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A new report from the Bank for International Settlements (BIS) has called on central banks to act early on coordinating interoperability measures for cross-border central bank digital currency (CBDC) payments.
In its new report to the G20, the BIS has outlined a range of models that central banks may use to ensure that CBDC systems are accessible and interoperable to one another.
The report looks at the challenge in terms of the level of cross-border access that should be granted to actors such as foreign banks, non-residents and payment service providers (PSPs) for both retail and wholesale CBDC.
The BIS describes multiple access models for PSPs, including direct, indirect (via an intermediary) and through what it calls “closed access”. This is where only domestic PSPs would be granted access to their domestic CBDC system.
The report also considers whether and under what conditions non-residents should be granted access to retail CBDCs. For example, should guardrails such as transaction fees, transaction limits and holding fees apply?
“Well calibrated access to CBDCs by foreign PSPs and non-residents may facilitate cross-border payments, though it is not a silver bullet,” the report notes.
Instead the report argues a crucial and complementary approach to enable cross-border payments is ensuring interoperability between CBDC systems.
Proposed roads to interoperability
The BIS proposes three ways by which interoperability between CBDC systems may be achieved: compatibility; interlinking; and a single system.
Compatibility refers to individual CBDC systems using common standards, such that the operational burden on PSPs for participating in multiple systems is reduced.
Interlinking refers to establishing a set of contractual agreements, technical links, standards and operational components between CBDC systems, which allow participants to transact with each other without participating in the same system.
Similar to the interlinking of traditional payment systems, CBDCs could be interlinked via different models, such as a single access point, a bilateral link or a hub-and-spoke model.
A single system refers to an arrangement that uses a single common technical infrastructure hosting multiple CBDCs.
As noted by the BIS, each model has different implications in terms of macrofinancial risks, payments efficiency, resilience, coexistence and interoperability with non-CBDC systems, and financial inclusion.
As with traditional cross-border payment channels, cross-border CBDC arrangements raise a number of implementation challenges, which differ depending on the type of access and interoperability model used.
Potential challenges of broader access to CBDC systems range from governance, decision-making and risk management to operational, technical and financial risks.
Scalability, legal and regulatory frameworks and investment and maintenance costs must also be considered.
The BIS emphasises that there is no “one size fits all” model for interoperability. For example, although compatibility might be the least costly form of interoperability, it may not deliver the same efficiency as interlinking multiple systems or developing a single system.
Combining compatibility with a direct access model may be more efficient, but given the challenges of achieving direct access, this too could be difficult and time-consuming to implement.
Similarly, although interlinking via a single access point may not necessarily require direct access or the establishment of new technical components, it has scalability limitations.
“Overall, interlinking of CBDC systems through a hub-and-spoke or single system might bring more improvement to the cross-border payments market than compatibility or single access points, and the same holds for direct access models compared to closed or indirect access,” the report notes.
“Yet, given the elevated challenges of these solutions, they are most likely to be implemented where the benefits of enhanced cross-border payments exceed the challenges, such as between countries with large trade volumes, or between countries with similar CBDC objectives and designs.”
Planning ahead
The BIS recommends that, for CBDCs to enhance cross-border payments, jurisdictions working on CBDC must take cross-border functionality into account at an early stage to avoid unintended barriers later on.
CBDCs are new to all, the BIS notes, and those central banks that choose to explore one need to go through design and development phases.
Each jurisdiction is likely to be bound by certain constraints when designing a CBDC, but many design features are still undecided, which allows central banks to start with a “clean slate”.
“To use this opportunity, international cooperation and coordination is needed in the early stages of CBDC design,” the report notes.
“More structured and broader international coordination on domestic CBDC designs would be beneficial to lower barriers to cross-border compatibility and could serve as a launching pad for interoperability.”
Other relevant design considerations that may warrant early coordination include compliance with anti-money laundering and counter-terrorism financing rules, while safeguarding privacy and promoting competition.
“To avoid domestic CBDC work unintentionally creating barriers to cross-border CBDC payments, further work is required in the short-term within the central bank community to identify the stages of domestic CBDC planning and development when decisions should be taken on cross-border CBDC access and interoperability models,” the report adds.
The BIS notes that further experimentation using cross-border retail CBDC payments are “essential”, as most cross-border studies have so far focused only on wholesale CBDC.
