Lately, it seems that most major national banks are toying with the notion of a national digital currency. France is conducting tests of its own now, and it could pave the way for a digital euro. What will France’s experiments involve, and how will they affect the crypto ecosystem? Here’s what is known so far.

According to a document it published on March 30, the Bank of France is on the hunt for a central bank digital currency that can ease interbank settlements. To find one, the institution has called on Europe’s finest, inviting applicants — institutional or otherwise — to explore potential advantages of a CBDC.

By July 10, the central bank will elect ten CDBC-centric applications, basing the decision on innovative utility. Curiously, the bank isn’t pigeonholing the CBDC to blockchain alone, choosing instead to leave the door open for other technological solutions.

The experiment’s intentions are three-fold. First, to illustrate how a CBDC could effectively complete interbank settlements. Second, to uncover additional advantages of digital currency. And third, to understand the potential impact of one on financial stability.

The bank has painstakingly emphasized that the test is purely experimental and won’t continue in the long run. The project also won’t be used commercially, finding usage within interbank transfers instead, with the broader intent of replacing legacy systems. It will, however, serve as a precedent in a deeper investigation into a digital euro. So, can a CBDC fix the Eurozone’s lagging legacy systems, and what will the wider implications be on the cryptocurrency industry?

Pros and cons of a CBDC

One fundamental aspect of the digital currency venture is utility. There are several classes of CBDC, including wholesale and retail. Each provides its own utility. Retail CBDCs are essentially digital fiat money, where issuance originates from a central bank. A wholesale CBDC — the kind targeted by the Bank of France — would act much the same as reserves held by central banks and primarily facilitates interbank settlements. A hybrid (as the name suggests) combines these two, extending issuance to commercial banks.

For Martin Nelson, chief operating officer of M10 — a provider of digital money rails for banks — the advantages of a CBDC very much depends on its type. Speaking to Cointelegraph, Nelson pointed out the benefits of a wholesale CBDC over prevailing legacy systems:

“A wholesale CBDC can bring benefits over the incumbent model such as programmability, enablement of cross-border transactions and be a stepping stone to a ‘synthetic CBDC’ (distribution of digital currency to the general public through an intermediary such as a bank or e-money provider).”

While France’s tests center on a wholesale iteration of CBDC, the notion of a forthcoming digital euro is inescapable. According to Hugo Renaudin, CEO and co-founder of French institutional crypto exchange LGO, synthetic CBDCs are the next logical step for the financial system, as “it is extremely important for a central bank to understand where its currency is and who owns it. Today, as it stands, it is almost impossible,” he told Cointelegraph.

Related: Two Versions of Digital Dollar Emerge as Contenders, but Unlikely to Come Soon

Renaudin then referred to a preliminary version of the United States government’s coronavirus stimulus bill — a version that included a proposal for a digital dollar, saying that fiat currency is not scalable:

“The U.S. government is living a logistical nightmare to be able to send checks to millions of Americans as part of their COVID-19 stimulus plan. With programmatic money, such as CBDC, it becomes very straightforward to send money to and collect it from a large amount of people at once.”

However, Renaudin warned that transitioning to digitized fiat isn’t without its pitfalls. A CBDC could impact privacy if implemented without appropriate provisions, allowing governments to snoop on their citizen’s financial affairs at will. Renaudin called the solution a double-edged sword: “They give more control to their issuers who can monitor transactions, balances, debit and credit accounts — potentially at will.”

Is blockchain the answer?

As it promises to rejuvenate the ailing banking system, an omission of blockchain could prove unwise, according to Pascal Gauthier, CEO of hardware wallet manufacturer Ledger. Gauthier also voiced privacy concerns to Cointelegraph, noting that any new system must retain anonymity, and that the blockchain could be a way to facilitate that:

“There is no benefit if it remains a simple digital currency. Although, if it runs on a public blockchain there will be two main benefits, one for citizens, they will own their private keys so they will be their own bankers, the other for governments who can program the public blockchain to track the money in order to check if it has been sent and used properly, but it must absolutely remain anonymous.”

The Bank of France is not against blockchain, per se, it merely wishes to remain impartial to the types of technology available. However, Alex Baitlin, founder of custodial wallet specialist Trustology, explained to Cointelegraph that while a host of technological stand-ins exist, blockchain remains the best choice:

“If the Banque de France was focused on money transfers exclusively then alternate technology such as hashgraph could be tapped into. But this is not the case, it's specific to interbank settlement which suggests the need for immutability of records, transparency and real-time. Thus, in this case blockchain becomes the better fit here.”

Despite early designs for a CBDC pilot, Sweden’s central bank remained reluctant to implement a blockchain, suggesting it wasn’t battle-hardened enough. That was, until recently. The so-called e-krona — Sveriges Riksbank’s CBDC test — is well underway. The project harnesses distributed ledger technology, which is synonymous with the blockchain, according to the bank.

DLT could well be applied within France’s own CBDC test. However, while marking a positive step toward implementing decentralized-esque technology, many believe DLT pales in comparison to blockchain. “It’s like apples and oranges,” David Walsen, founder of Europe-based trading platform Hedgetrade, told Cointelegraph, adding that, “A CBDC such as the e-krona will have strict permissions and requirements to participate.”

A digital euro and its bearing on Bitcoin

Plans for a digital euro have been in the works for some months. The French central bank confirmed objectives for a wholesale CBDC back in November 2019. Now, with initiatives underway in Sweden and soon, France, the framework is finally being assembled. According to Nelson, though, a lot more testing will need to take place before a digital euro materializes, and even then, it likely won’t fall into the hands of the public:

“Experimentation by central banks with CBDCs will accelerate this year and next. The results will be carefully analyzed before a decision is made. A wholesale CBDC is likely to emerge before a version that’s available to the general public.”

But Gauthier suggests it isn’t prudent for the European Central Bank to stay idle for too long. He believes that, in the wake of private sector initiatives such as Facebook’s Libra, traditional finance must act quickly, stating, “Central Banks and traditional finance must adapt to new technologies to remain relevant for consumers.” Gauthier also added that “CBDCs are the Central Bank’s reaction to Libra and more generally to the threat of private crypto-money.”

Which poses a question to the contrary: How will cryptocurrencies fare once a digital euro is introduced? According to Renaudin, the introduction of a digital euro will usher in a more reliable crypto infrastructure that is currently not connected to any other systems:

“Wallets and on-chain transactions are still clunky, and very few non-crypto businesses have an IT infrastructure that uses these technologies. It’s a different story once they’ve adapted to a digital euro, which naturally increases the ability of individuals and businesses to access Bitcoin and cryptocurrencies.”

For Nelson, however, once a retail or synthetic CBDC enters the scene, Bitcoin (BTC) could lose some of its appeal, while a wholesale CBDC would most likely have no impact on Bitcoin:

“A general purpose, or synthetic CBDC could lead to reduced demand for Bitcoin, but even that is questionable. Bitcoin is currently more of an alternative asset class used primarily by speculators. A digital euro will not compete with that.”

On the contrary, Walsen proposes that while CBDCs could pose some threat to cryptocurrencies, Bitcoin’s inherent attributes of privacy and security will trump any digital fiat. He added that, “Well-established cryptocurrencies do have a jump start and offer more in the way of privacy, security and financial freedom.”

Overall, France’s CBDC tests mark a relatively significant stride forward for traditional finance. However, if a digitalized fiat is to be introduced, central banks need to prioritize fundamental provisions such as privacy — or else those that are conscious of those issues will turn to crypto.