You may have heard of central banks digital currencies (CBDCs), and perhaps you have taken a look at their history and proposed future plans. To be honest, many people don’t care about it. It could be the boring acronym or it could just be another part of a failing system that doesn’t require long-term attention.
CBDCs
These are much more important than people think. They are the key to the “Great Reset” in the eyes of me and will impact nearly everyone on the planet in a multitude of ways.
There is a lot of information to cover, so I decided to make it an elevator pitch.
Devaluation
My biggest problem with money is its devaluation. Fiat currencies around the globe have lost most of their value quickly due to a combination of direct and indirect factors. This debasement will be accelerated by the recent trend of money printing. The wealth of the cantillionaires will continue to grow via hard assets, while the poor, who mainly hold cash, will become poorer.
The net result is that the global inequality rate increases. This leads to socioeconomic problems that then lead to many other problems. It sounds simple, but there are many more.
Globally, government bonds are yielding close at 0%. Over the past 30-40 year, there has been a trend towards zero and we have finally reached critical mass. This asset is essentially in demand because it has been subject to enforced regulations, while organic demand has declined – for obvious reasons. Governments have to pay off their debt, so they have started printing money in an endless fashion. This leads to inflation and debasement of their currencies via inflation.
Inflation
The government must keep inflation under control at a target of 2%. This is difficult when there is both pressure on the supply (money printing) as well as an imbalance on demand (consumption).
Governments must increase consumption, decrease the latency of money, and increase money velocity. They believe that this can be achieved by ensuring absolute control over the money. They believe that “programmable money” can help to control internal processes and improve the efficiency of international trade.
Finally, governments want a controlled system with a controlled instrument to do all the above. The most important aspect is that governments will likely adopt a phased approach to eventually control the population through money – we’ll discuss this later.
Okay, enough with the problems. Let’s now talk about central bank digital currency.
What are CBDCs?
CBDCs are instruments that are held by the central bank of a country, using its balance sheet as the primary account.
Okay, but why don’t they just do it now?
Yes and no. Yes and no. Currently, central banks create money and lend it to banks through repo rate. The banks then take over the flow of funds.This time, however, the central bank’s ledger will be debited and credited at the source regardless of what happens to CBDCs. This means that other parties, other than banks, can use the central bank’s liquidity and balance sheet.
How is this possible? This is possible because “programmable money” has global rules built into it, and can be used through predetermined frameworks. These are the three most popular models that have been proposed and launched worldwide. CBDCs are currently in China, and are being piloted in other countries, including South Africa, Ghana, Lebanon, South Africa, and the U.K.
What is the difference between digital currencies, the ZAR and USD?
It is programmable money.
Programmable Currency
These digital codes are digital packets that can be compiled into digital files. They have a set rules that can either be created by the creator or a distributor authorized to distribute them. Imagine a digital currency that is equal to one U.S. Dollar. This digital dollar could be:
- You can be tracked in every movement. The account that is credited adds this information to the digital currency, in perpetuity.
- You can stop, return to the source, return to the previous account, or even destroy the file at any time.
- A set of inherent rules are established at the source, such a one-year lifespan and a specific amount of depreciation per unit time.
- Only certain accounts can be credited, such as those with a social credit score > X.
Because they can be set by central banks or the government in fiscal or monetary policies, the rules are infinite.
What are the different models for CBDCs?
This diagram shows three models that combine what is most likely for many countries to roll out. While there will be some differences between countries, the three models should cover most bases.
Looking from left to right
Bank to central bank
This is when the central banks collaborates with commercial or private banks to distribute the currencies. This will likely be the initial phase of many rollouts that will fit into existing credit provision methods that won’t cause immediate disruption to economies.
Commercial banks are the main providers of interest-free credit in the current system. This is their main revenue source, but digital currencies, which are directly linked with the central bank’s balance sheet, may change this.
The intermediary banks could be the “front-end distribution tool” that is fully attached to the central banking’s backend: its liquidity and balance sheet, as well as its overall database.
These intermediary banks might only earn fees on distribution, while all interest paid by consumers goes straight into the central bank. The intermediary bank takes a cut.
Credit provision will be more efficient as credit is provided via one central source through a distributed network (intermediary banks).
This model is against the banks’ incentives and may be expanded in smaller increments.
Private Instittions
Private institutions can access central banks
These private institutions will be connected in a similar fashion to the central bank’s “backend” and will become distribution nodes for digital currencies.
If the latter wishes to work within this system, these intermediaries can also work with private banks in a competive manner.
This is because these intermediaries (e.g. fintechs) might create their own synthetic CBDC, which is fully backed by the central banks’ currency.
FinTech might have FinCoin that is 1-to-1 and backed by a CBDC. Similar to Tether (USDC), and other stablecoins that work on blockchains like Ethereum and Tron.
This incentive will be to settle directly with the central banks balance sheet on a periodic basis. Fintech should also adopt the parent rules of the programmable currency determined by the central banking. These funds must be tracked consistently across all accounts to the end users – regardless of what.
These FinCoins could be the same code as CBDCs with a different branding and marketing strategy.
These FinCoins may also be available with interesting premiums that can be paid to the central bank. The intermediary may pay a premium to the central bank if any fintech-determined rules are to be implemented on to their synthetic currency.
Consumers
Consumer to the central bank
This model is the most intriguing of all three, and will likely be used in most countries in some form or another. Simply put, you and me, the consumer, can have an app that is owned by the government or central bank on our phones that allows the central banks to distribute digital currencies directly to us.
This technology eliminates intermediaries and fixes latency issues. The central bank can distribute credit directly to consumers without any repo-related problems. This is due to the inability of central banks to raise national interest rates. Markets would likely collapse if central banks did not increase national interest rates right now.
What if the central banking could issue credit to Frank, a 60 year-old male with a strong credit record, at a low but normalized rate? What if the central bank could give credit to Thandi (a 21-year old female who just started her job) at a higher rate because of the risks?
It is possible to target realistic interest rates and have them increase organically and incrementally as domestic credit demand rises. This sounds like a solid hypothesis.
Central Bank App
We have seen the digitization of identity and centralization of it in many countries. Phase 1 is via bank apps at a cross-border level. This allows governments to establish a mandatory digital identification process to create the foundation for CBDCs.
It begins with private bank apps, which most banks already have, in a central app (a single “bank/identity”), but this central app can be used for:
- Allowing citizens to verify who they are to anyone
- Allow the citizen store all identification documents in one location
- Allow the citizen use the application as a digital sign
- Allowing the government’s’services’ to be offered through one portal
- Allowing citizens to have cross-border identities
- Finally, to link payments with identification
Slowly, the pieces of this puzzle are coming together.
The government will own this application and would also like to link the “payments” side to the central bank. They would not want to privatize the arm through private banks. This opens up the possibility of other mechanisms, such as social credit scores (similarly to what China has right now).
If the central powers have your identity, and they control the flow money in an absolute way, they will be able control your behavior moving forward. A higher social score, which is based on who knows what factors, could lead to lower interest rates. It is possible that it could lead directly to government subsidies each year for “being good.”
Problems
What Problems Can CBDCs Solve?
The rules are for the rulers. One thing is clear when you look at these models: the money must be controlled not by the user but the creator.
There are many “positives” to programmable money.
- Inherent and efficient reporting to the central banks and intermediaries. This works in the favor of both providers and institutions. It reduces operational costs and compliance costs. Financial regulations are a major burden on most institutions.
- Reverse and repo thresholds and automations are controlled from the central banks to intermediary banks (if this is the model chosen).
- Optional plugin to create an agnostic backend that is interoperable with all service providers. Private companies will need to spend a lot of time, money, and effort to integrate with a bank partner in order to create a product or joint venture.If all parties are working together with one interoperable platform, there will be fewer barriers to entry. This may even lead to increased innovation in the fintech sector.
- The end user will feel like they have a hot potato in their hands if the funds are depreciated. This will lead to a hypothetical increase of purchasing and consumption, as people won’t want cash in their hands. This will drive the economy forward. Inflation would not be a hidden force.
- Control of funds and social credit scores could result in a more “controlled” population with fewer protests and less crime, and an “overall improvement of society.”
- Small businesses can grow by obtaining direct credit or even automatic loan terms. This could increase job growth and innovation.
- Financial regulation, monetary, and fiscal policy updates could be implemented quickly into the system and programmeable money, bypassing bureaucracy, inefficiencies, and bureaucracy.
- The new system that controls all money processes could reduce fraud and financial crime. Hackers can easily steal funds without asking permission.
- The most important aspect of programmable currency is that the demand side can theoretically be controlled via the digital asset. The central powers control the supply side of money, but it is difficult to control the demand side (consumption).
- Money velocity could be controlled and those in greatest need could get money more efficiently than they currently do.
- In times of crisis, the money systems can be managed. Central banks could prevent recessions by controlling user behavior and consumption. What if the stock exchange could be frozen? Prices would remain the same until temperatures drop because no one could sell.
Although it may sound like a great idea, controlling everything has been tried before.
The Cost
What is the cost of all this?
Debt is still debt. It is possible to predict that CBDCs will drive down inflation if they are implemented in a prudent and gradual manner that does not adversely affect the financial system or banking system. But how long? Is this the solution to all of your short-term and long term debt cycles? Nobody knows.
Yes, market crashes can be avoided in the short-term, but Austrian economists would ask the question: What would drive demand if the market isn’t a free market? This system may seem innovative, new, and unwavering, but it is foolish to believe that this is the case.
The overall system remains the same. Each unit of CBDC equals 1 unit debt. The world we live in today is facing a major problem: the constant growth of debt. Debtors will eventually run out of money, which will have a devastating effect on the long-term debt cycle. CBDCs may delay this, but I don’t see it putting it off forever.
The inefficiencies of centralization
What happens when the single, efficient interest rates are in force? How can you manage these long-term, efficiently? Credit can be provided individually, straight from the source if it is properly rolled out. It does not have an agent network to manage the operational complexities of millions of users in the central bank-to-consumer model.
How can the central banks control the continuous management for each user, one at a time? There are both efficiencies and inefficiencies associated with centralization. This is what we saw years ago in the Soviet Union, where central powers controlled the pricing for millions of goods and service in the economy. This was undoubtedly one of the main factors in its demise. Supply and demand will never be equal without free market principles.
The same applies to one power that controls the rules for millions. This is a different situation than the Soviet example.
A monopoly on innovation. We have seen cryptocurrencies become a “big beast” in the past few years. I’m not referring only to bitcoin. There are many altcoins that have invaded our social lives online and offline.
These cryptocurrencies are driven largely by large marketing campaigns and a “VC mentality”, which is a desire to get in early and get out soon. Buy early, market the product, and then dump the product on the retail market. You can work fast and fix things quickly. This is the Silicon Valley way to think.
This is why many people have difficulty understanding Bitcoin’s slow and steady mentality. It is likely that these central banks will adopt the old way of thinking and work with altcoin teams or technologies.
We’ve seen central banks conduct “thorough” research, and prudent pilots. But COVID-19 could just be a catalyst for the central powers to rush this product to market. No matter what form their model takes, millions of users will be reached much faster than the average adoption rate for private products. I consider the risk of getting something wrong when so many users are reached one of my biggest concerns.
Could this lead to a liquidity crises? What if the central banks decide to manipulate the demand side by manipulating these currencies? Would this cause events to spiral out of control.
What if people instantly chose to “consume” these currencies or move them into harder assets? Stock markets would experience dangerously parabolic behavior, with no liquidity and short-term velocity.
Many people don’t see or understand the hidden effects inflation has on their lives. People will do whatever it takes to avoid CBDCs if the currencies become self-destructive. This could lead to a variety of problems. This could lead to central banks printing more money, which will only increase inflationary issues long-term.
Security and Privacy
Privacy are two of the biggest risks in my opinion. First, it is not acceptable to assume that your money does not have the right to privacy. Your overall privacy is affected by what you buy, where you spend your money, and what you do with it.
Unfortunately, governments have made it a norm that your money is not private. Private bank apps allow us to verify transactions in our day. This centralization is about to become a reality. The centralization of money and data for everyone is a perfect breeding ground for hackers, fraudsters, and the corrupt. You can Google the number of times Facebook has been hacked to see how secure your data is with a central banking institution. But, the government and central banks will have all of your data. Your absolute identity. Think about what would happen if someone got hold of this information.
CBDCs versus Bitcoin
It is clear from what I have said that CBDCs are:
- A way to let others control your money.
- One-sided permission is a way to control money, and the population.
- A set of rules that are unilaterally determined by the providers and/or creators.
- A digital currency that is able to create unlimited amounts of units or has an inexhaustible supply.
- More secure and centralized.
- Acceptable and can be changed based on monetary policies or arbitrary rules.
- A solution that solves a problem in a short time but is not able to solve the problem in the long term.
- This is the best way to ensure absolute control over governments.
Bitcoin
Then, we have Bitcoin.
- To authorize transactions, only the owner of a coin is authorized to produce a signature. It can only be controlled by the owner.
- Limited supply of 21,000,000 bitcoin that cannot be altered.
- All can verify that the rules are in place and are accepted by all.
- Anyone can transact anonymously without authorization. Bitcoin is a set rules without any rulers.
- It is distributed globally and decentralized, distributing its risk through this.
- It is immutable and has stability because of this. This is the source of its inherent security.
- It is the best tool we have to preserve our self-sovereignty.
Can CBDCs and Bitcoin co-exist in the same universe?
We only hope that governments don’t ban Bitcoin after the rollout CBDCs. It is only possible to adopt it by large numbers of institutions, which only strengthens its position in the current financial system.
However, if they ban it, it will impact the poor and unbanked severely and the Cantillon effect won’t stop growing. While bitcoin will likely win in the end, if bitcoin is used to store wealth alongside CBDCs, it will continue its current adoption curve.
The pain points of bitcoin to fiat or vice versa are still there and could continue to grow. Governments want control, and once one’s funds have been in Bitcoin, they lose it. Maybe regulation will encourage “synthetic” bitcoin offerings in the future. This means that custodians can hold bitcoin on behalf of retail customers. This gives regulators a sense still of control over this asset. It may be more difficult to get one’s private keys.
We will see peer-to-peer market growth continue over time, even with CBDCs.
Great Reset
Bitcoin is the “Great Reset”
We can conclude that CBDCs are the complete antithesis to Bitcoin. One instrument is a set or controls, the other is a key to freedom. While there are valid reasons to roll out CBDCs in the short-term, the long-term paradigm for CBDCs is not well thought out.
A centrally controlled market will not be as efficient in the long-term as a free one, and we don’t know if it will actually solve anything. CBDCs might increase domestic consumption and sovereign wealth, but the units are still backed only by a set centrally planned rules.
It doesn’t solve the problem inherent in money: the value of the money itself. It fixes the “efficiency,” of money in the controller’s mind. Governments will always believe that government-created problems can easily be solved by more government. They need to control their money to finance their growing deficits by denying long-term incentives.
If their money is backed up by something universally accepted, it will appreciate in time and cannot under any central government control:
- Now, poor people can get an asset that doesn’t depreciate and that is available to everyone.
- The free market principles can be applied.
Only by holding your bitcoin and private keys can you have self-sovereignty. If you manage it securely, and even more importantly, if you don’t debase it, no one can take it away from you.
This is freedom. Freedom in your wealth is freedom in all other areas.