In May 2021, China tested its digital yuan currency in Suzhou City, near Shanghai, during the Double Fifth shopping festival. The 181,000 people attending the five-day festival were given 55 yuan in their digital wallets that they could spend at any of the participating outlets. This testing, which was part of several such trials, was deemed as a success by the Chinese government
Getting familiar with the digital yuan
The digital yuan is a blockchain-based currency, which makes it transparent and secure. Although, the catch is that it is a permissioned blockchain, implying that the government will be deciding the individuals that can transact using this currency. This defeats blockchain design's principle of distributed power. According to this principle, power is not with a single node, but in this case, the People's Bank will have the right to allow individuals to use this network. The digital yuan does not help its users maintain anonymity as well, which is one of the key characteristics of blockchain technology. People such as Federal Reserve Chair Jerome Powell have been sceptical of the currency regarding it tracking a citizen's monetary activity.
The Chinese government has also been conducting trials of digital yuan cross-border between Shenzhen and neighbouring territory Hong Kong. It joined the Multiple Central Bank Digital Currency Bridge in late February 2021. Thailand and the UAE are also a part of this venture. The expansion has received a nod from the Bank of International Settlements (BIS) as well.
The digital yuan already has the status of a legal tender and the legislation drafted by the government in this regard has also banned other entities from producing their digital currency. This was done to manage the money supply better since the circulation of virtual currencies issued by the private sector can disrupt it.
According to a survey in 2018, 92% of urban Chinese use either Alipay or WeChat Pay, the two most ubiquitous mobile wallets used in the country, to make payments. This number drops significantly in the context of the rural population but still makes up for a decent 47%. The statistics dropped by People's Bank of China in early 2020 stated that in March 2020, 776.08 million people were using mobile payment in China and mobile transactions were recording a year-on-year increase of 73.6%.
A graphical representation of the frequency of mobile payments in China (Source: Daxue Consulting)
Thus, from the above estimates, it can be understood why China is often referred to as a mobile-first nation. Albeit, with so many people already using digital wallets for payments with a gargantuan increase in the numbers every year, the need for digital yuan is often questioned by many individuals.
Services like Alipay or WeChat Pay may help in instant settlement of transactions for the customers, but behind those swift procedures are ledgers that have many transactions between the buyer's bank and the seller's bank. To make matters worse, there can be intermediary banks that take hours or sometimes even days to settle the transactions. Since the digital yuan is blockchain-based, it eliminates the need for any intermediary parties, and in theory, the speed of payments can be faster when compared to mobile wallets. It will not charge any service fee as well.
Is the digital yuan a threat in the making to the USD?
In recent weeks, there has been speculation that this digital currency can lead to the yuan dethroning the US dollar, the de facto monetary reserve. Almost 80 countries are creating a Central Bank Digital Currency (CBDC), of which the retail CBDC is what can be used to complement paper currency by citizens and corporations. China's digital yuan is ranked 3rd in the PwC's Global Retail CBDC ranking, while the USA is still in the research phase of the same.
China's digital currency is perceived as a threat to the USD because for trading in international currencies, most countries use USD as an intermediary via the SWIFT international banking protocol, which leads to considerable demand for the USD. Once the digital yuan is functional permanently, there will not be any requirement of using the SWIFT portal. Since 120 countries already trade with China, they may find it feasible to settle the transactions using digital yuan. In 2019, China itself exported $134 billion worth of goods.
This move can potentially oust the USD of its status as the world's reserve currency. However, Chinese central bank deputy governor Li Bo has said that the country's digital currency is aimed at being used for digital purposes and not to think of it as a replacement of the USD or any other international currency.
Conclusion
The Chinese government is planning to make the digital yuan functional by January 2022, the time when the country will be on the cusp of hosting the Winter Olympics. According to the country's first digital white paper, it has already spent 34.5 billion digital yuan in trials. With only select commercial banks being given the ability to exchange and circulate the currency, there are a lot of challenges that this currency brings to the Chinese government, including its usage internationally.
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