The concept of a central bank digital currency (CBDC) -- digital money backed and issued by a central bank -- has been bubbling under the surface for the past few years. Now, it looks like it is ready to take off. The topic has already been debated at this year's World Economic Forum in Switzerland, and Bank of America (BAC -0.13%) just released a report suggesting that central bank digital currencies have the potential to revolutionize the global financial system. According to that report, these digital currencies represent "the most significant technological advancement in the history of money."
In many ways, it's a question of when, not if, this transformational change is going to happen. According to the Atlantic Council, 114 nations around the world are exploring the introduction of CBDCs, and 18 of the G20 nations are in the advanced stages of launching one. So, if CBDCs are "the future of money," what does that mean for Bitcoin (BTC -3.65%)? After all, wasn't Bitcoin supposed to be the future of money?
Scenario 1: CBDCs fail to take off
While some nations -- such as China -- are well advanced in the pilot stages of their CBDC rollouts, other nations lag behind. The United States, notably, is far behind other nations when it comes to a CBDC rollout. In September 2022, the White House released a report titled "Technical Possibilities for a Central Bank Digital Currency," and it's clear there are a lot of potential stumbling blocks. For one, as the paper points out, there is concern about equitable access and what impact a "digital dollar" might have on the average U.S. citizen. There are also a number of purely technological issues to sort out.
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For reasons such as these, it's easy to imagine a scenario in which CBDCs never really get off the ground, and Bitcoin emerges as the winner when it comes to digital currencies. In many ways, that was the vision that many people had for Bitcoin at the outset. For more than a decade, crypto enthusiasts have argued that Bitcoin should replace traditional fiat currencies. From this perspective, CBDCs are just reinventing the wheel. If you buy into this narrative, then Bitcoin is a strong long-term buy and hold, because it will be the future of money.
Scenario 2: CBDCs and Bitcoin coexist
Of course, it's possible central banks will manage to work out all the intricacies of CBDCs and launch them into the market. But that doesn't mean the average person is going to use them. For example, due to their complexity, CBDCs might just be used as tools to facilitate transactions between central banks and commercial banks, or as a way for the government to interact directly with citizens. But they might never go mainstream. For example, you might pay taxes with a CBDC account, or you might receive a stimulus check via a CBDC account, but you wouldn't shop online and pay for your purchases with your CBDC account.
This is probably the most likely scenario, simply because there could be a massive outcry from the private sector if any of today's major financial players -- such as commercial banks -- are disintermediated out of the system. And private citizens might respond quite negatively if they think CBDCs are being used by central banks to gain sensitive information or data about them, such as their precise spending patterns.
Scenario 3: CBDCs replace Bitcoin
In this scenario, CBDCs become a huge hit, people realize the limitations of cryptocurrencies such as Bitcoin, and cash disappears. In this potential future, the past decade will be seen as just a period of experimentation with digital currencies. Historians will say that Bitcoin helped pave the way for national CBDCs, but lament the fact that the original crypto has largely been relegated to the dustbin of history.
The possibility of a course of events like this may be a reason why some predict that Bitcoin will eventually go to zero. They realize the immense forces at work in the financial system, and the need for central banks and sovereign governments to retain their authority and power for this system to work. If you believe in the likelihood of this scenario, then Bitcoin is not a suitable long-term investment option, because regulators will eventually find a way to limit its scale and reach.
Is Bitcoin the future of money?
I'm bullish both short term and long term on Bitcoin. If you read through the technical papers about CBDCs, it's striking how cryptocurrencies already solve many of the problems that CBDCs are supposed to solve. For example, one big issue is financial inclusion, or the need to include everyone in a new digital financial system. What easier way is there than by empowering people to create their own mobile blockchain wallets in order to hold Bitcoin, such as they are already doing in El Salvador?
Ultimately, digital currencies have the potential to revolutionize the global financial system, as Bank of America suggests. The only question is who will be the ultimate winners here. Right now, I'm putting my full faith in Bitcoin. Governments are good at many things, but not at financial innovation.
