China’s sovereign digital currency is still in the testing phase, but has caused speculation about what effect it will have on fintech. Some experts have asserted that the digital currency will crowd out payment methods WeChat Pay and Alipay. Others have stated that China’s sovereign digital currency will boost the fintech industry overall since it is electronic. So, how can we reasonably predict will the effect of the digital currency will be on China’s fintech industry?
First, we look at payment methods WeChat Pay and Alipay. China is already becoming an increasingly cashless society, one in which four out of five payments are cashless. Use of the digital currency will further this trend. The digital currency will be usable through WeChat Pay and Alipay and other digital payment methods, and regulators have stated that the sovereign digital currency is not meant to replace these payment channels. However, because the use of the sovereign digital currency necessitates the use of a digital wallet issued by a bank or other entity, these new digital wallets containing the sovereign digital currency may, in effect, create competition for existing payment channels. To what extent the digital currency will create competition or complementarities with WeChat Pay and Alipay is not yet clear – but the takeaway is that China will become still more of a cashless society, and WeChat Pay and Alipay will remain important players in the digital payment space.
Second, we look at online lending in the fintech space. Fintech firms (such as banks) cannot offer interest on sovereign digital currency deposits, and it seems unlikely that they would lend directly in cash, although customers may be able to withdraw/convert funds to sovereign digital currency (cash). This is not particularly necessary for most daily transactions, however, since China already has the financial infrastructure in place to accept electronic bank payments without the intermediary step of converting to digital cash. Even the payment of micro business wages can be carried out digitally. Conversion of lent funds into cash might have occurred for purchasing goods or services on the black market, but due to the traceability of the digital currency, customers are unlikely to engage in this activity.
Third, additional cross-border fintech applications or new functionality on existing applications may arise to allow the sovereign digital currency to be more easily used in cross-border payments. One of the biggest issues that cross-border financial firms face in general is the need for regulatory compliance, and it is likely that sovereign digital currency cross-border transactions will come with additional regulation to ensure the proper transfer or exchange of the currency. In addition, if the sovereign digital currency is internationally transferrable, the Chinese fintech application must ensure that the foreign receiver can accept and appropriately redesignate ownership of the digital currency.
Fourth, use of fintech is likely to rise with the launch of the sovereign digital currency, since individuals without a bank account will be able to access the digital currency and therefore be poised to use other fintech products. The unbanked will be able to use the digital currency to make payments, and their digital currency wallets will be able to receive funds, bringing those individuals into the greater fintech environment.
Fintech firms will need to ensure that there are no security gaps in their interaction with sovereign digital currency wallets or in the use of the digital currency itself. It is likely that additional regulations will be implemented to ensure that use of the sovereign digital currency remains secure when handled by third-party applications. Guo Shuqing, chairman of the China Banking and Insurance Regulatory Commission, has stated more generally that network and data security are essential. We can expect additional rules in the near future.
In sum, China’s sovereign digital currency is likely to have a mainly positive impact on the fintech sector by increasing the use of digital payments, boosting cross-border payment applications, and expanding access to fintech by the unbanked. The direct impact of the digital currency on online lending will probably be mainly neutral. Over time, transferability of the digital currency between interest-bearing and non-interest bearing accounts will become clearer. Use of the sovereign digital currency will create complementarities between China’s highly digitized fintech sector and the monetary system.