Central Bank Digital Currencies and the e-HKD: Hong Kong's CBDC Framework and Legal Implications

Introduction to Central Bank Digital Currencies

Central bank digital currencies ("CBDCs") are digital forms of sovereign currency issued and backed by a central bank. Unlike decentralised cryptocurrencies such as Bitcoin or Ethereum, which operate outside the traditional financial system, CBDCs represent a liability of the central bank and carry the same legal status and credit standing as physical banknotes and commercial bank reserves.

CBDC development has become a priority for central banks and monetary authorities worldwide. More than 130 countries representing over 98% of global GDP are reportedly exploring CBDC initiatives, reflecting growing recognition that digital forms of sovereign money may be essential infrastructure for the next generation of financial systems.

Hong Kong, through the Hong Kong Monetary Authority ("HKMA"), has been a pioneer in CBDC research and pilot projects. This article examines the HKMA's CBDC programme, the design and legal considerations for the proposed e-HKD, and the implications for financial institutions, businesses, and the broader digital asset ecosystem in Hong Kong.

CBDC Design: Retail vs Wholesale

Wholesale CBDCs

Wholesale CBDCs are digital central bank money accessible exclusively to financial institutions (commercial banks, clearing houses, and other regulated entities) for interbank settlement, securities settlement, and cross-border payments. Wholesale CBDCs build on existing central bank reserve account infrastructure and are primarily designed to improve settlement efficiency, reduce counterparty risk, and enable programmable money applications in wholesale financial markets.

Retail CBDCs

Retail CBDCs are digital forms of central bank money accessible directly by individuals and businesses, functioning as a digital equivalent of cash. A retail CBDC would enable direct digital payments between end users without the intermediation of commercial banks, though most CBDC designs contemplate a two-tier distribution model in which commercial banks and payment service providers act as intermediaries for distribution and customer onboarding.

The HKMA's e-HKD Programme

Project e-HKD: Phase 1

The HKMA launched the e-HKD Pilot Programme in 2023 to explore the feasibility and potential use cases for a retail CBDC in Hong Kong. Phase 1 of the programme involved a series of industry pilots across six categories of use cases:

• Full-fledged payments
• Programmable payments
• Offline payments
• Tokenised deposits
• Settlement of Web3 transactions
• Settlement of tokenised assets

Participating institutions included leading banks, payment service providers, and technology companies. The pilots were designed to assess the technical feasibility of an e-HKD, test different distribution models, and gather evidence on the value proposition of each use case.

HKMA's Conclusions and Next Steps

The HKMA published its findings from Phase 1 in late 2023, noting promising results particularly in the areas of programmable payments and tokenised asset settlement. The HKMA has indicated that it will continue to develop the e-HKD framework in a phased manner, emphasising its complementary role alongside existing payment systems rather than as a replacement for cash or commercial bank deposits.

The HKMA has not yet committed to a timeline for full issuance of a retail e-HKD, reflecting the careful, evidence-based approach taken by most major central banks in this area. The design decision involves complex trade-offs between financial inclusion, monetary stability, privacy, and disintermediation risk.

Project mBridge: Wholesale Cross-Border CBDC

Overview of Project mBridge

Project mBridge is a multi-CBDC platform developed collaboratively by the HKMA, the Bank of Thailand, the Digital Currency Institute of the People's Bank of China, the Central Bank of the UAE, and the Bank for International Settlements ("BIS") Innovation Hub. Project mBridge aims to create a shared infrastructure for near-real-time, low-cost cross-border payments and foreign exchange settlements using wholesale CBDCs.

The platform is built on a purpose-built distributed ledger technology ("DLT") platform (the mBridge Ledger), enabling participating central banks to issue their respective CBDCs and enabling commercial banks to conduct cross-border transactions atomically (with simultaneous payment and settlement in both currencies), eliminating correspondent banking risks and delays.

Commercial and Legal Implications

Project mBridge has significant potential implications for cross-border trade finance, correspondent banking, and foreign exchange settlement between Hong Kong, mainland China, Thailand, and the UAE. If successfully scaled, the platform could reduce the costs and frictions associated with cross-border payments while providing central banks with greater visibility and control over international financial flows.

Legal questions arising from Project mBridge include the governing law and jurisdiction for disputes arising from mBridge transactions, the legal treatment of CBDC assets transferred on the platform, AML/CFT compliance obligations across multiple jurisdictions, and the privacy implications of central bank visibility into transaction data.

Legal Status of CBDCs under Hong Kong Law

Hong Kong law does not yet expressly address the legal status of CBDCs. However, the following legal principles are likely to apply:

• Legal tender: Physical Hong Kong banknotes issued by authorised note-issuing banks are legal tender under the Legal Tender Notes Issue Ordinance (Cap. 65). The legal tender status of a digital e-HKD would require legislative amendment to extend or replicate this recognition to digital form
• Property: A CBDC balance held in a digital wallet is likely to be characterised as a form of intangible personal property, analogous to a credit balance in a bank account. The legal implications for insolvency, pledge, and security interests would need to be carefully analysed
• Payments finality: The legal finality of CBDC-denominated payments — the point at which a payment is irrevocable — would need to be addressed in legislation or the CBDC system's rules
• Privacy: The collection and use of transaction data from retail CBDC payments would engage the Personal Data (Privacy) Ordinance (Cap. 486) and broader privacy rights. CBDC design decisions around anonymity and pseudonymity will have significant privacy implications

Programmable Money and Smart Contract Applications

One of the most widely discussed features of CBDCs is their potential for "programmability" — the ability to embed conditions or logic into CBDC transactions that are automatically executed by smart contracts. Potential applications include:

• Conditional government disbursements (e.g., welfare payments restricted to specified categories of expenditure)
• Trade finance: automatic payment upon presentation of verified shipping documents
• Tax collection: automatic withholding and remittance at the point of payment
• Loyalty and rewards programmes integrated with CBDC payments
• Atomic settlement of tokenised securities transactions against CBDC payment

Programmable CBDC features raise legal questions about the effectiveness and enforceability of smart contract conditions, the allocation of liability for errors or unexpected outcomes in automated execution, and the interface between automated execution and general contract law principles.

Implications for Financial Institutions and Businesses

The potential introduction of a retail e-HKD would have significant operational and strategic implications for Hong Kong's financial sector:

• Commercial banks: A retail CBDC accessible directly by consumers could reduce commercial bank deposit balances, affecting banks' funding base and lending capacity. Two-tier CBDC distribution models (where banks remain intermediaries) are designed to mitigate this disintermediation risk
• Payment service providers: CBDC-enabled payment infrastructure could reshape the competitive dynamics of Hong Kong's payment ecosystem, potentially enabling new entrants or reducing barriers to providing low-cost payment services
• Businesses: Merchants and businesses that accept CBDC payments will need to update payment infrastructure and accounting systems. Programmable CBDC features could create new opportunities for streamlined B2B settlement and supply chain finance
• Digital asset service providers: CBDC infrastructure could provide a reliable, regulated on/off ramp for digital asset transactions, facilitating atomic settlement of tokenised assets against e-HKD

How Alan Wong LLP Can Assist

Alan Wong LLP monitors developments in CBDC policy and regulation closely and advises financial institutions, fintech companies, and digital asset businesses on the legal implications of CBDC initiatives in Hong Kong and across Asia. Our services include regulatory analysis of CBDC-related business models, assessment of legal risks associated with CBDC adoption, legal structuring for CBDC-enabled products and services, and engagement with HKMA consultation processes.

As CBDC frameworks evolve from research and pilots to implementation, early legal preparation will be essential. Our team is positioned to help clients navigate the emerging legal landscape for digital sovereign currency.

Contact us to discuss CBDC-related legal or regulatory matters.