OPINION: How Might eNaira Impact The Banking Sector?

Professor Uche Uwaleke.

Come October 1, 2021 when the eNaira gets launched eventually by the Central Bank of Nigeria, it will represent a culmination of a journey begun in 2017 by the apex Bank when it commissioned a research into a digital currency system codenamed Project Giant. Now that Nigeria is set to join countries like Bahamas (Sand Dollar), China (e-CNY), Eastern Caribbean (DXCD) and Sweden (e-krona) all of which officially launched their own national digital currencies in 2020, how might the CBN’s digital currency impact the banking sector in Nigeria?

What is eNaira and how is it Expected to Function?

The eNaria is simply a digital version of Nigeria’s currency, the naira, which will be issued and backed by the Central Bank of Nigeria. It is therefore a legal tender just like physical cash issued by the CBN which can be used for all wholesale and retail transactions domestically. When it becomes available, users will be able to download e-wallets using a mobile phone where they can hold eNaira. According to the CBN, the ‘wholesale eNaria will be used to enable transactions between financial institutions, central banks and entities holding accounts with central banks while the retail eNaira will be used in the same manner as bank notes to make retail payments: P2P and B2P’. The eNaira platform will integrate with all banks via NIBSS and bank customers can easily fund their wallets using their existing accounts with the banks.

Expectedly, eNaira will substitute cash without altering the money in circulation and will be non-interest bearing. As disclosed in the CBN presentation to banks, deposits in banks can be converted into eNaira and its use will not be tied to the possession of a bank account as the minimum requirement under the Consumer Wallet Tier-1 structure is simply the possession of a telephone number.

Similar to the approach adopted by China and Bahama, the wallets are segregated into three tiers with limits to the amount of eNaira to be held. The lowest tier does not require strict Know-Your-Customer (KYC) and Anti-Money Laundering (AML) requirements while the other two tiers have a risk based approach to KYC. Commercial banks are expected to play a major role in distributing the eNaira to users.

What are the Likely Benefits of eNAIRA?

There are several reasons why eNaira would be beneficial to Nigeria. These benefits explain why the CBN is pushing for its launch relatively early. In the first instance, the whole idea of Project Giant would appear to be the creation a digital currency ecosystem to support digital payments which enhances the safety and efficiency of both wholesale and retail payment systems in the domestic economy. By so doing, it increases the avenues for bringing unbanked people into the financial system and enhances the informal sector’s access to a wide array of financial services.

On the part of the CBN, eNaira could lower the cost of issuing naira notes, as well as the cost of destroying unfit ones. The potential programmability and traceability of eNaira would enhance banking supervision as well as provide a new instrument to better control the money supply and enhance prudential regulation. These two features of eNaira could help combat money laundering and illicit financial flows. Also, transfer payments such as the monetary palliatives provided by governments to ease the negative impact of the Covid-19 pandemic would be made faster and easier as eNaira allows for direct deposits into e-wallets. Furthermore, it goes without saying that if successfully deployed, the eNaira could lower the hurdles in cross border transactions as well as facilitate remittances against the backdrop of the commencement of the African Continental Free Trade Area.

How Might the eNAIRA Impact the Banking Sector?

Deposit Money Banks are expected to play a major role in the implementation of the project. The CBN identifies their roles to include ‘marketing and promotion of the adoption of eNaira as a digital version of cash to existing and potential customers in support of financial inclusion objective of the CBN; facilitating user on-boarding and providing world-class customer support service that would catalyze the adoption of eNaira as well as uptaking and distributin eNaira to Nigerians a digital version of cash’. To this end, banks are expected to ‘implement necessary integrations for efficient distribution of eNaira through new and existing channels and ensure compliance to KYC and AML/CFT requirements for all users and transactions involving eNaira’.

What is more, according to an FAQ published by the CBN, Financial Institutions will play a critical role in validating their customers. It clearly indicates that for the Pilot phase, only Customers already validated, KYCed and assigned a code by the banks will be onboarded. It further clarifies that the speed wallet to be provided by the CBN is meant to serve as a stop gap for meeting the October 1 timeline. Banks and other innovators can provide their own wallets when ready.

In the light of these roles expected to be played by the banks, the CBN, in a recently published presentation to banks, lists the gains of eNaira implementation for Financial Institutions to include: ‘enhanced operational efficiency from lower cost of operations and reduced cost of cash management as well as improved visibility and insight of transaction data; innovation opportunities in the financial system and new business opportunities arising from emerging business models, financial products and services; potential increase in deposit/customer base due to improved financial inclusion; protecting regulated Financial Institutions from the risk of new forms of private money creation as well as more efficient complementary system to legacy payment system’. Indeed, as the case of China has shown, the central bank’s digital currency could throw up new business opportunities for banks which, for instance, could earn custody fees from customers for their digital wallets.

Nevertheless, the implementation of eNaira will come with a number of risks some of which have been articulated by the CBN. These include the risk of disruptive competition, the associated cost and risk of deploying/on-boarding a new payment platform as well as interoperability risk. The CBN expects to mitigate the risk of disruptive competition through effective regulatory framework and compliance mechanisms. The coexistence of traditional payment system and CBDC system is expected to take care of interoperability risk while associated payoff from efficiency of operations in the medium-to-long term would offset initial outlay on the deployment of a new payment platform.

Perhaps the greatest implication the eNaira implementation would have for banks is the risk of disintermediation – the possibility that eNaira might erode the role of Deposit Money Banks as financial intermediaries. Not a few players in the banking industry view eNaira as a disruptive force in the business of financial intermediation not least because the quantity of money that banks may use in the form of loans can be affected by the withdrawal of bank deposits. As customers convert their bank deposits into eNaira, banks will have a smaller base on which to create loans. For smaller banks in particular that may have to compete for deposits with bigger banks or seek other funding sources, this could increase their cost of funds. Arguably, the ease of converting bank deposits to eNaira could make DMBs less stable fuelling concerns that during a banking crisis, it could result in sudden and massive bank runs given that eNaira is a liability of the CBN and so may be seen by many a customer as a lower risk alternative relative to bank deposits.

To address the concern of possible disintermediation, the CBN is adopting a two-tiered set-up which involves DMBs in the distribution of eNaira. It has equally imposed a size limit on the daily cumulative eNaira holdings of N300,000, N500,000 and N5million for e-wallet Tier 1, Tier 2 and Tier 3 respectively. What this means is that the amount of eNaria in circulation will be managed and so its impact on the traditional banking system is expected to be marginal, at least in the near term. Moreover, unlike bank deposits, the eNaira is not interest-bearing. This makes it unattractive to park savings in comparison with interest-bearing commercial bank deposits. In short, as the CBN has made clear, the eNaira is not designed to compete with bank deposits.

Another area of concern is cyber security risk. On this score the CBN has provided assurance that the ‘eNaira system is well designed and integrated with one of the best fraud management system available today and will be treated as a National Critical Infrastructure’. Inevitably, the eNaira will result in much greater surveillance of the banking sector.

Closing thoughts on the eNaira

Without doubt, the rollout of eNaira will have far-reaching implications for the future of the banking sector in Nigeria. Whether these would be salutary or destabilizing will depend on how it is implemented. Expectedly, being among first-time movers of a technologically complex project such as a central bank digital currency is bound to create winners and losers and produce unintended consequences. The cheering news however is that the CBN appears to have devoted considerable time and resources to prevent undesirable outcomes especially in relation to the health of the Nigerian banking sector. In any case, that the CBN is testing eNaira through pilot projects is a demonstration of a cautious approach. All said, the launch of the CBN’s digital currency is an important milestone which holds a lot of promise for the financial system in Nigeria and the banking sector in particular.

Prof. Uche Uwaleke is the Chairman of the Chartered Institute of Bankers of Nigeria, Abuja Branch.

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