Digitalization of money

World central banks are thinking about issuing their own digital currencies.

The classic rule “You can’t win, lead” worked perfectly. Central banks around the world, wary of the emergence of cryptocurrencies such as bitcoin, are now preparing … to issue their own “digital money”. This does not mean, of course, that they have changed their anger with mercy towards the “crypt”, but the usual sphere of monetary circulation seems to change quite strongly soon.

Evolution of currencies

The history of money is much shorter than even the history of the state. Various archaeological finds indicate that money as an independent tool appeared no more than three and a half thousand years ago. And they grew not at all from the needs of barter trade, but from the desire of states to more accurately take into account the payment of taxes. That is, initially money had a liability nature, and not a commodity one. Their arrival in trade operations between people happened after the state took over the minting of coins.

Since then, much water has flowed under the bridge, but the main functions of money – to serve as a means of payment, to be a measure of value, to act as an intermediary in payment, and to be used as an instrument of accumulation – have changed little. In contrast to the forms of existence of money, which gradually transformed from standard goods to coins, then to banknotes, and then to non-cash entries on accounts. And this is far from the limit of evolution. But first, one more important point.

What makes money actually money – that which performs the functions listed above? It is not at all their provision with gold or other goods, not the order of the state to accept metal circles or paper strips for payment and settlements, and even more so not the conspiracy of the “financial mafia” that imposed its rules on the rest of the world.

All money is based in one way or another on trust in its issuer and in its purchasing power. On the confidence that any coin or banknote with the same denomination can be freely exchanged tomorrow, and in a year, and in the future for plus or minus the same amount of goods – with a reasonable adjustment for inflation. But hyperinflation, in fact, destroys money, as it was, for example, in Russia in the early 1990s, when sellers of expensive goods were more willing to take dollars than rubles.

Bitcoin Revolution

Confidence in money, among other things, means that their issuer does not have to be only the state or the central bank. There may well be private money. The most famous example is the US dollar. Its issuer, the US Federal Reserve System, is a kind of joint-stock company whose capital is owned by private individuals (mainly the banks participating in the system). A little less known is that the British pound is issued not only by the Bank of England, but also by seven private commercial banks (three in Scotland and four in Northern Ireland).

In the early 1970s, the possibility and even the necessity of private money were justified by Ben Klein, a professor of economics at the University of California, and, in more detail, by Austrian School economist Friedrich von Hayek. But for more than 30 years, their work remained the subject of theoretical discussions, until in 2008 a file appeared on the site bitcoin.org describing the protocol and the principle of operation of the payment system in the form of a peer-to-peer network, and in January 2009 the first transfer of bitcoins took place according to these rules.

As a result, 40 years of collective work of cryptographers around the world led to the creation of the first cryptocurrency, which had neither a single issuer, nor a centralized data warehouse, nor any information that would allow to calculate the participants in the transaction from the outside – only rules that make it possible to 100% verify the authenticity of both the token and the transaction. And after the first purchase of real goods for bitcoins took place in 2010, “crypto money” was definitely born.

To date, it is not known exactly how many cryptocurrencies there are in the world: the account went to thousands. Market capitalization has exceeded half a trillion dollars. And national regulators could no longer ignore the new phenomenon.

The “counter-revolution” of central banks

Initially, the central banks were wary of the “crypt” as a competitor. They either tried to ban it, then limit its turnover and tax it. But then, having looked closely, the monetary authorities realized that this is a very convenient form of money for them. Mainly because of control.

Interestingly, the evolution of money followed the path of deanonymization of the owners and their operations. Yes, the transfer of cash from hand to hand is almost impossible to track. But already payment by bank bill or check is quite enough. Like a payment from a checking account. Individuals began to use blind trusts and offshore jurisdictions to maintain anonymity, but states launched a real war on this.

And the digital money emitted by the Central Bank, if they replace all other forms of money, will finally finish off privacy. After all, the very technology of blockchain-based currencies implies the ability to track the entire chain of transitions, from “emission” (mining) to the final electronic wallet. Yes, it is difficult to connect the latter with the real owner until he goes into money. But if all the ends of this chain are under the control of central banks, the task will be greatly simplified. Moreover, bank secrecy has become a fiction in the 21st century (read about this in the article “Tax Holidays for Bank Secrecy”).

On the other hand, central bank digital money, CBDCs, combining the convenience of cash and non-cash, provides new opportunities for end owners. For example, if banknotes and coins can be lost, and the Internet is needed for non-cash payments, then the digital tokens of the Central Bank are devoid of the risks of the first option and the restrictions of the second. Even if you manage to “steal” them, it will be relatively easy to trace the illegal transition, and returning it to the owner is also not difficult.

In addition, CBDCs provide high speed and ease of settlement, reduce transaction costs for all participants, and also form independence from financial intermediaries – banks and fintech companies. These advantages will probably reconcile the bulk of the population with the deanonymization of settlements. Moreover, most citizens have nothing to hide.

At the same time, digital currencies of the Central Bank will require significant investments in the payment infrastructure. Costs there can amount to hundreds of billions of dollars a year, and the high cost of the project is a significant deterrent.

And not the only one. The introduction of CBDC will increase competition both among banks and in the entire financial sector, which in the future may trigger mergers and acquisitions that will lead to market monopolization. Also, the Central Bank and banks will have to create new mechanisms for managing liquidity, interest rates, reserve ratios, etc.

Finally, the issue of the impact of digital currencies on financial stability requires a separate study. As a result, although over 50 central banks have announced their interest in implementing a CBDC in recent years, more than 90% of them are still conducting research. So far, two pilot projects are known – from the People’s Bank of China and from the Riksbank of Sweden.

About what is happening in this direction in Russia, read the following article.