Central Bank Digital Currency (CBDC) Definition

Written by Sean GraytokUpdated: 9th Oct 2021
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Central bank digital currencies are coming to a nation near you. But what is a CBDC? And are they good?

Here’s everything you need to know about central bank digital currencies.

What is a Central Bank Digital Currency (CBDC)?

Central bank digital currency (CBDC) is a term that describes a third version of currency that could use an electronic record or digital token to represent the digital form of a nation’s currency.

CBDCs put modern technological capabilities behind a country’s fiat currency, essentially creating a “digital fiat” representation that functions just like its analog counterpart, at least in theory.

CBDCs are issued, managed, and backed directly by the central bank that issues them.

On the front-end, users of CBDCs would have a similar experience as current users of Cash App and Venmo. The back-end implications are where things get interesting and even troubling.

Understanding Central Bank Digital Currencies

CBDC concepts were inspired by the creation of Bitcoin, but since central bankers could not control it, they’re now creating their own version of it. However, these two currencies do not have much in common (more on this later).

An actualized CBDC means that every citizen under that nation’s monetary authority would have a bank account with their central bank.

This direct relationship can simplify the implementation of monetary and fiscal policy but comes with obvious flaws.

For example, a central bank could instantly deposit stimulus checks into its users’ accounts, thus reducing the historic complexities of distributing money to citizens that use different banks.

Each one of those dollars would be traceable, and the central bank would be able to follow it from transaction to transaction, observing when it was exchanged, where it was exchanged, to whom it was exchanged, and the reason for its exchange.

Additionally, the digital nature of a CBDC enables it to be programmable money, which introduces a unique set of consequences.

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Advantages of CBDCs

The advantages of CBDCs mostly benefit the bankers that control them. Here are the top advantages of CBDCs:

Easier Distributions

As previously discussed in the stimulus check example, the direct channels from the central bank to the people make for easier distributions of money at scale and potentially reduce fraud on behalf of third-party banks.

Let’s say a hurricane hits Louisiana, and the state’s economy shuts down for some time.

Politicians could instruct4 the central bankers to send relief payments directly to individuals in the affected area with great efficiency

The Federal Reserve could print money, and CBDC administrators would simply deposit $1,000 in users’ accounts within a given zip code.

This type of distribution is significantly more effective than the methods used during the COVID-19 pandemic.

Stimulus checks took months to deliver. Some were never delivered at all. Some went to deceased people. And there was billions of dollars of fraud.

In theory, CBDCs could fix some of these issues.

More Data

Assuming central bankers act with the public’s best interest in mind, a CBDC would provide the Federal Reserve with better data and equip it to make better-informed decisions regarding the money supply and interest rates.

A significant portion of circulating US dollars cannot be tracked because they exist as cash.

Untraceable money makes financial metrics, like the velocity of money, more difficult to measure.

Real-time data on every dollar in circulation would provide the Fed with accurate data on behaviors like spending, lending, and saving, enabling them to adjust interest accordingly and keep the economy running at an optimal pace that would benefit the participating citizens in said economy.

Again, this is an overly optimistic advantage to CBDCs and one that relies on unlikely assumptions.

Disadvantages of CBDCs

Any advantage of CBDCs can turn into a disadvantage pretty quickly if central bankers or governments were to overreach and abuse their power.

Here are some of the more alarming disadvantages of CBDCs:


CBDCs would be a centralized currency vulnerable to far more censorship than today’s dollar.

Take social media platforms. For example, a user can be removed from the platform if they express views that are not aligned with that of the company.

A Facebook administrator can remove a user’s ability to use the platform the same way a central bank administrator could remove a citizen’s ability to send or receive money.

Decentralized networks, like Bitcoin, allow for users to freely interact without the need for a third-party approval.

Censorship is perhaps the most apparent difference between CBDCs and Bitcoin, except for their vastly different monetary policies — one being unsound money and the other sound.


The “more data” advantage from the Fed’s perspective turns into a “surveillance” disadvantage from the perspective of everyday citizens.

A CBDC ledger records every transaction, allowing governments to monitor the financial behaviors down to the individual.

The value of the data Facebook (FB) and Google (GOOG) collects would pale compared to the data tracked in a central bank’s database.

The common rebuttal here is, “I’m not doing anything illegal. I don’t care if I’m being monitored.”

This argument neglects the directional nature of policies and oversight, assuming those with power will not pursue more power.

Personalized Monetary Policies

Increased monetary surveillance leads seamlessly to personalized monetary policy.

Governments would be able to program the issued CBDC down to the individual, specifying what product or services that CBDC is permitted to be spent on.

Let’s say CBDCs were launched prior to the COVID-19 pandemic. Central banks could have programmed the distributed stimulus checks to only be spent on approved products and services they deemed to be necessary, such as rent, food, electricity, and water.

Recipients would not have been able to buy new televisions or out-of-the-money TSLA call options with the stimulus because the CBDC would have been programmed to not allow such transactions.

Expiring Money

Another chilling result of CBDCs would be their potential to programmatically expire.

Central bankers or governments could encourage spending and consumption by putting an expiration date on its money.

The ability for money to expire would likely be paired with some type of universal basic income (UBI) system or the previously mentioned personalized monetary policies.

This level of monetary control has the potential to erode individual freedom.

Negative Interest Rates

Your entire CBDC balance would exist in a database governed by a central bank in a cashless society.

You would not be able to escape negative interest rates set by the Fed because you wouldn’t be able to withdraw physical cash.

Today, you might be able to earn 0.50% interest on your money in a Marcus savings account.

If Marcus were to charge a negative 0.50% interest rate, you could withdraw your balance and earn zero percent interest rather than losing money.

This option ceases to exist in a CBDC system. You’d either spend your depreciating CBDC and stimulate the economy or invest in riskier assets, like stocks that have the potential to appreciate.

Fiat Monetary Policy

A CBDC is just the digital form of a nation’s currency, which is backed by the issuing government and not reserves like gold.

Therefore, CBDCs are an extension of fiat currencies and share the same negative consequences of using fiat as a store of value.

CBDCs are vulnerable to the same inflation and unpredictable supply increases that erode the purchasing power of fiat currencies, like the US dollar.

While CBDCs were inspired by Bitcoin, they lack nearly all of the properties that make Bitcoin sound money, such as scarcity and a high stock-to-flow ratio.

A CBDC will not “replace” Bitcoin because it’s not trying to be Bitcoin from a monetary perspective — it’s just digital fiat. The money printer will just exist in the cloud.

CBDC Frequently Asked Questions

What is the point of a central bank’s digital currency?

The point of a central bank digital currency is to simplify the payment rails in an economy and provide central banks with better insights on monetary metrics. CBDCs can reduce intermediaries and varying banking infrastructure that complicates the distribution of money.

Does the US have a central bank digital currency?

The US does not have a central bank digital currency yet. However, the Federal Reserve states that “… it is essential that the Federal Reserve remains fully engaged in CBDC research and policy development.” In 2020, Chair Jerome Powell announced a joint exploration with MIT’s Digital Currency Initiative to explore, test, and build a hypothetical digital currency platform. The Fed is also currently collaboratingwith international groups like the Bank for International Settlements.

What is digital currency, and how does it work?

A digital currency performs the same function as physical money but in the digital space. Digital currencies can be exchanged using technologies like smartphones, online exchanges, and credit cards. Much of the money in circulation is already digital.

Bottom Line: Central Bank Digital Currency Definition

It’s inevitable that most nations will eventually roll out a central bank digital currency.

Nations will exploit CBDCs to varying degrees. A percentage of free nations will become less free as a result of CBDCs, and some will go full authoritarian.

You can follow each nation’s CBDC progress using this Central Bank Digital Currency Tracker.

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Sean Graytok
Sean Graytok

Sean Graytok is our Co-Founder and leading expert in investing and financial management. His work has been cited in leading industry publications, such as InvestorPlace and Business Insider. Sean is interested in the people and technologies that are improving the world.