Multilateral central bank digital currency bridge, the beginning of subverting the international payment system

The Multilateral Central Bank Digital Currency Bridge project has been very popular recently.

On November 3, during the Hong Kong Fintech Week, with the support of the Bank for International Settlements Hong Kong Innovation Center, the Digital Currency Research Institute of the People's Bank of China, the Hong Kong Monetary Authority, the Bank of Thailand and the Central Bank of the United Arab Emirates jointly released the Multilateral Central Bank Digital Currency Bridge Project Use Case Manual, which briefly introduced the project application scenarios and testing progress.

Since the People's Bank of China participated in it in February 2021, this project has received extremely high attention. Today, let us briefly talk about what the Multilateral Central Bank Digital Currency Bridge Project is.

Development History

The Multilateral Central Bank Digital Currency Bridge Project was originally a bilateral pilot project between the Bank of Thailand and the Hong Kong Monetary Authority.

In 2017, the Hong Kong Monetary Authority began to study the central bank digital currency project and named the project LionRock. Lion Rock is a famous mountain in Hong Kong that is shaped like a lion. Hong Kong also has a "Lion Rock Spirit" that is passed down by word of mouth, which is positive and inspiring.

In August 2018, the Bank of Thailand launched its central bank digital currency (CBDC ) project called Inthanon, in which eight commercial banks in the country participated. The author consulted relevant information and found that Inthanon seems to represent Doi Inthanon, a mountain in Chiang Mai, Thailand, which is the highest mountain in Thailand.

In May 2019, the two CBDCs of Hong Kong and Thailand carried out a "mountain-mountain alliance" and launched the Inthanon-LionRock project, which aims to study the application of CBDC in cross-border payments.

In September 2019, the first phase of the Inthanon-LionRock project was launched and completed in December of the same year. This phase was mainly about technology openness. The two parties, together with a total of 10 participating banks from both places, successfully developed a proof-of-concept prototype based on Distributed Ledger Technology (DLT ) .

In November 2020, the second phase of the Inthanon-LionRock project was launched. In this phase, the two parties explored business use cases in cross-border trade settlement and capital market transactions.

In February 2021, the Inthanon-LionRock project entered the third phase of research and development. The People's Bank of China and the Central Bank of the United Arab Emirates joined, and the Inthanon-LionRock project expanded from two parties to four parties. At the same time, the Hong Kong Center under the Innovation Hub of the Bank for International Settlements also supported the project. The project name was officially changed to "Multiple Central Bank Digital Currency Cross-Border Network " (m-CBDC Bridge), which is what we call the multilateral central bank digital currency bridge.

In September 2021, the four parties released the first phase report of the Multilateral Central Bank Digital Currency Bridge Project. At this time, we can already see the convenience and efficiency that the project brings to cross-border payments.

In November 2021, the four central banks released the Use Case Manual for the Multilateral Central Bank Digital Currency Bridge Project, introducing 15 potential application scenarios and testing progress of the project, involving international trade settlement, cross-border e-commerce, supply chain finance, etc.

For ease of reading, we will refer to the Multilateral Central Bank Digital Currency Bridge Project as mBridge.

How does it work?

In September 2021, the Hong Kong Innovation Center of the Bank for International Settlements released the report "Inthanon-LionRock to mBridge: Building a multi CBDC platform for international payments". 》 (hereinafter referred to as the “Report”) is a periodic summary report.

The report shows that mBridge was born out of the Inthanon-LionRock stage, and its technical principles and some concepts have been inherited from Inthanon-LionRock . mBridge will also adhere to the three principles of non-harm, compliance and interoperability, with the overall goal of "designing and iterating a new generation of efficient cross-border payment infrastructure to address pain points such as high cost, low speed and complex operability."

According to the report, the Inthanon-LionRock prototype blockchain network layer was built on Hyperledger Besu by ConsenSys, a company founded by Ethereum co-founder Joseph Lubin. Therefore, whether the network will have strong compatibility with the Ethereum mainnet is a potential foreshadowing: will mBridge be linked with Ethereum's rich ecosystem in the future?

mBridge's system construction has three layers:

Layer 1 is the core layer: This layer contains the blockchain distributed ledger technology and its related data, and is also the implementation layer of smart contract logic programming.

Layer 2 is the backend application layer: it provides identity recognition, permission access, routing functions, wallet signatures, key management, foreign exchange exchange mechanisms, etc. for Layer 1.

Layer 3 is the front-end layer: This layer provides an interface for accessing the core system and provides the required functions for end users.

In terms of technical principles, mBridge still uses the foundation of the Inthanon-LionRock project. It adopts a "corridor network" where all participating banks run their own nodes in the domestic network and the corridor network, and only the central banks of each country have the core right to manage the nodes. The use of blockchain and distributed ledger technology ensures that the entire link is sufficiently secure.

On the Corridor Network, through tokenized assets, parties can trade in a peer-to-peer manner without the need for an intermediary account. In this way, the platform is able to seamlessly provide tokenized PvP (Payment vs Payment) transfers between different currencies and different jurisdictions.

In cross-border payments, the amount of digital currency exchanged between the two parties will be mapped on the corridor network, and the mapped product is also called "depository receipts". From the perspective of the core layer, Bank of China can understand the operation of digital currency on the corridor network in great detail.

Simply put, if a bank in country A needs digital currency from country B and exchanges 100 million, 100 million depositary receipts will appear on the corresponding corridor network. Depositary receipts are universal in the corridor network, which allows currencies joining mBridge to be exchanged more efficiently. If a bank in country C needs 50 million digital currencies from country B, the bank in country A can complete the transaction directly on the corridor network through depositary receipts. It is worth mentioning that depositary receipts are only certificates after all, and cannot be circulated directly. The currency circulation in each country still needs to be exchanged for the corresponding digital currency. This scenario is more suitable for the application of wholesale digital currency.

What effect does mBridge ultimately want to achieve?

The report draws two pictures to show how mBridge improves cross-border payment efficiency. Traditional cross-border payment model of correspondent banks:

This model needs to go through multiple nodes in multilateral transactions, and there are hidden policy restrictions in different countries. This is also the more popular SWIFT model. Although SWIFT has launched products such as SWIFT GPI and SWIFT Go in recent years to improve the settlement efficiency of the entire network from several days to several minutes, the underlying logic remains unchanged, and transaction efficiency and regulatory risks are still poor.

The mBridge transaction model is as follows:

Multilateral transactions can be directly carried out on the corridor network, eliminating intermediaries and achieving transaction speeds of seconds. By eliminating many intermediaries, costs can be significantly reduced, foreign exchange operational risks can be eliminated, transparency can be improved, and regulatory work can be reduced.

The author superficially believes that in the SWIFT model, the intermediary is only the transmission of information, and the specific transaction execution requires bilateral banks to operate according to the unified message system. However, mBridge cannot be called the digital currency version of SWIFT. It itself has a certain exchange nature. Central banks of various countries rely on the corridor network to exchange depository receipts and digital currencies back and forth. Through smart contracts, countries formulate corresponding transaction rules and regulatory policies.

According to the summary of the latest mBridge application manual, mBridge can bring a cross-border payment experience with low cost, easy operation, no exchange risk, high transparency and low declaration burden.

Possible impact

For the People's Bank of China, mBridge is an important breakthrough point in the global cross-border payment revolution and an important entry point for reshaping the global payment system.

At the G20 meeting held in 2020, the 20 countries agreed to strengthen cross-border payments as a priority issue that should be addressed. In the "Enhancing cross-border payments: building blocks of a global roadmap Stage 2 report to the G20" released by the Bank for International Settlements in July 2020, the current problems of cross-border payments were clearly pointed out and 19 solutions were proposed.

Among them, there are only three directions for exploring new payment technologies, systems and arrangements, including considering new multilateral cross-border payment platforms and deployments, observing the development of global stablecoins, and exploring CBDCs.

Among these three paths, the first one is a bit like recreating a SWIFT, such as Europe’s launch of INSTEX; the second one is to observe the development of stablecoins such as Meta (Facebook)’s Diem and USDT; the third one is projects like mBridge.

In addition to banning stablecoins, the Chinese government has launched CIPS, which is actually very difficult to break through under the existing SWIFT system. mBridge is the world's first cross-border settlement platform built around digital currency, starting from scratch. Whether it succeeds or not, the People's Bank of China is trying to gain a foothold.

On the other hand, due to the strong position of the US dollar, SWIFT is currently beneficial to the United States, so there is no need to create another multilateral cross-border payment platform. The United States is extremely cautious about CBDC, and even to some extent does not want to launch CBDC. At the end of 2019, the US Treasury Secretary said that the Federal Reserve would not issue digital currency within five years. In the middle of this year, the Federal Reserve also said that it would release a US version of the CBDC research report in the summer, but it has not yet been released.

As for stablecoins, the US government and technology giants are extremely supportive, and various large stablecoins are mostly anchored to the relatively stable US dollar, such as Diem and USDT. In the payment ecosystem, Square, PayPal, Visa, MasterCard, etc., all support the development of cryptocurrencies to varying degrees.

It is not easy for mBridge to succeed. A report by KPMG shows that it will take at least 10 years for mBridge to be widely used. In addition to facing the challenge of stablecoins around the world, the development of mBridge is directly related to the enthusiasm of countries around the world for CBDC. If all countries launch CBDC, recognize and join mBridge, half of the goal will be achieved, and the rest is the game and adjustment of countries.

Of course, with the help of mBridge's open, fair and transparent environment, the internationalization of the RMB may be accelerated. However, behind the currency competition is the competition of comprehensive national strength and global influence. mBridge will be a reflection of national strength.