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A new partnership with the Bank for International Settlements (BIS) Innovation Hub aims to double down on data security and improve resilience of retail central bank digital currencies (CBDCs).
The Hong Kong Monetary Authority (HKMA) and the Bank of Israel announced on Friday (17 July) a joint research venture that will take place at the BIS Innovation Hub’s Hong Kong centre.
Known as Project Sela, the three parties will study the data security implications of a two-tier retail CBDC architecture, with the goal of improving resilience to cyber-attacks.
In the model to be studied by Project Sela, intermediaries would have no financial exposure to the retail CBDC, and would simply act as payment channels between the central bank, merchants and consumers.
Howard Lee, deputy chief executive of the HKMA, said the project is a significant milestone in Hong Kong’s CBDC journey, and is the first fintech collaboration between Hong Kong and Israel.
“We trust that with the expertise offered by Israel, and the findings of the joint project, will add to the wealth of knowledge on CBDC and contribute to the common good of the international central banking community,” he said.
Andrew Abir, deputy governor of the Bank of Israel, said that the project will assist Israel in its goal of increasing participation in the country’s payments sector.
“Providing an efficient payment system that will increase competition in the payment market is one of the primary motivations we’ve identified for a possible issuance of a digital shekel — an Israeli CBDC,” he said.
“Accessing Israel’s well-known experience in cybersecurity is a great opportunity to support the global research of CBDCs.”
From Project Aurum to Project Sela
Project Sela is expected to be completed by year-end 2022 and will build on the findings of its predecessor, Project Aurum.
Launched in 2021 by HKMA and the BIS Innovation Hub, Project Aurum is currently studying the costs and benefits of using a combination of two-tiered architectures for the distribution of retail CBDC.
As the BIS has noted in its previous research papers, there are three ways that a central bank could issue a retail CBDC. These are known as direct, indirect and hybrid.
In Project Aurum, direct (i.e., directly issued, managed and processed by the central bank) is excluded from consideration due to the technical burden it would place on the central bank.
“The direct CBDC is attractive for its simplicity, as it eliminates dependence on intermediaries by doing away with them,” BIS wrote in a research paper in 2020.
“However, this entails compromises in terms of the payment system's reliability, speed and efficiency.
“One aspect is that building and operating technical capacity on this scale is often viewed as being better undertaken by the private sector, as seen in today's credit card networks.”
For Project Aurum, the goal is to consider the feasibility of combining the hybrid model with the indirect model for retail CBDC distribution.
In the hybrid model, the central bank issues retail CBDC to payment service providers (PSPs). PSPs can then transfer retail CBDC between consumers, merchants and the central bank, but they cannot issue their own e-money backed by holdings of retail CBDC. In this model, a retail CBDC would be a claim on the central bank.
Project Sela will also consider cybersecurity under the hybrid model, whereby merchants and consumers would have no legal claim on the PSPs that relay their transactions to the central bank.
In the indirect model, the central bank issues retail CBDC to commercial banks. Commercial banks are allowed to issue their own “synthetic” retail CBDC, backed by holdings of the original retail CBDC from the central bank.
The claim on the retail CBDC could be with the commercial bank if it issues its own e-money backed by the central bank’s original retail CBDC.
In both models, intermediaries would handle customer onboarding (KYC) and retail payments, whether they be commercial banks or PSPs.
