Digital Renminbi Pilot Survey: Suzhou Tests Dual Offline Payment, Hong Kong Aims to Establish Cross-Border Payment Closed Loop

This article was published on 21st Century Business Herald by Chen Zhi.

As the central bank accelerates the pilot program for the legal digital renminbi (DCEP), more and more local governments are actively seeking to participate in the digital renminbi pilot.

On December 10, the "Suggestions of the Shanghai Municipal Committee of the Communist Party of China on Formulating the 14th Five-Year Plan for National Economic and Social Development and the Long-Term Goals for 2035" was officially released, which proposed to "actively strive for the pilot application of the digital renminbi."

Industry insiders believe that Shanghai's pilot application of the digital renminbi may not only focus on small retail scenarios but also involve trade settlement and payment fields.

Previously, the Digital Currency Research Institute of the People's Bank of China signed a strategic cooperation agreement with the People's Government of Changning District, Shanghai. The two parties will establish a Shanghai fintech company to gradually realize the implementation of a trade finance blockchain platform and a technology research and development center.

A day later, Suzhou held a launch ceremony for the pilot distribution of digital renminbi. The digital renminbi red envelopes distributed can be used for consumption at designated offline merchants in the Suzhou area through the "Digital Renminbi APP" or for online shopping through JD.com.

A bank IT department head familiar with the development of the digital renminbi stated that as the application scenarios for the central bank's legal digital renminbi continue to expand, currently, relevant banks need to address three major challenges: first, continuously improve the stability of the digital renminbi payment settlement system and the efficiency of transaction processing and clearing to meet the increasingly frequent digital renminbi transaction volume; second, effectively avoid moral risks such as double spending, where someone takes advantage of the digital renminbi not yet transferred to make a second purchase in a dual offline payment environment; third, given the lack of interest income from the digital renminbi, how relevant banks can cooperate with merchants to launch more affordable digital renminbi payment activities to attract more people to use the digital renminbi and enhance its popularity.

It is worth noting that the application of the central bank's legal digital renminbi is no longer limited to domestic regions.

At the beginning of December, Hong Kong Monetary Authority Chief Executive Eddie Yue stated that the HKMA is currently conducting technical tests with the Digital Currency Research Institute of the People's Bank of China on using the digital renminbi for cross-border payments and making corresponding technical preparations.

In his view, current cross-border payment issues include long processing times, high costs, and low transparency. The reasons for this include different operating time zones, varying implementations of international standards, and inconsistent technical standards for payment systems. However, this also provides greater development space for the digital renminbi to address these industry pain points.

"Of course, for the digital renminbi to become popular in the cross-border payment field, two major prerequisites are needed," said Li Lianxuan, chief researcher at OKLink Research Institute. First, China needs to sign currency swap agreements with other countries to open up channels for the exchange and two-way circulation of the digital renminbi abroad; second, a multi-layered operational system and settlement model involving the People's Bank of China, commercial banks, and overseas central banks must be established to ensure efficient and stable operation of digital renminbi transactions and settlements abroad.

First Test of Dual Offline Payment to Solve "Double Spending" Problem

On the evening of December 11, Suzhou held a launch ceremony for the pilot distribution of the digital renminbi.

Specifically, individuals who received the digital renminbi red envelope can use it for consumption at designated offline merchants in Suzhou through the "Digital Renminbi APP" or for online shopping through JD.com.

When recipients use the digital renminbi for payment, they will prioritize using the red envelope. If the amount is insufficient, they can recharge their wallet before making the payment or use a combination of other payment methods.

Industry insiders believe that compared to the public test of digital renminbi red envelope distribution completed in Shenzhen earlier, they are more focused on the dual offline payment and internet scenario online payment tests being conducted in Suzhou.

It is reported that this pilot will select up to 1,000 customers participating in the digital renminbi consumption red envelope lottery to participate in the offline wallet experience activity. Once the digital renminbi achieves dual offline payment functionality, it will undoubtedly eliminate barriers to receiving and transferring functions of the digital renminbi in a non-internet state, bringing it closer to "cash in circulation."

The aforementioned bank IT department head revealed that another important purpose of conducting the dual offline payment test is to solve the double spending problem of the digital renminbi in this scenario. During the internal testing phase, they found that due to the low efficiency of the digital renminbi system in transaction settlement, the digital renminbi in users' wallets was not "transferred" in time, allowing them to use the same digital renminbi for a second purchase, creating a moral hazard.

"We plan to introduce a recourse mechanism, meaning that if a user experiences double spending, the bank will seek to recover the relevant consumption amount from them. However, the bank's legal department believes this is quite cumbersome, requiring repeated communication with the user and collecting sufficient evidence, which would consume a lot of manpower and resources," he pointed out. Therefore, they conducted extensive system testing internally to ensure that the settlement processing efficiency of the digital renminbi in dual offline payment scenarios is significantly improved, minimizing the likelihood of double spending issues.

According to several bank personnel involved in the digital renminbi pilot, if the settlement processing efficiency of the digital renminbi in the dual offline payment field is further improved, its application scenarios are expected to extend to small trade and trade finance scenarios, as many small and micro enterprises have higher requirements for the timeliness of trade payment funds.

A head of a regional branch of a joint-stock bank in East China pointed out that to properly address the settlement reconciliation issues of the digital renminbi in trade scenarios, they have introduced a large amount of blockchain technology to ensure that the funds settlement of enterprises in the upstream and downstream trade chain "has records to rely on."

However, he found that currently, for the digital renminbi to become popular in trade settlement and supply chain finance fields, it needs to overcome two major bottlenecks: first, existing blockchain technology still cannot meet the high concurrency demands of fund payment and settlement business in the trade field; second, the digital renminbi does not generate interest income, leading some core enterprises in the supply chain to be reluctant to use the digital renminbi for trade payments, as this would sacrifice a considerable amount of interest returns.

"We are also thinking of ways to solve these bottlenecks," he pointed out. For example, the bank is drawing on certain technological concepts from the blockchain field, including asymmetric encryption, proof of work, timestamps, etc., combined with its own developed UTXO model, smart contracts, and other patents to meet the high concurrency demands of digital renminbi settlement business in the trade chain.

The Journey of Cross-Border Payment Scenario Applications

It is noteworthy that as the pilot program for the digital renminbi accelerates, its internationalization process is quietly taking shape.

"Last year, we collaborated with the Bank of Thailand to conduct research on using central bank digital currencies and blockchain platforms to solve various cross-border payment issues," Eddie Yue stated. Currently, the relevant joint research has entered its second phase, including exploring specific business application plans and the operational feasibility and extensibility of the platform (i.e., extending to three or more central bank digital currencies).

In Li Lianxuan's view, the prospects for cross-border payments using the digital renminbi are quite broad—many countries need to introduce digital currencies to effectively address issues such as limited circulation of their national currencies, reducing significant exchange rate fluctuations, and improving the tracking ability of currency flows. At the same time, they hope to enhance cross-border trade volume through the popularization of digital currency cross-border payments, creating more income for local farmers and small enterprises.

"However, the current internationalization of the digital renminbi also faces considerable challenges," he pointed out. First, China needs to sign currency swap agreements with these countries to create operational space for the exchange and two-way circulation of the digital renminbi; second, all parties need to build a multi-layered operational system and settlement model involving the People's Bank of China, global commercial banks, and overseas central banks to ensure the efficiency and stability of the digital renminbi's circulation and exchange abroad.

A source familiar with the research on cross-border payments using the digital renminbi pointed out that the cross-border payment of the digital renminbi may initially focus on small retail scenarios for mainland tourists during their stay in Hong Kong. After all, the use of the renminbi in Hong Kong is already quite widespread, with smooth channels for exchange and two-way circulation, and merchants are more willing to accept it, providing more diverse payment options for people from both regions.

"If the digital renminbi is effectively popularized in the Hong Kong-mainland trade scenario and even becomes a new choice for trade financing and settlement payments, relevant departments can then choose the right time to promote the related mature operational systems to other countries, gradually advancing the internationalization of the digital renminbi and its broader cross-border use." he pointed out.