The emergence of digital currencies marks a transformative era in foreign direct investment (FDI). Their impact transcends the mere evolution of currency; they are key architects of a new financial paradigm, and present unique legal challenges and opportunities.

Key to this transformation is the distinction between cryptocurrencies, such as bitcoin, and central bank digital currencies (CBDCs), which are issued by state authorities. The former operate independently of central banks, offering potentially high returns at the cost of greater volatility. While cryptocurrencies have opened new investment avenues as an asset class, CBDCs redefine the mechanics of FDI. They ease capital investment transfer and managing daily financial operations, making transactions more efficient and cost-effective for firms operating abroad. 

CBDCs offer a regulated and stable digital currency model that aligns with traditional financial systems and regulatory frameworks. This stability and state backing make them influential in FDI as they assure investors of consistent value and legal recognition. CBDCs break down traditional barriers to FDI by side-stepping financial intermediaries’ complexities and enabling swift and cost-effective international transactions. They offer a streamlined alternative to often intricate and costly foreign exchange processes, potentially democratising access to FDI opportunities.

However, the lack of a unified regulatory framework for digital currencies creates uncertainty about the implications of CBDC use within FDI. This poses a challenge for monitoring and regulating cross-border transactions, but also an opportunity to modernise regulatory frameworks for the digital age, potentially enhancing the transparency and security of FDI processes. 

Some jurisdictions have started taking steps in this regard. The digital euro pilot project set in motion by the European Central Bank (ECB) in 2023 directly influences investment dynamics, operational expenditure and the overall attractiveness of the eurozone for FDI. Moreover, the pilot could set a precedent and prompt other major economies to explore similar ventures. Such a trend could help synchronise global FDI practices, harmonise regulatory standards and bolster investment security.

The digital euro pilot also serves as a testing ground for addressing pivotal issues in digital currency applications that are significant for the economy, such as cyber security. The initiative is not merely a regional experiment, but a step towards a more integrated, more efficient global financial ecosystem, poised to redefine the contours of international investment.

Examining other CBDCs reveals diversity in approach and execution. China’s digital yuan trials epitomised a state-centric model, emphasising control and oversight. By contrast, India’s digital currency pilot adopts a seemingly more open and inclusive framework. These divergent paths highlight critical considerations for investor confidence and regulatory compliance. The stability and predictability of digital currency policies become crucial determinants of investment attractiveness and compliance.

The swift evolution of digital currencies demands agility in legal frameworks. Global regulatory bodies must establish common standards that maximise digital currencies’ benefits, while mitigating risks such as fraud and volatility. International transaction supervision and anti-money laundering protocols specific to digital currencies should be spearheaded by a consortium of authorities, such as the IMF, World Bank and Financial Action Task Force. A global forum that includes a wide array of stakeholders, from financial regulators to fintech, is essential for continuous regulatory dialogue and adaptation. A concerted effort to develop a robust, dynamic and forward-looking regulatory framework for digital currencies will be instrumental for FDI by ensuring equitable investment opportunities, while safeguarding investor interests and the integrity of the global financial system.

Julien Chaisse is professor of law at City University of Hong Kong and president of the Asia-Pacific FDI Network.

X: @jchaisse

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This article first appeared in the December 2023/January 2024 print edition of fDi Intelligence