to be more convenient, provide faster transactions, better prices within a safer environment and, hence, would allow the government to lead the economy more efficiently. At the same time, the disadvantages are also obvious. Most notably, digital money works with a code and, thus, completely trackable by the government. The new digital Chinese currency will then give an additional tool for the authorities to monitor and control the cash flow of the population, including their spending habits and purchase history. It is furthermore centralised and not private, which means that the digital yuan will be also prey to inflation and disadvantageous monetary policies.

Refuting the assumptions about enhanced surveillance and control, authorities claim that through the means of “controlled anonymity” they will limit the tracking of the citizens to the spotting of potential criminal activities and frauds. This, in turn, would create a safer environment for the exchange of value. While regarding traceability AliPay and WeChatPay are very similar, as both private companies collect data, they do not allow other actors to get access to the stored data. With e-yuan, monitoring, controlling and punishing will be thus much easier.

Besides the national one, attempting a certain international control is a factor too. In this regard, the dollar’s dominance, which the digital yuan might attempt to challenge in the long run, is an important issue. Currently, the US is still the greatest economy globally and the US dollar remains the dominant (and most stable) international financial asset. China, on the other hand, has strict capital control, as its currency is controlled by a centralised exchange rate, which would make the Chinese currency (as well as the digital yuan) a less stable store of value.

Another reason for pioneering this kind of new technology is to secure China’s monetary sovereignty, by protecting the yuan from not only the other currencies globally, but from the recently more and more important cryptocurrencies (such as bitcoin) as well.

At the end, while the digital yuan may eventually not become the dominant global currency, it has the potential to have an important place in international financial policies. Of course, for that to happen, the digital yuan has to prove first its operability domestically, then needs to be released internationally. People will also have to want to buy it and use it, for which the Chinese government should be able to create some incentives.

So far, there are a lot of questions that need to be answered before the digital yuan becomes an international currency. The many uncertainties aside, the issuing of the world’s first functioning CBDC deserves praise by itself, even if the road forward is still challenging.



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