The Digital Euro project: how will it impact the current financial system?

The current monetary system in Europe

The types of money in the current monetary system include cash, bank money, and central bank reserves. Cash is the basis of the existing monetary system, which can only be printed by central banks.

It is believed that paper money first appeared in China in the VIII-IX centuries, in Europe they became widespread much more later. Paper money, although it does not have its own (internal) value, according to the laws of the countries, represents a certain face value printed on the paper.

Considering that now most currencies (including the euro, dollar and others) are not backed by gold, issuing money is a big responsibility. Money issue is a procedure that regulates the circulation of the money supply, a certain number of bills, coins and non–cash money. It is not just printing money–the issue involves the release of money into circulation in the volumes that the economy needs.

The euro is the official currency of a number of European countries and the second most important currency in the world after the dollar. Interesting fact - initially, the euro was virtual. Launched on January 1, 1999, at first, the currency was used only for accounting and electronic payments purposes. The first euro coins and banknotes were issued on January 1, 2002, which makes this currency the youngest in the world. The EU countries participated in the largest cash exchange in history that has ever taken place.

The ECB and the central banks of the euro area countries are legally entitled to issue euro banknotes. The European Central Bank (ECB) is the central bank of the eurozone. It is a key part of the European System of Central Banks (ESCB), which aims to coordinate the monetary policy of the EU member states. More than 340 million people live in the eurozone and therefore use this currency on a daily basis. In addition, 60 countries and territories representing 175 million people have directly or indirectly linked their currencies to the euro.

Countries using the Euro

Euro is the official currency of the 20 countries of the "euro zone", which, among others, includes the largest world economies: France, Germany, Greece, Spain, Italy, Austria, Belgium, Ireland, Cyprus, Latvia, Lithuania, the Netherlands, Portugal, Luxembourg, Malta, Slovakia, Slovenia, Finland, Estonia, Croatia.

In addition, the euro is used in a number of other countries, for example, in Kosovo and Montenegro. However, unlike the eurozone members, they do not have the right to influence the monetary policy pursued by the European Central Bank and cannot send their representatives to its governing bodies.

As already mentioned, the euro is managed by the European System of Central Banks (ESCB), headed by the European Central Bank, located in Germany in Frankfurt am Main. The ESCB also includes all the central banks of the EU countries, regardless of whether they have adopted the euro as their national currency or not.

The idea of a Digital Euro

The introduction of the euro twenty years ago has had a noticeable impact on European financial markets, changing the image of economic interactions and trade relations within the continent.

Now, two decades later, the entire European Union faces a new challenge and opportunity - the development and implementation of a digital version of the euro. This innovation is a response to the rapidly changing digital landscape of the global economy and involves significant changes in approaches to financial transactions, payment systems, and monetary policy.

The number of electronic payments has increased dramatically over the past ten years. That's why the ECB and other central banks have been exploring the prospects of money, which exists only in electronic form, or the Digital Euro.

The Digital Euro is an innovative concept, the development of which began in response to the rapid development of the digital economy and the emergence of cryptocurrencies. The main idea of the Digital Euro is to offer an alternative to traditional money and respond to the changing needs in the digital economy, while ensuring the security and stability characteristic of the state currency. The Digital Euro will be accessible to all citizens and businesses, providing the convenience of electronic payments, but without the risks associated with private digital currencies.

The development of the Digital Euro provides for the solution of several key tasks: ensuring the confidentiality of transactions, guaranteeing security, protecting against fraud and cyber-attacks, as well as maintaining compliance with regulatory standards and norms. The European Central Bank and the national central banks of the euro zone are working closely together to develop a Digital Euro to meet all these requirements.

This project also embodies the European Union's commitment to innovation in the financial sector, allowing it to maintain its leadership position in the context of globalization and digitalization of the financial world. The implementation of the Digital Euro project will require significant technical innovations and extensive discussion with the participation of the public, business and regulators to ensure its effective implementation and wide recognition in the market.

What is the Digital Euro and how will the new currency work?

The development and implementation of national digital currencies has become an absolute trend in recent years. The pioneer in this sector was China, which launched a pilot issue of the digital yuan in October 2020. The US Federal Reserve is exploring the possibilities of launching a digital dollar. A CBDC, known as a "digital dollar," is a proposed form of electronic currency that could be used to buy or sell almost any goods and services in the US, much like a regular dollar is used today. Nigeria also has launched a digital currency, the eNaira.

The "boom" in digital money is certainly associated with the active spread of cryptocurrencies such as Bitcoin and Ethereum. Being an anonymous payment instrument, they complicate the work of state financial regulators, since unscrupulous citizens can launder criminal proceeds with their help. In addition, Bitcoin and other private cryptocurrencies are much more volatile than their traditional counterparts. For example, even Elon Musk's tweets can affect the Bitcoin exchange rate. At the same time, from a technical point of view, cryptocurrencies are an interesting and innovative tool.

The Digital Euro is a digital version of the European currency that is under development. The payment method has already changed, and therefore the introduction of the Digital Euro is inevitable. This is an initiative aimed at creating a digital version of the physical euro, which is an electronic form of currency that will be used in parallel with traditional banknotes and coins. Other private electronic means of payment also will continue to exist.

Such a euro will become a digital means of payment with which consumers will pay online and in real life, both with legal entities and individuals.

As a first step, users will most likely need to create a digital wallet. Digital Euro wallet will have a limit of €3,000. It will be possible to transfer money from a linked bank account to it or deposit cash. Every time a user receives money in Digital Euros, they will be able to store it in this wallet up to the set limit or transfer it to their bank account.

The ECB is already doing preparatory work to issue a Digital Euro if deemed necessary. But first, such a release must become legally possible. A special package by the European Commission will establish and regulate the use of the digital equivalent of the euro.

What are the advantages of the blockchain-based Digital Euro?

Blockchain-based digital euro technology can theoretically provide an unlimited number of simultaneously processed payments with a large amount of money. The introduction of blockchain not only simplifies and speeds up many processes, but can also bring significant profits by reducing labor costs and automation.

The blockchain stands at the head of the entire digital economy. The development of this technology is becoming a priority. Read more about what is Blockchain in our article here.

As you know, blockchain is a system for storing and transmitting various data – about the ownership of valuables or assets, about the conclusion of a contract and its execution, about the receipt of payments for goods and services. At the same time, each block (or computer) acts as an equal participant in the system, stores its copy of the data and ensures their immutability until certain conditions occur. The blocks also store an "audit trail" – all changes that occurred to the data at different times. The main difference between decentralized systems is the absence of a main device, which significantly reduces the risk of collapse of the entire chain from external influence on the center and makes the system more stable.

In other words, the blockchain is similar to a chain of safes, each of which stores, for example, a copy of an agreement or a package of securities. And each safe has not only its own combination lock, but is also connected to the others using cryptography – data encryption methods.

And in order to put or take something out of this safe, it is not enough to know only its code - you need to open all these safes at the same time and put identical duplicate documents in each. Both your safe and the other safes in this chain will record the date and time of action. Remember exactly what you put there and check whether all copies match. This level of protection practically eliminates any manipulation and distortion of data.

The Digital Euro offers its potential users the myriad advantages, including:

The launch of the Digital Euro will avoid dependence on digital payment systems that are controlled outside the Eurozone (namely, Visa and Mastercard) and "may undermine its financial stability and sovereignty."
Experts from the ECB and central banks of the Eurozone member states have established a number of requirements for digital currency, which include accessibility, reliability, security, efficiency and confidentiality. Data will be stored centrally in an existing financial system on servers of a third party, such as a (central) bank.
The digital infrastructure of Digital euro will be environmentally friendly: according to preliminary estimates, the power used to perform tens of thousands of transactions per second is negligible compared to the energy consumption of crypto assets such as Bitcoin.
European institutions and citizens, as well as the payment industry, will be actively involved in the creation of the Digital Euro.
Programmability and automation of money. Smart contracts and peer-to-peer (micro) payments can be implemented in euros and do not require the use of volatile and/or uncontrolled crypto assets.
Resistance to manipulation. Since transactions are stored on multiple computers, it is impossible to falsify or change transaction data later.

When will the Digital Euro be launched?

At the moment, the exact launch date of the Digital Euro has not been set. Despite the lack of specifics, active discussions about the project indicate its importance to the current president of the ECB, Christine Lagarde. There are suggestions that she may seek to advance the project as much as possible before the end of her presidential term in October 2027. However, given the technical complexity and the need for coordination with banking institutions, it is difficult to predict the exact timing.

Will the Digital Euro be free?

The ECB claims that the use of the Digital Euro for EU citizens will be free. However, this raises questions about the financing of the entire digital currency system, including the necessary infrastructure and physical cards.

According to the responses of the bank's representatives, the ECB will limit its role to the distribution of physical cards through payment institutions, as well as settlements and compensation. The development of a technological component, such as mobile applications, will fall on the shoulders of the financial sector, including banks and payment institutions. The details, however, have yet to be clarified.

How will the Digital Euro be used?

The ECB is mainly focused on how the Digital Euro will be used in retail. It is expected that banking institutions that will support the operation of the Digital Euro will be able to charge transaction fees. This is the intended source of income for the financial sector. An important question remains how to motivate banks and payment systems to promote the use of a digital wallet to the detriment of existing, widespread means of payment.

Plans of the European Central Bank

The European Central Bank is working to create a system that will allow hundreds of millions of EU citizens to use digital currency in the same way as cash. It includes storing funds in a secure digital form that can be used for everyday payments.

The €3,000 limit for each citizen is not a final decision, and it may change in the course of further research and analysis. ECB economists have assessed the possibility of converting a large volume of deposits in banks into a digital format.

Based on estimates, the introduction of a Digital Euro in the range of one to one and a half trillion euros should not lead to the destabilization of the financial system. At the same time, if we consider that every European will be able to store a limited amount of funds in digital euros and not withdraw it, then the introduction of a limit of €3,000-€4,000 euros per person can help ensure balance and stability.

ECB shares details on protection and privacy

CBDC is short for Central Bank Digital Currency — it's an electronic form of central bank money that citizens can use to make digital payments and store value. Since the regulator began developing the central bank's digital currency (CBDC) project, it has faced a negative reaction from the community. CBDC opponents believe that the Digital Euro will allow government organizations to collect data on citizens.

In January 2024, the ECB published a draft budget of €1.2 billion for tenders for the development of the Digital Euro. Subsequently, the regulator suspended it until Parliament passes the relevant law.

In October 2023, the central bank of Finland supported the transition to a Digital Euro. Later, the Spanish regulator joined him.

To increase security, the ECB intends to register everyone who plans to work with the Digital Euro. A specific payment service provider, not the system, will be able to identify an individual.

ECB President Christine Lagarde is confident that the central bank's progress in the field of the Digital Euro will strengthen the strategic autonomy of the European Union and support its competitiveness in the digital world.

The risks and dangers of the Digital Euro from the ECB

The introduction of the Digital Euro will not only significantly change the monetary system but also endanger financial privacy and, consequently, people's freedom. Socialist China is doing it, Sweden is doing it, and many other countries want it too: issuing digital money from Central banks.

The European Central Bank (ECB) is also working in this direction and wants to launch the Digital Euro as soon as possible. Many economists praise this project as an "innovation", an important and necessary step in an increasingly digital world. The ECB is conducting an advertising campaign stating that the Digital Euro will be accessible to everyone, reliable, safe, effective and compatible with current legislation. But it should be clear to everyone that the release of the Digital Euro is another step towards a police state.

The Digital Euro from the ECB will not be the best money compared to the euro, which is already in circulation. The planned Digital Euro is an analogue of paper money, which is already used in the Eurozone, and the Central Bank has a monopoly on their production. The volume of the Digital Euro can be increased at any time, as it has no real coverage and is also at risk of 100% devaluation.

A Digital Euro can be built "on the basis of an account": you keep it as a deposit in an account with the ECB. Or it could be a "token": money users receive a "token" that can be transferred from smartphone to smartphone through the app. To hope for the "anonymity" of payment transactions in both cases would be an illusion.

The ECB says the Digital Euro is an "addition" to cash and bank accounts. But that doesn't sound convincing. Those who pay in cash obviously find it convenient and want to ensure anonymity. Otherwise, you will have to pay from the balance of your current bank account, credit or debit card. Besides, people keep cash not only for payments. They also protect their savings from bank failures. With cash, you can remain independent and always have liquidity at hand in case of a cataclysm or an Internet outage.

It seems that the ECB is more concerned about withdrawing cash from circulation. When only electronic payments remain, then you can forget about financial confidentiality. Citizens will be transparent, and the state will take control of everyone. Once cash is completely withdrawn from circulation, then an unlimited policy of negative interest rates can be implemented to devalue debt. Thus, the bank's customers will no longer have the opportunity to close their deposit and withdraw into cash.

The Digital Euro is unlikely to be popular among the population with free choice. The state will complicate the use of cash. For example, the ATM withdrawal fee will increase and the upper limit of a one-time withdrawal will be lowered.

Cash and credit balances in euros should be exchanged for Digital Euros in a ratio of 1:1. However, this means that the ECB de facto "insures" all obligations of Eurobanks: the ECB transfers its guaranteed creditworthiness to commercial banks in the Eurozone. The Digital Euro cannot completely devalue, since the ECB is a monopoly on the production of euros. The ECB cannot go bankrupt, but it can create new euros at any time to repay its payment obligations, regardless of the amount.

When exchanging currencies 1:1, there is no fear that in the event of bankruptcy of a commercial bank, the deposit will be lost. With the circulation of the Digital Euro, the probability of the collapse of the European banking system is almost zero.

Conclusion

In conclusion, although the Digital Euro is still under development, its potential and impact on the European financial system are undeniable. The Digital Euro is getting closer and closer. The Eurosystem is working on the introduction of the Digital Euro to offer consumers an additional payment option on a par with cash. Free use for citizens promises ease of access, but questions about financing the entire infrastructure remain open.

The Digital Euro is a key element on the way to innovative, instant, and trouble―free retail payments. Like cash, the Digital Euro will be risk-free, easy to use, free, and available even offline, which will fully protect the privacy of users and their personal data. The choice of payment method ― in cash, cashless or Digital Euros ― will remain with consumers. The Eurosystem strives to ensure a smooth and understandable payment process, so it will be possible to use the Digital Euro in cases where Internet connection is limited or even unavailable.

Given the growing demand for digital currency, the desire of different countries to create a national currency in this format is very justified. But time will tell how feasible this idea is in the conditions of uneven digitalization of different countries and regions.