Central Bank Digital Currency with Asymmetric Privacy
47 Pages Posted: 10 Mar 2021
Date Written: February 11, 2021
There are increasingly many digital alternatives to physical cash as basic means of payment, many of these offered by non-financial private sector actors. While such a trend towards a cashless society brings the convenience of digital payments to users and can encourage innovation in financial contracts, there are also increasing concerns about users' privacy as well as the regulators' ability to ensure compliance with anti-money laundering prevention and other regulations. As a result, Central Banks, who are responsible for overseeing prominent payment systems to ensure that they are safe, available to everyone and efficient, have become increasingly interested in a central bank digital currency (CBDC) design and potential implementation.
In this paper we analyze the economic rationale for, and the technical feasibility of, a new form of CBDC. The key feature of our proposed Privacy-Hybrid CBDC is intentional asymmetric privacy between the receiver and the sender of money. We show that protecting the privacy of consumer spending is necessary to avoid distortions between producers and consumers. Furthermore, we model the demand of money and show that privacy protection is necessary for a classical money demand function in a framework where interest bearing financial assets can be used as means of payments. We also analyze how adoption incentives and the frequency of transactions depend on income and other factors. At the same time, limiting the privacy of money received enables compliance with tax and anti-money laundering regulations, and can enable new value adding services by financial institutions and technology firms.
To achieve asymmetric privacy, we propose a CBDC system architecture that relies on a central registry of ID-linked accounts to ensure compliance and the use of zero-knowledge proofs to mint private tokens to achieve privacy. The system ensures that private tokens cannot be exchanged between users in a trust-less manner and that private tokens can only be used to send digital cash to the holder of an ID-linked account.This paper discusses how this system could be implemented with today's technology to support a throughput in excess of 2,000 transactions per second.
Keywords: blockchain, central bank digital currency, money demand, privacy, proof-of-authority, regulatory compliance, zero-knowledge proofs
JEL Classification: C70, D18, D83, E41, E42, E58, G21, G23, L86
Suggested Citation: Suggested Citation