Financial market participants are exploring new technical solutions for trading and settlement. Asset tokenisation – the creation of blockchain-based representations of financial assets – is a leading contender in forming the plumbing of a new ecosystem. However, more work is needed to understand the implications of this and what changes to infrastructure would be required.
It remains to be seen how the cash leg of securities transactions will be settled. At OMFIF’s 2023 Digital Monetary Institute symposium, an audience poll revealed a preference for such transactions to be conducted in central bank digital currencies instead (Figure 1).
Figure 1. Clear preference for CBDC over stablecoins and tokenised commercial bank money
Audience members prefer financial market transactions to be conducted in:
Source: OMFIF analysis
Pilot programmes on asset tokenisation and wholesale CBDC found potential benefits to their use, including instant and atomic settlements, 24/7 availability and enhanced liquidity and transparency. Most of the initiatives in this area have been based on one of two cash settlement approaches. In the first, the central bank issues tokens on a distributed ledger and market participants use them to settle securities transactions. In the second, assets are transferred on distributed ledgers, but the cash leg takes place on traditional payment rails – typically a real-time gross settlement system.
In either case, regulation on the legal status of tokenised assets and CBDCs is necessary. CBDCs would need to be designed in such a way that they are considered legal tender. For now, agreeing on legal concepts is a step towards guaranteeing safe cash settlements.
At the symposium, a panel of experts discussed the new plumbing of asset tokenisation and wholesale CBDC in capital markets. It was agreed that aligning definitions and regulations is a crucial facet of guaranteeing the safety of cash settlements. Claudine Hurman, director of infrastructures, innovation and payments at Banque de France, said that the ‘most prominent thing to retain is financial stability and settlement safety’. Solutions will only work if they are accepted by the market and seen as safe.
While the efficiency of cash settlements has many positive implications for financial transactions, such as enhancing liquidity, the transition will be gradual. Benjamin Müller, adviser for banking operations at Swiss National Bank, believes it will be ‘quite a while before you can harness the efficiency gains of the [distributed ledger] technology’. It might be unrealistic for banks to migrate en masse to blockchain and DLT. Instead, central banks may have to run both the existing system and the new DLT-based system in parallel.
An adaptive approach necessary for interoperability
The panellists emphasised the importance of an adaptive approach to cash settlement, but they agreed that, not only should the infrastructure be secure and widely adopted by the market, but central banks should retain control of the money.
As tokenisation projects advance, central banks and their partners are building their understanding of the technology, risks and legal concepts. This provides clear parameters for systems integration, the process of which Amar Amlani, head of Europe, Middle East and Africa digital assets at Goldman Sachs, regarded as ‘a huge problem’. The right solution for cash settlement may not be known but ‘the ability to keep options open is key to avoid another walled garden’, he said, even if this slows progress.
Blockchain-based transaction networks, which typically offer asset issuers enhanced transparency, will offer them a complete view of who holds their assets, improving liquidity and helping to prevent financial crime.
However, panellists raised the need to strike the right balance between transparency and privacy. Making all transactions and holdings public might be detrimental since this information can often be market sensitive. Hurman said that achieving the desired level of privacy is possible, as DLT systems can be designed to accommodate different preferences. Finding balance is feasible if these considerations can be met.
Katerina Liu is Research Analyst at OMFIF.