Digital Cash as Global Reserve Currency
A Little Bit of Money
Thought Experiments on Cross-Border Payments - Of Couriers, Bankers, and Bitcoiners
Series 29: Digital Cash as Global Reserve Currency
Supranational Currency as a Stabilizing Force
In response to the financial crisis, the People's Bank of China proposed to adopt the International Monetary Fund's (IMF) Special Drawing Rights (SDR) as a global reserve currency. China thus recalled economist John Maynard Keynes' proposal to introduce a supranational currency as a stabilizing force. The reasoning behind this idea is as simple as it sounds: no single currency is strong and stable enough to act as a world reserve currency - the U.S. dollar has its problems, the Euro is struggling, and the Renminbi is not universal. However, SDRs - whose value is based on a basket of currencies that includes the U.S. dollar, the Renminbi, the Japanese yen, the Euro, and the Sterling - are an existing unit of account already used by central banks.
Tying SDRs to CBDCs
SDRs are relatively stable as long as there are no material realignments. The principles underlying the calculation of SDRs act as a shock absorber, naturally smoothing exchange rate volatility. However, SDR computation is not apolitical. In 2016, the Renminbi was included, which had been a longstanding goal of China’s monetary policy makers. Looking at the state of technology, the next step seems obvious: tying SDRs to Central Bank Digital Currency (CBDC). Introducing digital SDRs as the universal CBDC would be a major coup in allowing central banks to more efficiently distribute funds among each other globally.
Multilateral Governance for a Universal Digital Currency
The Bank of International Settlements (BIS) in Basel is known as the bank of central banks. It publishes its account deposits by central banks in SDRs. The currency code for special drawing rights is XDR. Financial experts are already pointing out that the implications of putting central bank-backed fiat currency on a distributed ledger are profound. Consequently, the impact of SDRs circulating as an international CBDC would be far-reaching. Both the BIS and IMF might qualify as multilateral organizations to form a new global regulatory entity to supervise the universal digital currency.
Universal Digital Cash is a Game Changer
Digital SDRs would be a technology upgrade for the global monetary system. The primary obstacle to surmount is convertibility though. Today, SDRs are more a store of value than a medium of exchange. The question is what would happen if digital SDRs were introduced not only for banks but also for businesses and eventually for consumers worldwide. This would allow multinational companies to pay for goods in SDRs instead of dollars, and people would be able to pay for goods and services with stable digital cash regardless of where they live. This would certainly lead to a shift in the balance of political power because the United States Petrodollar would lose influence.
Universal CBDC vs Stablecoins
However, CBDCs are not cryptocurrency, they are the digital version of fiat-based book money running on distributed ledger technology (DLT) controlled by banks. Centralization and regulation remains with any CBDC including any form of a global digital SDRs. In fact, the regulatory frenzy would increase dramatically because every transaction could be tracked centrally. Also, this would open the door wide to abuse. The right to privacy is already under pressure from Internet giants Alphabet, Amazon, Apple, Meta and Microsoft. With CBDC, the threat of potential government intrusion into privacy increases. Orwell's horror vision of Big Brother would not be far away.
Crypto-backed stablecoins preserve the right to privacy
Cryptocurrencies are different, especially crypto-based stablecoins. They have features that government-run CBDCs can never match. Crypto protects constitutional rights, such as the right to privacy, because crypto is designed to be censorship-resistant. Crypto-backed stablecoins are private money based on public blockchain technology. These privately owned or community-controlled crypto assets ensure a peg to a stable unit of account, as DAI does with the USD. Thanks to the concept of over-collateralization, DAI has even survived the collapse of the semi-decentralized, algorithm-driven stablecoin Terra (UST) without a scratch. Technically, issuing a crypto-backed stablecoin pegged to SDRs is already possible. I bet the crypto ecosystem will do so sooner rather than later.
To be continued. Further Reading:
International Monetary Fund. Special Drawing Rights - Fact Sheet. November 30, 2015.
J. Dwyer. “Fiat Currency on a Blockchain.” Celent Industry Report, August 19, 2015.
R. Skudnov. Bitcoin Clients. Bachelor’s thesis, Turku University of Applied Sciences, 2012.
S. Barber, X. Boyen, E. Shi, and E. Uzun. “Bitter to Better: How to Make Bitcoin a Better Currency.” In Financial Cryptography, vol. 7397, pages 399-414, 2012.
M. Malovic. "To be or renminbi: Trend in the evolution of the international monetary system." Industrija 42.3 (2014).
Laura Shin, "Central Banks Explore Blockchains: Why Digital Dollars, Pounds or Yuan Could Be a Reality in 5 Years", Forbes October 2016, https://www.forbes.com/sites/laurashin/2016/10/12/central-banks-explore-...