Central banks and cryptocurrencies

The news that the People Bank of China, the Chinese central bank, is seriously intent on issuing its own digital currency, called ‘digital yuan’, has provoked unprecedented international reactions. After years in which the central banks and the main international policy-makers, from the G20 to the International Monetary Fund, had always declared themselves completely hostile to cryptocurrencies, the announcement by Chinese premier Xi Jiping a few weeks ago, according to which China will aim on the blockchain technology and on the adoption of its own digital currency to achieve global primacy in this field marked a turning point. So much so that more or less well-founded news seem to confirm the interest of other central banks in issuing their own cryptocurrency. Also the ECB could be one of them.

Only fantasy? Maybe. The fact is that there is a very important underlying reason that would motivate central bankers to adopt a fiat-crypto, if one can use this term that apparently sounds like an oxymoron. As blockchain technology now seems to have passed efficiency and stability tests, central banks would be thinking of replacing traditional currency with digital currency, perfectly embracing the concept that “money is all that is commonly accepted as a means of payment”. A definition that the cryptocurrency fully embraces.

A digital cryptocurrency would have the added advantage of complete traceability of transactions. We only can imagine the advantages that could derive for a central bank from having all the information on payments of all users of such a currency. Furthermore, the move would serve to strike a blow to traditional cryptocurrencies, such as Bitcoin, Ripple, etc., in the hope that by legalizing a fiat-crypto issued by the central bank the interest and, above all, the competition of these currencies will be reduced.

Central banks seem therefore strongly intent on issuing their cryptocurrencies in the coming years, with the aim of competing against the digital currencies issued by the private sector, with the added advantage of having complete control of the information on the transactions that take place in that currency, which we have called “fiat-crypto”. Is a world where central banks replace fiat money with their own cryptocurrencies desirable?

The answer is yes if these currencies would ultimately compete with those in the private sector; it is no, on the other hand, if they have the intent to assume the monopoly and replace private competitors in every way. As Friederich von Hayek wrote in his famous book “The denationalization of money”, an optimal monetary system must be formed by coins issued by private institutions able to compete with each other, in order to remove the monopoly of issuing money held by the central banks.

In fact, the monopoly in issuing money is the true vulnus of a monetary system, not the type of currency (paper or digital) issued. By having the monopoly in issuing money, a central bank can influence the amount of money circulating in the economy and interest rates, the price of its currency and, consequently, exchange rates. This is something that the central bank could not do in a monetary system where currencies are issued by private institutions, and where the price would be decided by a typical market mechanism (law of supply and demand) instead of being imposed from above.

The Bitcoin revolution and the advent of other cryptocurrencies has granted the advantage of creating a completely decentralized and competitive mechanism between currencies, with all the advantages for consumers that a normal competitive mechanism entails. For this reason, the issuance of ever new digital currencies is always good news, while the willingness by central authorities to take the monopoly of the digital currency market is not.

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