Head of Government Relations and GovTech at enterprise blockchain firm R3, Isabelle Corbett, writes on the importance of the ECB choosing the right tech for its digital euro project.
The European Central Bank’s (ECB) launch of a digital euro project is big news in the digital currency space – but even more promising is the willingness the ECB has displayed in listening to the concerns of its eventual end-users. Individuals and organisations alike have voiced that privacy must be the ECB’s number one priority when creating a digital euro. When it comes to safeguarding the future of the second-largest and second-most traded currency in the world – privacy must be king.
Central banks around the world are at a critical juncture in the digital evolution of money, as the need to modernise both cash and non-cash payments has reached a tipping point. Although the ECB has launched its digital currency project earlier than many others, its engagement with both the public and the business community, as well as what many characterize as a long timeline for development, demonstrate that this isn’t about coming in first; it’s about getting it right.
A successful CBDC must meet the needs of both government and users – which means that, from the outset, it must be designed both so that governments are comfortable with it, and that people actually want to use it in place of, or in addition to, traditional fiat currency.
There is a critical need for central banks to differentiate between the various technologies at their disposal to support a digital currency. The issuance of a digital euro would be subject to the highest security standards and full compliance with relevant regulatory frameworks, including anti-money laundering and anti-terrorism financing regulations.
Privacy is the single most significant hurdle that must be overcome to meet these requirements. Blockchain is a helpful tool for CBDC, but modern payments systems have requirements that many blockchains fail to meet. While traditional public blockchain models such as bitcoin and Ethereum share all data with all nodes on the network, a purpose-built enterprise blockchain platform can tackle this privacy challenge by using sophisticated encryption techniques and only sharing the data with those who have a need to know.
Various attempts have been made to reverse-engineer public blockchain platforms to meet the requirements of complex use cases such as CBDCs. However, the underlying challenge remains – at a basic level public blockchains still share all data with all nodes, or suffer from the significant inefficiencies that are a natural result of trying to change the core data sharing model of those platforms.
Sharing data with the government for AML or tax surveillance purposes and sharing your transactions with other individuals, businesses and potentially malicious actors are two very different things. This latter concern around unwillingly revealing sensitive information is exactly what drove respondents of the October 2020 – January 2021 ECB public consultation to highlight privacy as their number one concern for the digital euro.
In contrast to public blockchain platforms, a purpose-built enterprise blockchain platform benefits from having been built from the ground up to meet the requirements of complex and highly regulated use cases such as CBDC.
Such a platform can ensure that data is only shared between the counterparties of a transaction, therefore ensuring that any party’s data does not reside with an entity that the party has not transacted with. Additionally, even the communication protocol itself can be engineered to be entirely invisible to the other members of the blockchain. This protects not only the actual transaction details, but also prevents outsiders from knowing that the transaction is even happening in the first place.
Relevant parties to a specific transaction can be defined in the contract code – the programmatic rules that define and govern a specific digital asset. These parties may include the sender and recipient, but may also include a transfer agent, the issuer, an AML identity, a regulatory node, and so on.
A blockchain protocol for a use case as systemically important as a digital euro must be the product of rigorous requirement gathering from governments, central banks, and regulated enterprises, and in addition to privacy must address other key concerns such as identity management and scalability.
As the ECB and other central banks continue on their path to digitising their respective currencies, the blockchain community must help public administrations understand the options they have in developing solutions that meet the needs of a systemically critical financial infrastructure. And the most successful and sustainable CBDCs will be those that place privacy front and centre.
To create a successful digital euro, the ECB must deliver a private and secure digital currency that addresses end-users’ concerns and builds unwavering confidence in their currency. Blockchain will be an essential component of this next generation of money – but the underlying technology must be precision-engineered to tackle the risk posed by the privacy challenge.