China's Digital Currency (II): Political and Strategic Stakes

The PBoC and regulators in various fields submitted Alibaba and Tencent to a very organized assault in almost every aspect of their business - including the ones not directly related to payments. One of their aims was to force the two firms to open their systems. The details are not fully known, but the outcome is: over the last two years, Alibaba and Tencent had to accept many measures limiting their own business capacities, to share their platforms with other players, and to make ample room for the new currency promoted by the PBoC. To illustrate this point, in any scenario where a user would have previously settled a transaction through their Alipay or WeChat account (i.e. a majority of daily-life transactions), the user will now also have the option to settle directly from an e-CNY wallet not connected with the Ali or Tencent/WeChat ecosystems. When this happens, Alibaba and Wechat will no longer have access to the customer data flows they used to capture, which could deal a significant blow to their business model. In a way, the PBoC is doing to Alibaba and Tencent what these two companies had themselves done to commercial banks a few years ago, when they squeezed them out of the payment business.

The PBoC got what it wanted: the existing system continues to work, but with its new currency at the center of the system. The digital giants were probably presented with "offers they could not refuse" and had to swallow a bitter pill, but at least they still have a place in a system that they played a fundamental role in creating. For Alibaba and Tencent, this may not be the end of the story: the agility and innovation that these companies have demonstrated in the past indicates that they will fight to find ways to continue to attract users and give them reasons to transact within their ecosystems. It is not to be taken for granted that users will adopt in mass the new system, especially since (as seems to be the case today), the new e-CNY does not offer a radically different or improved user experience. Additionally, for general users, the higher level of security provided by the so-called "sovereign digital currency" may not be as appealing as Chinese authorities claim, while the current payment system operated by Alipay and Tencent is seen as safe and reliable. However, if this happens, and the e-CNY threatens to be a commercial flop, the PBoC will no doubt find ways to tilt the balance in its favor, for instance by forcing certain users or types of transactions to use the new central bank currency (welfare-related transfers, or payments by SOEs, for instance).

What is the point of all this?

For all the technical skills and tactical prowess demonstrated by the regulators and the PBoC in promoting their vision of a digital currency, one major question remains unanswered: what is the point of all this? The PBoC does have a long list of motivations for its project, but some of these do not stand to closer scrutiny, and the e-CNY sometimes looks like a solution waiting for a problem. In addition, the bar is set higher than elsewhere, as China’s payment system is already so efficient.

Replacing cash is an obvious motivation for introducing a central bank digital retail currency as an alternative to banknotes: it could offer substantial cost savings, as banknotes are expensive to print (security features to avoid fakes) and even more to store or manipulate (armored cars for cash collection, etc.). However, this will not happen before a long time, if ever. The share of cash in overall payments does decrease regularly, but the total amount of cash in circulation is still increasing in many countries, including in China according to the PBoC.

Safety is another consideration put forward by the PBoC: a currency fully backed by the central bank does decrease systemic risk (by reducing the risks associated with the failure of a payment provider), but this can also be achieved through the strict regulation and supervision of intermediaries.

The Chinese QR code-based system is much cheaper than card-based systems in the US or parts of Europe, especially for merchants. Arguably payment services are offered for free or quasi-free in China, only because the payment providers are able to capture and monetize the value of the data of their users. This will not be the case (or to a lesser extent) with a CBDC, but this is an argument about benefit-sharing, not about overall costs.

Facilitating financial inclusion is also a motivation, but again, it is unclear what concrete improvements a CBDC would bring in comparison to the existing system, which has already brought the benefits of electronic payments to the country’s rural and remote areas. The PBoC has said that it will also introduce physical wallets, but these will not differ significantly in their functionalities from stored-value cards, which have long been in use.

According to the PBoC, the e-CNY is meant "to provide a widespread, inexpensive and convenient digital payment system, which would expand access to financial services and promote fair growth" (提供广泛、廉价和便捷的数字支付系统，从而扩大金融服务普及性，促进更公平的增长). However, as pointed out previously, the e-CNY’s real contribution to these factors remains limited, given the success of existing digital payment services like Alipay and WeChat Pay. In fact, the two digital wallet giants are often praised for their contribution to the popularization of digital payments. Hence, the official argument does not seem to provide enough justification for such a significant undertaking. 

In some other areas, benefits for the PBoC and the authorities are clearer. Curbing the power of the digital giants is certainly not the only motivation behind the project, even if it has become an important one.

One concrete benefit of implementing the e-CNY is that the PBoC will be in a much stronger position to exercise control over the usage of money, and hence fight against money laundering, tax evasion, bribery, etc. However, the PBoC - and the State and Party behind it - will also potentially have a formidable new tool for social control at their disposal. The PBoC seems worried about how this question could be perceived, and has developed a concept of "controllable anonymity" (可控匿名, officially translated into "managed anonymity"). This acknowledges that the central bank will indeed have extensive powers, but pledges to use them with restraint. For instance, anonymity will be preserved for small transactions (see Part one). However, not everyone will fully believe that this will indeed be the case. . For instance, to acquire the simplest form of e-CNY wallet, with the lowest limits, only a phone number is required. The catch is that an ID number has to be provided in order to obtain a phone number, so the authorities can trace identity, if they so wish. 

One should not, however, underestimate the potential importance of the e-CNY in the long term. For instance, it could contribute to the usage of the RMB in international trade, which is one of the key "components" of an international currency. This will require further developments, technical as well as legal, as international trade is much more complex and regulated than its domestic counterpart, and will take time, although things could happen faster than anticipated. Other potential applications involve Chinese tourists abroad (if and when they resume traveling). A credible and well-established CBDC may therefore become a very valuable tool to have in China’s future toolbox, even if it seems to be of limited use today.

Last but not least, China’s e-CNY project is generating a lot of positive buzz: China is widely considered at the forefront of an innovative project, in line with modern times. So far, other major countries seem to be unsure of what to do, and may even end up following China’s lead. On a related topic, the speed and determination with which China has cracked down on its digital giants has generated positive comparisons to the supposed incapacity of US or European authorities to tackle similar issues in their markets. 

Overall, it appears clear that China has strong reasons to push forward with its e-CNY project, although the real reasons may not be the ones that it puts forward. Undeniably, and whatever the real reasons may be, China is far ahead of any other major economy in this respect. What is more difficult to assess is how significant this will turn out to be. Will it be one of the major financial innovations of the 21^st century, as some enthusiastic observers put it? Or just another element in a long chain of technological improvements facilitating the digitalization of the world’s economies? Or, more ominously, will it be another illustration of China’s party-state appetite for ever more surveillance over its citizens?

Copyright: MARK RALSTON / AFP