CBDC – How KYC & AML compliances can mitigate the risks

Discussing on the subject of KYC and AML compliance and how it helps keeps risk under control, here is how the new CBDC establishment is to benefit. CBDC’s primary purpose is to provide privacy, transferability, ease, and financial security to individuals and businesses. They also help reduce the expenses of maintaining a complicated financial system, reduce transaction costs, and provide cost-effective money transfer methods.

Ever since the Indian Union Budget of Financial Year 2022-23 announced the establishment of CBDC (Central Bank Digital Currency). The Finance Bill has also made the requisite changes to the RBI Act of 1934. Moreover, the RBI also announced the adoption of a phased approach to CBDC with the development of Proof of Concept, pilots, and the final launch stage. It is planned that the RBI will issue a digital rupee in 2022-23 based on blockchain and other technologies.

What is CBDC?

A CDBC is a digital form of fiat currency issued by the Central Bank of the country. They do not anonymize transactions the way that cryptocurrencies do. In CBDCs, all transactions and balances are recorded digitally and stored with separate financial entities with the Central Bank’s supervision from the top. In this, CBDCs are virtual legal currencies regulated by the Central Bank of the country.

They also facilitate financial inclusion and permit effective implementation of monetary and fiscal policy. CBDCs are also considered legal tender by governments.

CBDC implementation by various governments

• A 7 member working group from Canada, the UK, Sweden, Switzerland, Japan, and the EU are working together to explore the cross-border interoperability of their national CDBC projects.
• The Central banks of Thailand, China, the U.A.E, and Hong Kong established a multi- CDBC initiative called mBridge to speed up cross-border foreign currency payments.
• China has a two-tier distribution model where commercial banks will be involved as key intermediaries in its CDBC setup. Commercial banks act as the intermediate tier between the Central Bank and the retail participants.
• India and Russia have been working on the pilot CBDC system.
• Indonesia’s Central Bank has also said that they will launch their own CBDC in 2022 and are working on the same mechanics. It views this as a primary method to fight the spreading use of cryptocurrency among Indonesian citizens.

CBDC’s impact on banking and financial institutions

The transition to CBDC is necessary from the view of the Central banks of most countries to prevent domination by e-money issuers on a majority of payments. This inhibits the use of the tools of Monetary Policy and its Enforcement.

With CBDCs, the Central banks will be in complete control of the decentralized payment system. They would establish a fixed exchange rate between the digital and fiat currencies.

But the conversion of existing non-cash assets into digital currency would result in an outflow from the traditional banking systems. This would lead to increased competition among conventional banks to retain deposits and raise interest rates.

CBDCs run on blockchain technology so that all counterfeit notes will go out of circulation. The blockchain ledger will be closely controlled and monitored by the Central Bank and its authorized third-party services. If a two-tier model is used in the design of CBDCs, this would ensure a pivotal role for the commercial banks and prevent their disintermediation.

The Central bank would open digital wallets for the commercial banks and supply them with digital currency. The Commercial banks, in turn, would open digital wallets for their customers. The accounts will be linked to the holder’s identities to prevent money laundering. Payment services will be linked to these services. Whether CBDC will pay interest on the holders’ accounts is another consideration.

CBDC and AML/CFT risk

Fraud and AML procedures will be determined by the ultimate model of the CBDC adopted by each Central Bank. The same AML/CFT obligations will apply to the Central banks to cash or fiat currencies. These risks could be higher with introducing a digital currency because of its portability.

KYC or Know Your Client refers to verifying the information about the customer is legitimate and evaluating the risks of doing business with them. AML policy refers to installing safeguards to prevent money laundering and terrorist financing.

Commercial banks could have a competitive advantage in future-proofing their user onboarding flow by adopting an identity verification process which is quick, accurate and seamless. By carrying out digital AML procedures they can protect their reputation and enhance the trust of their users in the banking system.

KYC – A Tool to mitigate risk.

Having a proper Fraud/AML procedure is essential and can be done by linking AML/KYC procedures to creating digital wallets at a retail level. If a two-tier system of CBDCs is envisaged, commercial banks could take over the AML/KYC verification process as they do in traditional banking.

Creating a digital identifier for individuals and corporations that encrypts all the personal identification details will enable these banks to complete the verification.

The unique identifier could be linked to the digital wallet of each customer. It can be used to improve risk management and enforce robust KYC.

How IDcentral helps an organization with AML & KYC Verifications

IDcentral,  provides a robust onboarding process which facilitates a seamless onboarding experience for the clients and protects the banking system from fraud and money laundering. IDcentral helps organizations onboard good customers faster and meet regulatory compliance including KYC & AML. IDcentral’s solutions are used by leading companies in the financial services, sharing economy, digital currency, retail, travel, and online gaming sectors.

• Document verification
• Liveness Detection
• AML/CFT Screening
• Face Trace
• Face Match
• Government DB Check
• Video KYC

Conclusion

CBDCs provide benefits to households, businesses, and the overall economy. It complements the current forms of money and the method of providing financial services, protect both consumer privacy and guard against criminal activity. CBDCs are a reality that is here to stay. Countries may go through experimenting until they can get their respective CBDCs right. It is the only way to protect against cryptocurrency transactions and offer their substitute.

Try IDcentral’s AML and KYC compliance solution.

Request a call