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Distrust of cryptocurrencies by governments and banks is becoming normalized. As the saying goes, “if you can’t beat the enemy, join him,” the strategy with respect to digital money seems to be changing around the world.

There is an accelerating process of dematerialization of money and reinvention through digital currencies. Now central banks are moving forward with plans to create their own cryptocurrencies.

The coronavirus accelerated this process that had already begun with the extraordinary technological advancement of recent years. The world is marching toward a cashless economy. While benchmark currencies such as Bitcoin and Ethereum continue to gain traction and increase in value.

Now those responsible for charting monetary policy in countries got on the blockchain bandwagon. Just to make sure they are not left behind in this process initiated in 2008 by Satoshi Nakamoto, the pseudonym of the person or persons who developed Bitcoin.

decrease in cashWhat does it all mean?

The time is getting closer every day when central banks will make their own cryptocurrencies available to the public. People will receive salaries and payments in state-backed cryptocurrencies, which they will be able to spend as they see fit.

All it will take is a smartphone and internet access to do so. Before this happens, however, a power struggle will be staged around this form of money. Issues such as social equality, financial stability, and privacy will enter into this debate that is just beginning.

Senior fellow at Brookings Institution in Washington, David Dollar, warns that all this effort by governments is “defensive.” He believes central banks are just “trying to get back into the key position of controlling the currency and the money supply.”

Among the most enthusiastic about the creation of state-owned cryptocurrencies is China, whose plans aim to conquer the world, representing quite a challenge for the West. It is currently conducting tests to create a digital yuan. It has partnered with the global transaction system SWIFT to do so.

There has also been no shortage of crackdowns on very powerful payment services such as Jack Ma’s Alipay. The Chinese state does not want competitors that go against the grain with its own plans for economic and geopolitical dominance.

Central banks want to control digital currencies

In Europe and America, too, central bank officials are keeping a close eye on crypto-expansion. In other words, central banks and governments want to get their hands on digital currencies and monopolize them.

Because so far they have been out of their reach. Conventional money is created by the state and controlled by central banks and banking. Coining cryptocurrencies is also a dream that makes state bankers rub their hands together.

Digital currencies are something else, they don’t even represent debts like a credit card. It is “liquid” electronic money that will enter into competition with privately created money like Bitcoin.

It is money similar to banknotes and coins created by the state. Electronic cash can be saved and be available in electronic “wallets” or in an app, without financial intermediaries.

The fourth form of money is emerging

The deputy director of the Tax and Finance Law Unit of the International Monetary Fund, Wouter Bossu, explains it this way:

“If you look at the history of money, you had Phase One with the gold and silver coins of the Greek Islands, Phase Two was book money with the Amsterdam Exchange Bank, Phase Three was banknotes.”

The digital money created by the central bank will be a “fourth form of money in human civilization,” he says.

This type of digital currency would have a superlative difference from others such as Bitcoin or Ethereum. Private currencies are highly volatile, so they can hardly serve as a secure store of value.

Nor are they sufficiently accepted to be universal payment instruments. For now, they are more of a speculative asset. On the other hand, there are platforms like Alipay that serve as payment intermediaries, but they are not currencies in themselves.

A danger for the privacy of transactions?

The test scenario chosen in China for the digital yuan has been Shenzhen, a technological metropolis located in the south of the Asian giant. Its residents use this instrument regularly in stores such as Walmart and gas stations.

China’s central bank put the experimental currency, which can be used through a mobile app, into circulation last October. Users use it in the same way as they pay electronically in any other currency.

digital yuanHowever, one of the most acute problems that the creators of this system will face is its privacy. It is a payment method that leaves a trace, making it less private than cash and other digital payments.

This leaves the citizen uncovered to governments, which could more easily track the transactions they make. Either because of their legitimate need to detect illegal money movements (laundering, drug trafficking) or for simple state espionage.

In China, of course, the fear of citizens must be twofold, given its long history of controlling its population. But, even there, the authorities are concerned about privacy.

The People’s Bank of China has said that “controllable anonymity” could be allowed. Albeit only so that transactions between people would not be known to each other. However, if it would be for central bank officials.

The ECB and anonymity vouchers

Christine Lagarde
Christine Lagarde, president of the European Central Bank

Such a level of invasion of privacy would hardly be intolerable in the United States or Europe. This is an aspect currently under discussion at the European Central Bank. Its president, Christine Lagarde, has referred to the issue and said that the bank is exploring options of its own.

One of them is the possibility of creating “anonymity vouchers.” These financial instruments allow the user to privately transfer a certain amount of digital currency for a defined period of time.

Accessibility to the system is another issue under discussion, as it requires the person to have a smartphone and internet access. This leaves the poorest at a disadvantage to own and dispose of these assets.

IMF lawyer Catalina Margulis argues that it is essential that all people have access to digital technology. “If the state cannot guarantee universal access, fundamental questions about proportionality, fairness and financial inclusion would be raised if CBDC were to acquire legal tender status.”

A threat to traditional private banking

The other major dilemma is what banks will do. The banking system depends on its operation on the deposits of its customers. They need to work with other people’s money.

Before the emergence of financial mega-companies like PayPal or Alipay, banks reigned supreme. They were the only financial institutions that brokered everyday transactions. That too has changed forever.

Also, if central banks create their own digital currencies that they can distribute directly to the user they would not need to use private banking. This is another issue that generates a lot of nervousness among normal bankers.

In the euro area, for example, banks hold around €11.4 trillion ($13.8 trillion) in deposits from individuals and businesses. This figure is equivalent to one-third of their funding volume.

The mere fact that just a small part of this money is migrating into a central bank currency would make them tremble. A move of this magnitude would not only jeopardize the stability of private banking but would be the first trumpet to its demise. Their ability to lend would be reduced to a minimum.

For the director of the Bank for International Settlements’ innovation center in Basel and a former member of the ECB’s Executive Board, said Benoit Coeure, the challenge for private banking is enormous.

“If it provides easy access to central bank money, in an unrestricted and seamless way, that can have an adverse effect on bank deposits. If not mitigated in some way, it could permanently change the status of bank deposits as a source of funding for banks.”

Is digital currency more effective at boosting economies?

It is true that no central bank in Europe or America is thinking about helping to dig the grave of the financial system. Even if it is tempting to think of the power they could acquire by controlling payments and money. This is what leads the expert to believe that the adoption of digital currencies by central banks will be a slow process.

Central bankers are also aware of the limitations of conventional stimulus policy. Cutting interest rates is not a panacea for dealing with the current economic and financial problems. It was seen recently with the coronavirus crisis.

Instead, putting money directly into consumer accounts is much bolder, even if it carries risks. A more innovative and effective monetary policy is needed. The digital currency has the virtue of offering the ability to boost economies directly.

“Many central banks are quite uncomfortable talking about this because it suggests they are contemplating helicopter money,” says an economist at the French Institute for International and Strategic Affairs in Paris, Remi Bourgeot.

The central bank’s digital currencies can be made “programmable.” Which would give the issuer control over the use of money given in loans. Having a built-in expiration date can better project and secure the purpose of monetary policy.

Digital dollar understudy

For now, the discussion remains in the experimental phase. Last year the U.S. Federal Reserve revealed that there is a research project on a hypothetical digital dollar. This project is being worked on by a group at the Boston Fed in conjunction with the MIT Media Lab in Cambridge, Massachusetts.

Although Fed Chairman Jerome Powell has pointed out that it is more important to be right on the issue than to be first.

Nevertheless, the ground advanced by China on its digital yuan project has many central banks thinking. The expectation on the subject is growing by the day.  So much so that, according to a BIS survey published in January, issuing banks in a wide group of countries expect to have their own digital currency within the next three years.

“Central banks need to be prepared for how fast space is moving. They would be wise to be prepared even if they have no interest in launching a digital currency, or they may never launch,” said the director of the Digital Currency Initiative at the MIT Media Lab., Neha Narula.

Lenders look askance at triumphant Bitcoin

Wall StreetThe bitcoin, which in recent months soared after spending many months at record lows, is back on a roll. This week it reached a new record high after Tesla, the electric vehicle manufacturer, bought $1.5 billion of the cryptocurrency.

Bitcoin’s race to $50,000 is a done deal. The cryptocurrency was trading at the start of trading on Tuesday, February 9, at $48,216. Meanwhile, its rival Ethereum soared to a record price of $1,784.85.

However, by late afternoon that day in New York, the price of Bitcoin was at $ 47,289 and that of Ethereum at $ 1,765.27. Since the March 2020 lows, Bitcoin has climbed in value by 1,150%. Although lenders and Wall Street are still staying away from cryptocurrencies.

Both Bitcoin and Ether, are currencies currently available on the world’s major stock exchanges. But none of the six largest U.S. banks yet offer access to digital currencies to their customers.

Banks know the threat that cryptocurrencies pose to the financial system as we know it. They are a death decree for financial intermediation. But they will surely find a way to live with digital money.


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