In only a couple of years or so, central banks worldwide will start issuing digital currencies that we will carry in digital wallets on our mobile phones. Tangible paper and metal currencies will disappear. But whatever shape and form money comes in, it still needs to serve as a unit of account, a store of value, and a medium of exchange. If it loses any of these functions, people will lose their faith in it and look for an alternative. In his recently published book Value(s): Building a Better World for All, former governor of the Bank of England Mark Carney cites the US economist Hymen Minsky as saying that "everyone can create money; the problem is to get it accepted." In the world of money and finance, trust is something that takes years to build, seconds to destroy, and ages to regain, if it can be regained at all. The 2008 global financial crisis severely shook people's confidence in global financial institutions. Many resorted to alternatives, which have since proven to carry great risks as well as considerable costs. Financial transactions between the banks and people's mobile wallets can cost anywhere as much as two per cent per transaction. Such fees can come to many times this amount when it comes to international transactions and transfers. The aim of reducing the costs of cross-border transfers to three per cent is still out of reach, despite the recommendations of various international organisations. The innovations of the digital age and the development of blockchain technology places us before three alternatives that will most likely have a major impact on the evolution of currency as we know it today: cryptocurrencies, stablecoins, and central bank digital currencies.
Cryptocurrencies: Despite the rising values of Bitcoin and other cryptocurrencies, these encrypted assets are extremely volatile and risky, depriving them of one of the crucial functions of money as a store of value. It also complicates their use as a unit of account, unless they are pegged to standard currency units, such as the dollar. As cryptocurrencies are not pegged to an external standard, there are doubts about their use as a medium of exchange. This is why I do not believe that El Salvador's adoption of Bitcoin as legal tender is a token of success. The Latin American country of El Salvador completely dollarised its economy 20 years ago when it ran out of ways to attain economic stability and halt the dwindling value of its own currency. The main purpose of dollarisation was to bring macroeconomic stability and reduce the costs of remittances from expatriates living abroad. The country's decision now to resort to Bitcoin is a sign of the international community's failure to meet the requirements of countries in El Salvador's position, a situation that underscores the need for the international community to reassess and reform the system. This does not mean that decentralised financial assets like Bitcoin will vanish, despite their high risks and uncertain returns in a speculative market. They have no inherent worth, and they are not backed by an asset that has a yield value, but they are good to trade in, as the CEO of the hedge fund the Man Group told the UK Financial Times recently. Precisely because of their large variations in value, cryptocurrencies offer funds of this sort — the Man Group manages a portfolio worth $127 billion — plenty of scope for speculation. Such funds have also found that speculation and trading in cryptocurrencies appeal to clients worried by inflation and alarmed by the specter that things might spiral out of the central banks' control as interest rates plummet. To me, such behaviour is akin to leaping from the frying pan into the fire. I believe that cryptocurrencies will soon be subject to more regulation and occasion more demands for oversight and disclosure, especially on the part of tax authorities, environmental organisations, and agencies involved in combatting money-laundering, hacking, online ransoms, and other forms of organised crime.
Stablecoins: These differ from cryptocurrencies in that their value is ostensibly pegged to that of more conventional assets or traditional currencies. The best known stablecoin is Tether. However, these currencies have also proved to be controversial and just as risky and opaque. The attorney-general of New York has found that Bitfinex, the company that operates Tether, has failed to declare its reserves correctly and has cautioned credit-ranking agencies against prematurely liquidating assets said to be backed by stablecoins. Another example of these so-called "stable" cryptocurrencies is Libra available from Facebook. In 2019, Facebook announced the launch of this currency, said to be backed by a basket of stable assets and international currencies, as well as the establishment of an association based in Switzerland to oversee it. Several major companies were named as members of this project, but they eventually withdrew. Among them were Visa, MasterCard and PayPal. Facebook then founded a new entity in California in order to launch another currency called the Diem after abandoning the name of a currency associated with the Roman emperor Caesar Augustus and failing to allay the concerns of the financial and legislative authorities in the US regarding the Libra.
Central bank digital currencies: Sovereign states cannot afford to relax their controls over payment systems, leaving them prey to high-tech companies, speculators and adventurers, or computer and digital networking wizards. . Whoever controls payments and financial transactions controls the capacities of the state and crucial fiscal functions. It is little wonder, therefore, that many of the world's central banks are conducting intensive studies and experiments with digital currencies, some using blockchain technology and encryption mechanisms already used in the private sector, and others using new systems built from the ground up. Already 14 countries, some of them members of the G20 group of nations, are conducting trials of digital currencies. The Bahamas is the first country to introduce a national digital currency in the shape of the sand dollar. China is at an advanced stage of the trials of its digital currency applications in several provinces, and it is said that it plans to introduce the digital yuan in time for the Winter Olympics in China in February 2022. According to the renowned economist Mohamed El-Erian, president of Queens College Cambridge in the UK, at a time when the West is stuck in the zero-sum mindset that cryptocurrency gains can only come from losses to the established financial system, "China is pressing ahead with a more forceful, unified top-down vision, setting the stage for transformational dynamics that have the potential to extend well beyond the country itself." But there remain many legitimate practical questions and concerns when it comes to issuing digital currencies. For example, as former International Monetary Fund (IMF) chief economist Ann Krueger asked, where will the people's digital currency accounts be kept? Would this be at the central bank? What about clients' privacy rights? How will the commercial banks fit into the system? How will the banks be able to make loans if they do not hold clients' deposits? In my opinion, the new system will stimulate much greater financial efficiency, lower transaction costs, and increase economic inclusion. It will also necessitate major changes in the financial sector's activities, operating systems, rules of competition and innovation. There will be a need to improve client services and how banks interact with customers. However, the greater changes will take place at the level of the international monetary system and the management of foreign-currency reserves. Digitising the currency will introduce new players onto the scene, and they will be the masters of operating currency technologies, big data systems, and artificial intelligence applications. Ultimately, the dollar, which governs 60 per cent of international transactions, the euro which controls 20 per cent, and other international currencies such as the yen, the UK pound, and the Swiss franc, will have to make way for the rise of the digital yuan if China decides to launch it internationally, capitalising on its status as the second-largest economy in the world, the first-largest trader, and the source of constantly growing investments abroad. Despite these many changes, there remains one permanent truth that applies to the pre- and the post-digital ages. International hard currencies, conventional or digital, are not for those who sit back on the laurels of soft power stemming from ancient glories. They belong to those with the strength and initiative to make progress.
*A version of this article appears in print in the 12 August, 2021 edition of Al-Ahram Weekly
