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BIS releases ‘game-changing’ blueprint for global financial system

Bank for International Settlements: BIS’s headquarters (the tower on the left of the photo) is located in the Swiss city of Basel; inset: Hyun Song Shin | Credit: Global Government Fintech montage using BIS images

A new type of financial infrastructure – a unified ledger – has the potential to ‘radically’ improve the global financial system, according to a ‘blueprint’ published today by the Bank for International Settlements (BIS).

The infrastructure, which is detailed in a special chapter of Switzerland-headquartered BIS’s annual economic report for 2023, would combine tokenised forms of central bank digital currency (CBDC) with tokenised bank deposits and other tokenised claims on a programmable platform.  

The ‘Blueprint for the future monetary system: improving the old, enabling the new’ chapter necessitates what is described as a ‘rethinking’ of the monetary system’s existing pillars.

‘The monetary system stands at the cusp of [a] major leap. Following dematerialisation and digitalisation, the key development is tokenisation – the process of representing claims digitally on a programmable platform,’ the chapter states (BIS’s fuller explanation of tokenisation can be found at the end of this article).

“Bringing together central bank money, commercial money, and different assets on the same platform, all tokenised and interacting, opens up a whole new range of possibilities. This would be a game-changer in how we think about money and how transactions take place,” said BIS economic adviser and head of research Hyun Song Shin in a press release accompanying the chapter’s release.

Springboard for innovation

BIS general manager Agustín Carstens spoke of a ‘unified ledger’ in a speech (‘Innovation and the future of the monetary system‘) given in Singapore in February. Many of the components are already in place – or at least relatively well progressed through BIS Innovation Hub-led experimentation.

Examples of possible innovations mentioned in the chapter include: new methods for securities settlement that combine all individual steps into one ‘seamless’ transaction; tokenised deposits with ‘built-in’ regulatory checks that simultaneously settle in wholesale CBDC; smart contract-enabled credit that ‘reduces the cost of trade finance for smaller companies, improving global supply chains’; and enhanced sharing of data on potential borrowers, using privacy-protecting technology, to expand access to credit for disadvantaged segments of the population.

“The benefits would be limited only by the ingenuity of the public and private partners who innovate on the platform,” Shin said. “The gains are not just incremental improvements. They address in a more fundamental way the incentive and informational problems that have stood in the way of better economic arrangements.”

In answer to a Global Government Fintech question during a BIS media briefing ahead of the chapter’s release about what BIS wants to happen next, Shin responded that this was the “central question”.

He said that he envisaged “a great deal of alignment” between central banks and the private sector around the possibilities and that the “next step” was to “bring the two parts together”.

Data privacy and resilience questions

The unified ledger concept can be ‘broad or narrow, with the first instances likely to be application-specific in scope’, the chapter states. ‘For example, one ledger could aim at improving securities settlement, while another could facilitate trade finance in supply chains,’ it explains.

A unified ledger ‘raises important issues about data privacy and operational resilience’, the chapter also notes, pointing out that ‘adequate safeguards are necessary to protect users’ privacy’. A key element to guaranteeing privacy would be to create partitions in the ledger’s data environment, it states, going on to state that encryption and ‘other privacy-preserving technologies can ensure the safe sharing and use of data’.

Cyber resilience is also covered, with the chapter stating that a unified ledger ‘could help ensure a sufficient level of investment’.

‘Cyber security is a public good. If one institution spends more to protect its own infrastructure, it makes the system as a whole safer, thereby benefiting all other institutions,’ it states. ‘However, given such positive externalities, the classical problem of under-investment by private parties arises. Collectively, financial institutions will spend too little on cyber security. The unified ledger, sustained by a public-private partnership that internalises these externalities, could overcome this issue. It would lead to greater investment in cyber security, increasing overall system resiliency.’

The chapter was released today (20 June) in advance of the publication of the full BIS annual economic report (and also its annual report) on 25 June.

‘Crypto is a flawed system’

The chapter dismisses the potential of cryptocurrency – the much-hyped digital medium of exchange that is not reliant on any central authority – while stating that private-sector financial institutions’ efforts as regards tokenisation have been ‘hampered by the silos… and the resulting disconnect from other parts of the financial system.’

‘Crypto and decentralised finance (DeFi) have offered a glimpse of tokenisation’s promise, but crypto is a flawed system that cannot take on the mantle of the future of money,’ the chapter states. ‘Not only is crypto self-referential, with little contact with the real world, it also lacks the anchor of the trust in money provided by the central bank.’

‘While stablecoins have mushroomed to fill this vacuum by mimicking central bank money, the implosion of the crypto universe in the past year shows that there is no substitute for the real thing. Away from crypto, efforts by commercial banks and other private sector groups have explored the capabilities of tokenisation for real-world use cases. But these efforts have been hampered by the silos erected by each project and the resulting disconnect from other parts of the financial system. These projects also lack integration with a tokenised version of the settlement asset in the form of a central bank digital currency (CBDC).’

‘The collapse of crypto and the faltering progress of other tokenisation projects underline a key lesson. The success of tokenisation rests on the foundation of trust provided by central bank money and its capacity to knit together key elements of the financial system.’

The BIS Innovation Hub has been undertaking a growing number of projects with CBDCs and tokenised assets, for example ‘Project Genesis’ and ‘Project Dynamo’. The latter project, which involves the Hong Kong Monetary Authority (HKMA), has delivered what BIS has described as a ‘ground-breaking’ prototype using non-fungible tokens and smart contracts for SME (small- and medium-sized enterprise) finance (a 50-page report, ‘Project Dynamo: CBDCs, stablecoins and deposit tokens: wholesale adoption explorations and challenges’, was published on 8 June).  

‘Project Rosalind’ on CBDCs concludes

BIS has also announced the completion of its ‘Project Rosalind’ experimentation related to CBDCs.

The project – which involved the BIS Innovation Hub’s London centre and the Bank of England – explored how a universal and extensible application programming interface (API) layer could connect central bank and private sector infrastructures and facilitate retail CBDC payments.

The project developed 33 API functionalities and explored ‘more than’ 30 retail CBDC use cases, providing lessons on important aspects of a retail CBDC system, such as API design, privacy models, security and private sector programmability, the 36-page ‘Project Rosalind: Building API prototypes for retail CBDC ecosystem innovation’ report (released on 16 June) details.

Use cases included peer-to-peer transfers, retail payments for goods and services and small-value business transactions. A range of payment options were tested, such as making retail CBDC payments online, in stores and offline, with the use of near-field communication and via interactions with point-of-sale, QR (quick-response) codes, mobile phones, smartcards, biometric devices and ‘smart assistants’. Some of the use cases also explored private sector programmability and micropayments.

“We believe that Rosalind can make a significant contribution to how organisations across the globe are thinking about and engaging with the design of retail CBDC systems,” said BIS Innovation Hub London centre head Francesca Hopwood Road.

‘Traditional ledger systems and tokenised systems operate under fundamentally different rules. In traditional ledger systems, account managers are entrusted with maintaining and updating an accurate record of ownership. In contrast, in a tokenised setting, money or assets become ‘executable objects’ that are maintained on programmable platforms. While tokenisation does not eliminate the role of intermediaries, it changes the nature of that role. The role of the operator in a tokenised environment is as a trusted intermediary serving in a governance role as the rule book’s curator, rather than as a bookkeeper who records individual transactions on behalf of account holders. The claims traded on programmable platforms are called tokens. Tokens are not merely digital entries in a database. Rather, they integrate the records of the underlying asset normally found in a traditional database with the rules and logic governing the transfer process for that asset.’
Source: p88 of BIS Annual Economic Report 2023 (p4, ‘Blueprint for the future monetary system: improving the old, enabling the new’ chapter)