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DIGITAL ECONOMY & TECHNOLOGY

Nigeria’s Digital Currency: What the eNaira is for and Why it’s not Perfect

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4 years ago

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By Iwa Salami

Nigeria recently became the first African country to introduce a digital currency. It joins the Bahamas and the Eastern Caribbean Central Bank in being among the first jurisdictions in the world to roll out national digital currencies. The Conversation Africa’s Wale Fatade asks Iwa Salami what a digital currency is and whether Nigeria can achieve its aims of introducing the currency.

What is a digital currency and how does it work?

A digital currency is a means of payment or money that exists in a purely electronic form. Central bank digital currencies are issued and regulated by the nation’s monetary authority, or central bank, and backed by the government. They are different from existing electronic central bank money, which is provided by central banks but can only be used by banks and selected financial institutions. When financial institutions pay each other, they pay in reserves from accounts held with a central bank.

Before central bank digital currencies, the only way consumers could use money that is a direct liability of a central bank was with physical cash. Existing digital retail payment from customer deposits accounts in banks are based on money that is the liability of the institution providing the account, not a central bank. A central bank digital currency is a direct liability on the central bank and is available to all households and businesses giving them access to electronic central bank money.  It can be transferred or exchanged using technologies such as blockchain. Blockchain is a system of storing records of transactions across a network of computers.

Nigeria’s digital currency will be the digital form of the Naira and will be used just like cash.

A central bank digital currency is not a cryptocurrency. Cryptocurrencies, such as Bitcoin, are not currencies in most countries since they are not a generally accepted form of payment. Although they are still widely referred to as cryptocurrencies, they are best described as digital assets, or crypto-assets.

The Bahamas, Saint Lucia, Grenada, Antigua and Barbuda are among the seven countries that have launched central bank digital currencies.

Why has Nigeria launched a digital currency?

The Central Bank has given several reasons for launching the eNaira. It is to:

  • promote and facilitate financial inclusion
  • enable direct welfare disbursements to citizens
  • facilitate diaspora remittances
  • reduce the cost of processing cash
  • improve the availability and usability of Central Bank money
  • increase revenue and tax collection
  • support a resilient payment system
  • improve the efficiency of cross-border payments.

The introduction of the eNaira will enable peer-to-peer payments, cutting out ‘middle men’ or the use of intermediaries, such as financial institutions.

What are the risks and how can they be mitigated?

One is its potential to disrupt existing banking systems. This could occur if citizens decide to hold digital currency instead of keeping their physical Naira in a bank account. This would mean that banks would not have money to grant loans and other financial products. It could result in banks raising their interest rates as an incentive for customers to keep deposits within the banks. But then interest charged on loans would also go up to cover interest on savings.

However, since the eNaira is non-interest bearing and the Central Bank can place transaction and balance limits on certain eNaira wallets, this risk is minimized.

The second risk is operational. For example, if IT systems were to fail or if there were technological glitches, or cyber-attacks. These can compromise user privacy. The Central Bank will need robust technology and IT security systems.

Closely linked is reputational risk to the Central Bank if the operational risks materialise. They are likely to have a huge impact on its credibility and reputation both domestically and globally.

When the Central Bank takes on this new function – issuing the eNaira and maintaining a central ledger of all transactions – it might find it harder to perform its key function of ensuring a safe and sound financial system since its focus could be diverted towards managing the eNaira system in addition to carrying out its other functions in the domestic economy.

A possible way to lighten this burden is through creating synthetic central bank digital currencies. This idea was put forward in 2019 in an International Monetary Fund paper. In such a system, the central bank does not directly manage the system, but outsources tasks to private institutions. Financial institutions issue the digital currency, which is fully backed by central bank money.

Closely linked is the risk of the system being used to launder money and finance terrorism. Financial institutions would need strong systems for combating these threats, supported by national legal infrastructure.

Another risk is around data protection and privacy. The Central Bank claims that the:

eNaira system is built with deep considerations around privacy and data protection and in compliance with the National Data Protection Regulations.

However, as the system is designed in line with the guidelines to prevent the illicit flow and use of funds which require identifying transacting parties and the details of their transactions, proper systems need to be in place to ensure that the privacy rights of users of the eNaira system are not violated.

There’s also a need to educate people about the eNaira. Although the central bank says there are ‘campaigns to deepen the understanding of eNaira amongst the population’ it is unclear what this entails. Citizens need to know the difference between the digital representation of cash deposits in bank accounts and the eNaira in digital wallets.

Is Nigeria ready for it? If not, how can the gaps be addressed?

Nigeria could certainly pull this off, provided the technology infrastructure and the technological know-how are in place. It is stated that the eNaira shall be administered by the central bank through the Digital Currency Management System to mint and issue eNaira but it appears this system has been built by Bitt, a global financial technology company. It provides digital currency and stablecoin solutions to central banks, financial institutions and ecosystem participants worldwide. As such, the maintenance of the eNaira system would very much depend on the technological strength of this company and the extent to which they are retained to provide a maintenance framework for the system.

Another issue is the electricity crisis and lack of widespread access to the internet across the country. These should be immediate priorities for the Central Bank, and the government, to resolve for the eNaira system to be successful. It is good to see that there’s a plan for the system to be usable while offline.

Another challenge that the poor may have in accessing the eNaira system is the difficulty of attaining digital identity. The eNaira design plans to use the existing Bank Verification Number and National Identity Number regime. Getting the documents needed for these is expensive and cumbersome.

As Nigeria has the largest population on the continent, spearheading this process could signal the start of a regional monetary integration. If central bank digital currency arrangements could work together across the continent it could solve the challenge of the inconvertibility of African currencies. This could help intraregional trade, which has been challenging to achieve in Africa. With the African Continental Free Trade agreement now operational, the successful launch of the eNaira might be a step towards regional monetary integration in Africa and potentially a regional central bank digital currency.

Iwa Salami is a Reader (Associate Professor) in Law, University of East London

Courtesy: The Conversation


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DIGITAL ECONOMY & TECHNOLOGY

The Digital Currency that could Upend how the Gulf Trades

Published

9 months ago

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September 29, 2024

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By Shruthi Nair

Project mBridge – a China-led central bank digital currency initiative, which the UAE and Saudi Arabia are part of – could have “broad strategic implications” for regional trade, according to market analysts.

A CBDC is a digital form of a country’s fiat currency, which is backed by a government. It eliminates the need for intermediaries like banks, or even other currencies such as the US dollar, to facilitate real-time, peer-to-peer, cross-border payments.

“When we look at international trade, not much has changed over the decades. It is a primitive method in the digital age,” Arun Leslie John, chief market analyst at Century Financial, said.

China’s global digital yuan transactions amounted to 7 trillion yuan ($986 billion) in the first six months of this year. The UAE’s inaugural cross-border payment utilising the digital dirham amounted to AED50 million ($13.6 million).

Considering the UAE and China are major trading partners with the total volume of bilateral trade between the two countries reaching $95 billion last year, project mBridge would significantly reduce and replace the use of dollars in this case.  However, analysts believe that it might be too early to conclude whether CBDCs could result in global de-dollarisation.

“Dollar is the choice of transaction for global trade. The US has the deepest capital, debt and equity market. Many countries around the world would want to diversify away from the dollar but they aren’t able to do so,” John said.

While Europe does not have deep debt markets, the Chinese government has capital controls over the yuan. So the only remaining choice is the dollar.

Countries such as Russia and Iran that are facing sanctions stand to be beneficiaries of CBDCs and initiatives like mBridge too. While the Russian central bank announced plans to launch its CBDC next year, the central bank of Iran said that its digital rial will be used for retail transactions, including purchasing goods and services.

“In the current international payment structure, countries can arbitrarily kick out one country from the system. This reduces strategic autonomy and political power of other countries involved,” John said.

To find out how CBDC’s work and its retail use cases, click to watch the video above


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DIGITAL ECONOMY & TECHNOLOGY

How Blockchain can Enhance Islamic Finance by Overcoming Barriers

Published

9 months ago

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September 16, 2024

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By Aamer Yaqub

Blockchain technology is making waves in the financial sector with its promise of transparency and immutability. These features align closely with the principles of Shariah law, which governs Islamic finance, creating significant opportunities for blockchain to overcome barriers and unlock growth. The Islamic finance sector is projected to reach approximately $6.7 trillion in assets by 2027, as noted in LSEG’s Islamic Finance Development Report. In this evolving landscape, blockchain technology is emerging as a crucial tool for addressing the unique challenges faced by Islamic finance.

Islamic finance operates under Shariah law, which prohibits practices such as interest (Riba), excessive uncertainty (Gharar), and speculative transactions (Maysir). Blockchain technology’s core attributes—transparency and decentralization—are well-suited to address these constraints. Blockchain can effectively enhance compliance with Shariah principles by providing a tamper-proof ledger and facilitating decentralized transactions. Its ability to create a permanent, verifiable record of transactions aligns well with the Islamic finance requirement for clarity and accountability.

According to Moody’s, innovations like smart contracts are poised to improve Islamic finance transactions significantly. Smart contracts are self-executing contracts with terms written directly into code. They automatically enforce Shariah-compliant rules, reducing human error and enhancing transparency. These advancements support real-time settlements, which align with Islamic finance principles of fairness and clarity. By using blockchain to overcome barriers related to transparency and automation, financial processes can become more efficient and compliant with Shariah.

Enhancing Transparency and Efficiency

One of the most significant ways blockchain can overcome barriers in Islamic finance is through its ability to enhance transparency. The immutable nature of blockchain ensures that every transaction is recorded in a tamper-proof ledger, providing a clear and verifiable record of all financial activities. This transparency is crucial for maintaining compliance with Shariah principles, which demand a high level of clarity and accountability in financial transactions.

Blockchain technology facilitates smart contracts that automate the execution of Shariah-compliant financial agreements. This not only streamlines processes but also reduces the need for intermediaries, lowering transaction costs and increasing the speed and accuracy of financial transactions. By addressing long-standing challenges in Islamic finance, blockchain technology is helping to create a more efficient and reliable financial system.

Modernizing Charitable Giving

Blockchain technology also holds promise for modernizing Zakat, the obligatory charitable giving in Islam. Traditionally, the collection and distribution of Zakat have faced challenges related to efficiency and transparency. Blockchain can address these issues by providing a more transparent and efficient platform for managing charitable contributions.

With blockchain, Zakat collection and distribution can be streamlined, ensuring accurate tracking of funds and effective distribution to eligible recipients. This technology allows donors to see exactly how their contributions are used, enhancing trust and accountability. Additionally, blockchain can facilitate the creation of smart contracts to automate the distribution of Zakat, ensuring compliance with Shariah guidelines and reaching those in need more efficiently.

Addressing Challenges and Compatibility Issues

Despite its potential, the integration of blockchain into Islamic finance comes with its own set of challenges. The compatibility of digital assets, including cryptocurrencies and tokenized assets, with Shariah principles, is a topic of ongoing debate. Concerns about speculation and anonymity associated with these assets pose significant challenges, as they contrast with the Islamic finance emphasis on transparency, accountability, and ethical conduct.

Digital assets, particularly unbacked cryptocurrencies, have sparked discussions about their suitability for Islamic finance. The potential for speculation and the lack of intrinsic value associated with some digital assets diverge from Islamic finance principles that prioritize stability and ethical behavior. As a result, Shariah scholars and financial institutions are actively evaluating the compatibility of these assets with Islamic financial principles.

A promising alternative is Central Bank Digital Currencies (CBDCs), which align with Shariah principles by emphasizing transparency, fairness, and social welfare. CBDCs offer a way to digitize national currencies, providing a more efficient and accessible payment system while maintaining compliance with Islamic financial principles. This approach could address some of the concerns associated with speculative digital assets and provide a stable alternative for Islamic finance.

Islamic Finance Innovation in the UAE

The UAE serves as a notable example of how blockchain can be integrated into Islamic finance effectively. With a well-regulated Islamic finance sector, the UAE is at the forefront of digital assets innovation. The country’s regulatory framework for digital assets is overseen by key federal bodies, including the Securities and Commodities Authority (SCA) and the UAE Central Bank. While the SCA focuses on securities-related matters, the Central Bank regulates digital currencies and stored value.

The UAE also has three additional jurisdictions for digital assets regulation: the Dubai International Financial Center (DIFC), regulated by the Dubai Financial Services Authority (DFSA); the Abu Dhabi Global Market (ADGM), regulated by the Financial Services Regulatory Authority (FSRA); and the Virtual Assets Regulatory Authority (VARA). Each jurisdiction approaches digital assets regulation with a unique focus, contributing to the dynamic regulatory landscape in the UAE.

The UAE’s proactive stance on digital assets regulation and innovation underscores its commitment to leveraging blockchain technology to enhance its Islamic finance sector. The country’s regulatory framework continues to evolve, aligning with international trends and addressing emerging challenges.

Strategic Integration and Collaboration

For Islamic finance institutions to fully capitalize on blockchain technology, comprehensive adoption strategies are essential. These strategies should include technology integration, Shariah compliance, regulatory adherence, risk management, and customer education. Collaboration with Shariah scholars and experts will be vital to ensure that blockchain initiatives and digital asset offerings align with Islamic ethical and legal principles.

Many Islamic banks and financial institutions are exploring blockchain technology to streamline their operations. However, they face challenges related to regulatory compliance and interoperability with existing legacy systems. To overcome these obstacles, institutions are seeking solutions to integrate blockchain effectively while ensuring alignment with regulatory requirements and Shariah principles.

In conclusion, blockchain technology holds significant promise for overcoming barriers and unlocking growth in Islamic finance. By enhancing transparency, efficiency, and compliance with Shariah principles, blockchain can address the unique challenges of Islamic finance. As the technology continues to evolve, its integration into Islamic financial practices will likely become increasingly sophisticated, driving further innovation and growth in the sector. The potential of blockchain to transform Islamic finance underscores the need for ongoing collaboration, research, and strategic planning to fully realize its benefits.


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DIGITAL ECONOMY & TECHNOLOGY

How Blockchain Can Enhance Islamic Finance by Overcoming Barriers

Published

10 months ago

on

August 14, 2024

By

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Blockchain technology is making waves in the financial sector with its promise of transparency and immutability. These features align closely with the principles of Shariah law, which governs Islamic finance, creating significant opportunities for blockchain to overcome barriers and unlock growth. The Islamic finance sector is projected to reach approximately $6.7 trillion in assets by 2027, as noted in LSEG’s Islamic Finance Development Report. In this evolving landscape, blockchain technology is emerging as a crucial tool for addressing the unique challenges faced by Islamic finance.

Islamic finance operates under Shariah law, which prohibits practices such as interest (Riba), excessive uncertainty (Gharar), and speculative transactions (Maysir). Blockchain technology’s core attributes—transparency and decentralization—are well-suited to address these constraints. Blockchain can effectively enhance compliance with Shariah principles by providing a tamper-proof ledger and facilitating decentralized transactions. Its ability to create a permanent, verifiable record of transactions aligns well with the Islamic finance requirement for clarity and accountability.

According to Moody’s, innovations like smart contracts are poised to improve Islamic finance transactions significantly. Smart contracts are self-executing contracts with terms written directly into code. They automatically enforce Shariah-compliant rules, reducing human error and enhancing transparency. These advancements support real-time settlements, which align with Islamic finance principles of fairness and clarity. By using blockchain to overcome barriers related to transparency and automation, financial processes can become more efficient and compliant with Shariah.

Enhancing Transparency and Efficiency

One of the most significant ways blockchain can overcome barriers in Islamic finance is through its ability to enhance transparency. The immutable nature of blockchain ensures that every transaction is recorded in a tamper-proof ledger, providing a clear and verifiable record of all financial activities. This transparency is crucial for maintaining compliance with Shariah principles, which demand a high level of clarity and accountability in financial transactions.

Blockchain technology facilitates smart contracts that automate the execution of Shariah-compliant financial agreements. This not only streamlines processes but also reduces the need for intermediaries, lowering transaction costs and increasing the speed and accuracy of financial transactions. By addressing long-standing challenges in Islamic finance, blockchain technology is helping to create a more efficient and reliable financial system.

Modernizing Charitable Giving

Blockchain technology also holds promise for modernizing Zakat, the obligatory charitable giving in Islam. Traditionally, the collection and distribution of Zakat have faced challenges related to efficiency and transparency. Blockchain can address these issues by providing a more transparent and efficient platform for managing charitable contributions.

With blockchain, Zakat collection and distribution can be streamlined, ensuring accurate tracking of funds and effective distribution to eligible recipients. This technology allows donors to see exactly how their contributions are used, enhancing trust and accountability. Additionally, blockchain can facilitate the creation of smart contracts to automate the distribution of Zakat, ensuring compliance with Shariah guidelines and reaching those in need more efficiently.

Addressing Challenges and Compatibility Issues

Despite its potential, the integration of blockchain into Islamic finance comes with its own set of challenges. The compatibility of digital assets, including cryptocurrencies and tokenized assets, with Shariah principles, is a topic of ongoing debate. Concerns about speculation and anonymity associated with these assets pose significant challenges, as they contrast with the Islamic finance emphasis on transparency, accountability, and ethical conduct.

Digital assets, particularly unbacked cryptocurrencies, have sparked discussions about their suitability for Islamic finance. The potential for speculation and the lack of intrinsic value associated with some digital assets diverge from Islamic finance principles that prioritize stability and ethical behavior. As a result, Shariah scholars and financial institutions are actively evaluating the compatibility of these assets with Islamic financial principles.

A promising alternative is Central Bank Digital Currencies (CBDCs), which align with Shariah principles by emphasizing transparency, fairness, and social welfare. CBDCs offer a way to digitize national currencies, providing a more efficient and accessible payment system while maintaining compliance with Islamic financial principles. This approach could address some of the concerns associated with speculative digital assets and provide a stable alternative for Islamic finance.

Islamic Finance Innovation in the UAE

The UAE serves as a notable example of how blockchain can be integrated into Islamic finance effectively. With a well-regulated Islamic finance sector, the UAE is at the forefront of digital assets innovation. The country’s regulatory framework for digital assets is overseen by key federal bodies, including the Securities and Commodities Authority (SCA) and the UAE Central Bank. While the SCA focuses on securities-related matters, the Central Bank regulates digital currencies and stored value.

The UAE also has three additional jurisdictions for digital assets regulation: the Dubai International Financial Center (DIFC), regulated by the Dubai Financial Services Authority (DFSA); the Abu Dhabi Global Market (ADGM), regulated by the Financial Services Regulatory Authority (FSRA); and the Virtual Assets Regulatory Authority (VARA). Each jurisdiction approaches digital assets regulation with a unique focus, contributing to the dynamic regulatory landscape in the UAE.

The UAE’s proactive stance on digital assets regulation and innovation underscores its commitment to leveraging blockchain technology to enhance its Islamic finance sector. The country’s regulatory framework continues to evolve, aligning with international trends and addressing emerging challenges.

Strategic Integration and Collaboration

For Islamic finance institutions to fully capitalize on blockchain technology, comprehensive adoption strategies are essential. These strategies should include technology integration, Shariah compliance, regulatory adherence, risk management, and customer education. Collaboration with Shariah scholars and experts will be vital to ensure that blockchain initiatives and digital asset offerings align with Islamic ethical and legal principles.

Many Islamic banks and financial institutions are exploring blockchain technology to streamline their operations. However, they face challenges related to regulatory compliance and interoperability with existing legacy systems. To overcome these obstacles, institutions are seeking solutions to integrate blockchain effectively while ensuring alignment with regulatory requirements and Shariah principles.

In conclusion, blockchain technology holds significant promise for overcoming barriers and unlocking growth in Islamic finance. By enhancing transparency, efficiency, and compliance with Shariah principles, blockchain can address the unique challenges of Islamic finance. As the technology continues to evolve, its integration into Islamic financial practices will likely become increasingly sophisticated, driving further innovation and growth in the sector. The potential of blockchain to transform Islamic finance underscores the need for ongoing collaboration, research, and strategic planning to fully realize its benefits.


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