Maurizio Raffone is chief financial officer of Credify Pte Ltd, a Singapore-based technology company developing solutions for the e-commerce and fintech markets.
When politicians start talking about the importance of digital currencies for the national economy, one ought to pay attention.
In Japan, the topic is gathering substantial momentum ahead of the Group of Seven summit of leading economies later this year, with senior figures in both the ruling Liberal Democratic Party and the Bank of Japan stressing the country must be ready to create its own central bank-issued digital currency, or CBDC.
Adopting a CBDC would be a huge boon to the Japanese financial services industry, as well as providing another tool for the BOJ to loosen monetary policy even further. Japanese politicians see potential geopolitical benefits too.
Most people are familiar with digital representations of currencies, as nowadays all bank accounts store information in electronic format. However, CBDCs are actual currencies that only exist digitally and that are stored on a distributed ledger, a public database of interconnected computers.
All currency units carry a specific database address, akin to a banknote's serial number, and everyone with a computer can technically see where all the money in the economy is.
Today's technology and the widespread use of smart portable devices can safely provide a much more efficient alternative to physical cash. Indeed, some technologists argue that today blockchain is to finance what the printing press was to publishing back in Gutenberg's days.
Japanese financial institutions are investing heavily in digital transformation but the results are not yet what they should be. Despite the Ministry of Economy, Trade and Industry predicting a potential economic loss of up to 12 trillion yen ($109 billion) each year after 2025 if Japanese companies do not successfully embrace digital transformation, too often Japanese banks take too long to do so.
For instance, in 2019 MUFG Bank, Japan's largest bank by assets, booked an $853 million loss after scrapping an IT upgrade to its credit card payment processing systems as it was deemed obsolete before it had been rolled out.
At the same time, the Japanese public is still wary of using digital finance. A 2018 survey by Deloitte pointed out that only 7% of users accessed online banking more than five times a month. Digital transformation is an uphill battle in fax-obsessed Japan.
In all this doom and gloom, the introduction of a CBDC would be an important move to drastically reduce operational costs across Japanese financial services companies. CBDCs cut costs in two main ways. First, the expensive infrastructure built around handling physical money, such as ATMs and bank tellers, is no longer needed, at a massive cost saving particularly for banks.
Secondly, the public ledger store of digital currency units would automate several banking processes, such as payment transfers, security settlements, compliance and financial reporting. As the costs of back office functions skyrocket, transacting through CBDCs would be a direct financial gain for the whole financial ecosystem.
At the macro level, the introduction of a CBDC could help the BOJ to increase how fast money is exchanged in the economy, as digital money transacts more easily than old-style physical money. The faster money is exchanged in an economy, the more economic activity can be supported, meaning a Digital Yen would be another tool for the Japanese central bank to boost economic growth.
However, the rhetoric from Japanese politicians has not been about the tangible improvements that a CBDC could bring to the economy, but rather on its importance to maintaining global economic stability and to fighting off the looming threat of a China-issued CBDC. They fear that a Digital Yuan could become the de facto currency for international trade, particularly in Southeast Asia, giving China more economic and political clout over its neighbors and a strong hand in trade negotiations with the other global powers.
The introduction of a CBDC in Japan would pose problems for the dominant large Japanese financial services companies. Unlike Europe and the U.S., Japan has yet to see the emergence of challenger or neo banks, i.e. banks that operate entirely digitally and are not affiliated with an incumbent bank.
Despite Japan having enacted Open Banking regulations, which have opened up consumers' data held by banks to third-party companies, in 2018, Japanese financial institutions are yet to face competition from local equivalents of Germany's N26 or the U.K.'s Monzo, two prominent digital banks in Europe.
A CBDC could level the playing field between incumbent Japanese banks and challenger banks by removing restrictions on digital transfers -- all money transfers would need to be done through digital channels. Challenger banks would be in a strong competitive advantage due to their intrinsically lower cost bases, technological prowess and the generally intuitive user interfaces of their apps.
So while LDP and BOJ officials focus on the structural benefits of widespread adoption of a Digital Yen in the form of a CBDC, the lesson really is for Japanese banks. They ought to improve their digital transformation efforts to prepare for the innovation that foreign and domestic technology companies will bring.