How banks can lose $60 billion to cybercash highways

Synopsis: Cross-border transfers are going to be more faster and economical.


Currently, the cross-border transfers are both too slow and too expensive for retail customers. The monetary authorities of Australia, Singapore, Malaysia and South Africa have come together with the Bank for International Settlements on Project Dunbar.

It will explore the feasibility of a Model 3 expressway that can handle payments in multiple digital currencies. This is a cause of concern for banks as competing against a superior technology, lenders might lose traffic and $60 billion in fees.

What is Model 3 expressway?

Model 3 is a single distributed ledger, capable of handling multiple currencies, and settling the claims. It comes with inbuilt checks on money-laundering and a dedicated set of players jostling to offer foreign-exchange services at the best price.

Hong Kong and Thailand, together with China and the United Arab Emirates, are studying a bridging option for their digital currencies.

Once several such expressways are in place, banks’ profit from opaquely priced currency conversions and fat fees may vanish from retail transfers.

What are the planned models for easing international money transfer using digital currencies?

Officials are yet to decide on how their country’s digital cash will interact with other nations’ tokens in the future. The BIS sees three options.

Firstly, compatible standards, or Model 1

Secondly, interlinked Model 2 networks

Thirdly, a single Model 3 system handling multiple currencies. A money corridor with its own unified rulebook.

How the present system works?

Presently, your bank most likely will not have presence in the country where you’re trying to send money. Hence, it has to hold idle balances with a large institution that also has an account with the central bank of the recipient nation. The intermediary has to meet country-specific rules around money inflows and outflows.

This system is inefficient.

How Model 3 system shall work?

The current inefficient system of correspondent banking will become redundant if your bank simply takes $100 from your account, converts it into your home country’s tokens, and cryptographically tra­n­sfers them across the borders where they show up as $100 worth of digital cash in that nat­ion’s currency.

In the background, the sen­d­er bank’s account with its monet­ary authority is debited; the re­­c­ipient bank’s account, with a different central bank, gets credited.

How the Model 3 alternative may pose the biggest risk to the conventional money transfer business?

Banks charge 6.4% on a $200 outward remittance, on average, according to World Bank data. Nigerian, South African and Thai banks have some of the highest fees globally, according to Moody’s. A wider adoption of central bank digital currencies might shrink these fees “and would be credit negative for banks.

What are the challenges involved?

High level of integration required: It may require participating countries to jointly create a network operator.

Cheap Alternative options do exist. Banks are also considering a similar innovation for conventional electronic payments, which transfer liabilities of comm­ercial banks and not IOUs of central mone­tary authorities.

In more than 60 coun­tries, customers are now used to sending small sums at virtually zero cost from their bank accounts to one another and to merchants, knowing just a phone number or an email or after scanning a QR code.

Cross-border transfers are about to enter the fast lane, with or without digital currencies. If that plan progresses, remittances and e-commerce may become a lot cheaper than now.

Source: This post is based on the article “How banks can lose $60 billion to cybercash highways” published in Business Standard on 15th Sep 2021.

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