Role of Digital Currencies in Cross-Border Payments

Globalization has expanded international trade, enabling even small businesses to reach customers worldwide and sell their products globally. Cross-border payments are the backbone of global trade, but the traditional system is known to have some frustrating inefficiencies—high costs, slow processing times, less transparency and limited accessibility. Digital currencies including cryptocurrencies and CBDCs are capable of addressing these issues.

Major challenges in Cross-Border Payments

• Costly Transactions

• Lack of Transparency

• Settlement Delays

• Limited Accessibility

What Are Digital Currencies?

Before going any further, lets check what digital currencies are. Digital currencies are a form of money that exists only in electronic formats. Traditional cash exists in physical form and supports digital transactions, but the physical form of these digital currencies is not issued. Currently, in the market, decentralized digital currencies termed as cryptocurrencies and central bank issued CBDCs are available, although the CBDCs are in the early stages, only few countries have launched them for the general public. But more than 130 countries are working on it.

Cryptocurrencies

Cryptos are decentralized digital currencies like Bitcoin and Ethereum, backed by blockchain technology. They are not regulated by any bank and intermediaries. The value of these currencies is decided by market forces, as a result, they could be very volatile in nature, making it very risky for common men to handle the fluctuations. But they have like low transaction costs, as there arent any middlemen, which drastically reduces transaction costs, even in cross border transactions. The processing time is very low, providing faster transactions and the blockchain technology makes it very secure. Due to these benefits, cryptos provide faster and secure cross border transactions.

CBDC

Central Bank Digital Currencies (CBDCs) are the digital currency launched by the central banks. Making them a safer alternative to the highly volatile cryptos. Around 130 plus countries are working on their CBDCs, which itself shows the importance of CBDCs for the future. As they are regulated by central banks, and have the same value as that of the traditional currencies of the country. They are very secure and traceable in nature, shielding them from theft and fraud.

Three countries have launched their CBDCs which include Bahamas, Jamaica and Nigeria. As per the Atlantic Council, around 44 countries have launched their pilot programs, which include big nations like China, India, Brazil, Australia and Russia. More countries are expected to launch their CBDCs in the future.

Key benefits CBDCs include

Direct Transactions

By cutting out middlemen like correspondent banks, CBDCs reduce fees and speed up settlements.

Stability

Since CBDCs are backed by national governments, they offer more reliability than volatile cryptocurrencies.

Compliance-Ready

They are designed so as to easily integrate with global regulations, making them an ideal tool for cross-border trade.

Benefits of Digital Currencies in Cross-Border Payments

Lower Transaction Costs

Digital currencies can remove intermediaries from cross border transactions, leading to a considerably lower fee. Thus making cross-border payments more affordable for individuals and businesses alike.

Real-Time Payment Settlement

Traditional payments usually take days for payment settlement, but with digital currencies transactions can be processed in minutes or even seconds.

24/7 Availability

Unlike banks that operate during limited hours, digital currency networks can run around the clock, enabling businesses and individuals to initiate payments anytime, anywhere.

Higher Transparency and Traceability

Digital currencies can record every single transaction, making them more transparent and easily traceable.

Enhanced Security

With the highly traceable nature of digital currencies and cryptographic protocols safeguard transactions and reduce fraud and make digital payments more secure than traditional methods. It is expected that practices like money laundering can be curtailed to a great extent with CBDCs.

Financial Inclusion

Digital currencies can reach rural and under banked populations even where traditional banking infrastructure is not available. Thus digital currencies can help in improving financial inclusions.

Challenges and Risks of Using Digital Currencies

• Regulatory and Compliance Hurdles

• Volatility and Trust Issues

• Privacy Concerns

• Cybersecurity Threats

Digital currencies come loaded with goodies, but they do have their own concerns and challenges that need to be addressed. Digital currencies are vulnerable to hacking, phishing, and other cyberattack breaches of cryptocurrency exchanges have raised concerns. CBDCs could be traceable in nature, which raises privacy concerns, as a result, governments have to find the middle road in between to address the privacy concerns. Regulatory frameworks and rules are different for different countries. Anti-money laundering (AML) and counter-terrorism financing (CTF) compliance add layers of complexity. Hence creating a system that can cope up with the rules of different countries for cross border transactions could be a challenging task.