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THREAD 🧵 I see CBDCs are trending again, so I thought I would offer some insight and context to the whole story. How did this idea even come about? What are they good for? Are you getting the full picture? (I will probably keep adding to this thread as things evolve.)
For those who don’t know, I’ve been covering this topic since at least 2012. I am also one of a handful of mainstream reporters that was openly concerned about the socio political consequences of these ideas. I very early on termed it “Gosbank risk”.
But it’s also the case that I wasn’t always critical about them. In the early days we weren’t talking about CBDCs as much as “government emoney”. Here’s an example of a positively framed story by me from those early days www.ft.com/content/a1918372-0a3a-3366-8ac1-f5339884e968
You see at the time, the world was facing deflationary forces and the limitations of the zero bound. The idea of negative rates was still novel and many worried that without the ability to charge negative rates on a consumer level it might be hard to stimulate things further.
There was also talk of People’s QE. A directly issued govt digital currency seemed a useful addition to the central banking toolbox. Serious economists like Ken Rogoff then realised such policies might not work if good old physical cash was still around www.ft.com/content/3591e3b7-1843-3f76-a7c6-9cba92d86b36
The concern was that if cbanks imposed negative rates on retail accounts, people would move their savings into physical cash so as to avoid the de facto savings tax being imposed on them.
While it might have appeared extreme it did also appear very economically reasonable at the time given the deflationary context. Crypto itself was still a fringe thing and enterprise blockchain was only beginning to resonate.
Then from about 2015-2017 came the peak era of “enterprise blockchain” thinking. This was the moment the management consultants got hold of the narrative and decided to forcefully push the “blockchain good, bitcoin bad” messaging everywhere.
This was the moment I (being slightly allergic to management consultants) began to have my doubts. It seemed clear to me that the bulk of those pushing the narrative had zero idea about the technology and were just parroting soundbites.
One of the reasons I could see this happening is because I had fallen for it myself! Here’s me initially wondering out loud if blockchain tech could be stripped away from the bad bits of crypto to solve complex problems in clearing and settlement. www.ft.com/content/6ec204bf-2163-3ed1-b42e-8c9c86f7befa
This piece was written before “enterprise blockchain” or “private blockchain” had even been properly coined by the industry. (Pun intended). What’s more, I distinctly remember talking about this angle to broker and clearing types at a wine tasting and being laughed at.
I mention the incident only because within about 6 months they had all been converted, turning into the most vocal supporters of the blockchain good bitcoin bad slogan despite having done little investigative work on the tech.
About this time I began to be invited to dozens and dozens of city-based panels talking about the potential of blockchain. They always featured fin corp reps who were enthusiastically investing in trials. These guys talked about blockchain like it was some sort of god.
Whenever I asked them if any of them could code or had the technical abilities to review the tech itself, they always said no. When I talked to actually technically literate people or those who really knew about how bank systems worked, their responses were entirely different.
At the monthly meetings of the @CSFinance these paradoxes and inconsistencies were well aired. It was through those meetings I met excellent skeptical minded practitioners like @MartinCWWalker and I informed myself even more on the core paradoxes in the tech.
@MartinCWWalker and I eventually ended up coauthoring a piece for the UK Treasury Select committee in 2018 about three issues we had unearthed. papers.ssrn.com/sol3/papers.cfm?abstract_id=3412228
So how is any of this relevant to CBDCs? Well, as all this was going on the cbanks were mostly sitting back, watching and observing. Many had started probing around but all in the spirit of being informed. And their analysis was mostly encouraging.
Those that did conduct trials were coming to similar conclusions as Martin and me. In most cases none of these systems needed blockchain. Blockchain did not add to efficiency, cost control or anything else. www.ft.com/content/fe5b17e1-4040-3249-b473-f3c998c67de9
The blockchain hype took its greatest knock in 2019 when Digital Asset - the blockchain company Blythe Masters had fronted and promoted to great effect as the future of finance - quietly pivoted away from blockchain. Blythe also stepped away. www.ft.com/content/77bc7fd4-8903-11e9-97ea-05ac2431f453
Ironically this was a massive slap in the face of the promises made all over Davos in 2016 (the year I attended), where blockchain hype was beyond acute. www.ft.com/content/28d29783-1ba2-3a50-be77-8794c9c94702
But something even more important in the CBDC creation story happened in 2019. That was the year Mark Zuckerberg decided he wanted to deliver us Libra www.ft.com/content/2730678a-6cfc-3a98-9ef0-8851ccb0abd7
Central banks that were mostly standing on the sidelines in all this, suddenly realised they had to act. This was no longer about blockchain. Blockchain hype had merely enabled the pathway to Libra. Libra was a private sector power grab over the money supply.
It soon became evident blockchain was mostly being used as a giant marketing ruse to deflect from a private sector monetary power grab. It was not about the blockchain. In fact, as @jemimajoanna noted there was nearly zero blockchain in it www.ft.com/content/a053d6d4-323a-3247-9cad-8c7229f287c9
Libra was very upset with Jemima’s story, even though it was entirely accurate. They sent me many emails demanding a correction for misleading presentation. But there was nothing to correct so we stood firm!
<TO BE CONTINUED AFTER A MUCH NEEDED COFFEE BREAK>
CBDC THREAD 🧵PART TWO: THE CENTRAL BANKS STRIKE BACK. We left the story with Facebook’s Libra project leading an assault on the global monetary system. But this assault didn’t come out of the blue.
There were two key factors that influenced the birth of Libra. The first was the rise of stablecoins like Tether. The second was the threat that the Chinese would be first to rollout a universally adopted central bank digital currency in the form of the eyuan.
Facebook looked at stablecoins and thought to itself this is something we can easily replicate and dominate in. Unlike most stablecoins (usually associated with murky new entrants) Facebook had a global brand and the capacity to woo many corporate players to its system.
But Facebook underestimated the regulatory pushback to the project that would follow. It turns out US legislators weren’t keen on the idea that the Fed or the US dollar might one day be usurped by a global private sector challenger run by a corporate syndicate.
Nor was anyone keen on the idea of the world’s premier data harvesting social media platform being a key shareholder in what might one day become a totally unaccountable monetary authority. If you are worried about cbdcs controlling your life, consider the Facebook alternative.
Meanwhile, over in the central banking world, stablecoins were beginning to court anxiety. This was not because of blockchain but because of their emulation of fiat currencies and money market funds. MMFs had proved an unexpected destabilizing force during the GFC.
So central banks were already thinking about how best to mitigate stablecoin risks. They had already decided they needed to focus on innovation themselves when Libra hit. But the arrival of Libra energized them further. As I reported in Dec 2019: www.ft.com/content/3b2da0b4-2441-453e-8ce8-0f3bd38cf3ed
The central banks were also watching developments in China closely. Concerns were quietly growing that if the West didn’t deliver its own CBDC equivalent, it might lose out to China. This echoed the talk from Facebook but was subtly different.
Nobody seriously thought Westerners would consider the eyuan as more desirable to the dollar or other local equivalents. The concern was related more to dedollaristion in emerging markets and effective Western economic competition vis-a-vis China www.ft.com/content/76e450be-e8b3-40f3-a452-b20284e0bd63
Under the guidance of the BIS Innovation hub, many central banks started experimenting on CBDC design and testing hypotheses about what will and won’t work. Their efforts were focused on the entirely reasonable notion that countries needed digital currency public goods.
By the time Covid hit, the world’s premier cbanking minds had come up with fairly sophisticated arguments in favour of CBDCs. Among this was work from @HyunSongShin which is an essential read for everyone looking at the topic. www.ft.com/content/75ae3ae0-c09f-4242-ab3e-f293d67d5c07
But the more they explored the topic the more they came face to face with some of the inherent paradoxes and socio economic challenges associated with CBDCs. There were three big issues that had to be resolved.
The first & most important was the risk of crowding out the private sector from banking entirely. This is what I have referred to as Gosbank risk. With the cbank competing directly with private banks for retail funding the line between private/state banking was blurring.
For example, had CBDCs been around in 2008 in a frictionless payment framework, depositors would likely have withdrawn funding en masse and with great speed from the private banking sector in favour of government backed currency.
Cbanks have reassured the market that banks will still be relied on to provide wallet services (Cbanks have no interest being consumer facing entities). It is unclear, however, what incentive banks have to offer such services. The notion they can do so for free is naive.
This is all the more problematic if CBDCs are to remain zero interest assets, as mostly currently intended. Chances are private banks would have to charge some sort of fee, undermining the universal “public good” attribute the cbankers are so keen on.
The other issue is how the cbanks will deal with CBDC privacy, since the same institutions are charged with regulating bank compliance with respect to Know-Your-Customer, Anti Money Laundering and counter terrorism financing rules.
It would be contradictory and a giant loop hole if private banks have to enforce KYC/AML rules on their own systems but cbanks not on CBDCs. But cbanks (as public govt directed institutions) screening transactions to the same degree introduced major privacy concerns.
Cbanks are addressing this issue mostly with the idea of “tiered privacy” - model developed by the PBOC. Small transactions can go ahead with little to no KYC while the bigger the transaction the more ID you might need. But this brings us to the third challenge.
Economics is underpinned by the idea that money is mostly a neutral phenomenon. It is this that supposedly allows the market to make “wise” allocation decisions based on information communicated through price signals. But tiered privacy CBDCs will have to be account based.
Many believe there are many benefits to having money linked to an ID account. You can in theory add credit information and all sorts of other information that can be passported anywhere easily. A good example of the virtues of such a system come in the Ukrainian cbank’s model.
Ukrainians have one digital govt app which consolidates all their govt ID in one handy place. It also allows them to contribute many services for the war effort and to receive welfare payments. It’s not quite a CBDC yet but they are well ahead on that too www.coindesk.com/policy/2021/07/30/ukraines-president-signs-law-allowing-central-bank-to-issue-a-cbdc...
But concerns arise in the event such a system is usurped by a political control system you do not trust. As @HeidiTworek recounted in her book “News from Germany” it was the centralisation of the comms system under Weimar that enabled Goebbels’ propaganda www.hup.harvard.edu/catalog.php?isbn=9780674988408
Centralised systems are very efficient and will always outperform the decentralised competition. But their absolutist nature poses the risk that if they fall into untrustworthy hands they can enable bad actors to act just as efficiently against the public interest.
Where we are now is in a situation where central banks have admitted CBDCs will most likely have to be account based to bring about the efficiencies they crave for. But also where technocrats are mostly having these important structural debates. www.ft.com/content/88f47c48-97fe-4df3-854e-0d404a3a5f9a
What concerns me is that the public is not being consulted on any of these design issues. There is no proper public engagement about what should & should not be allowed to go into CBDCs. Should these things be tied to health data or vaccine passes? What about carbon footprint?
This is allowing the conversation to be hijacked by conspiracy theorists. Often times are not wrong about many of the risks. But their involvement is stigmatizing the prospect of any real public debate. See what happened when I put this issue to @JohnGlenUK, the new HMT No.2.
The Cbanks would likely welcome public engagement & transparency. They are constrained on doing anything about it because, as they rightly point out, it’s not their job to do so. It is the job of democratically appointed govts to lead the debate on CBDCs, BEFORE it becomes policy
But @JohnGlenUK seems to think that something as important as a CBDC should follow the usual mostly opaque government consultation process. I think that’s wrong. This is arguably a policy that requires referendum level approval.
The irony is, as cbankers attempt to find workarounds for the problems I recounted or try to tackle privacy, the more CBDC architecture is reverting back to preexisting design. This begs the question what problem is it really solving?
Where we are heading as a result is a largely similar system to what we have now, where banks share a seigniorage commission with the cbank for offering basic utility payment services. The only difference is that money might become programmable and linked increasingly to data.
Also that all the CBDCs will be “inter-operable” on a cross border basis. That, however, comes with its own risks and returns.
As usual apologies about the typos/literals. Dealing with a 4-yr old on half term at the same time as tweeting.
Two more important and relevant points I forgot to add. 1) If CBDCs are genuinely to be a “public good” counter to private alternatives due to their deplatforming power, they will have to be legally obliged to offer universal access.
But this is problematic in its own right because what defines a universal right to something like a GBP CBDC? UK Citizenship? UK Residence? Commonwealth membership? This conversation is not being had.
If access is too broad it can be exploited by bad actors both domestic and foreign, for money laundering purposes and more. If the access is too narrow, it doesn’t really challenge PayPal (which is mostly following FATF guidance.)
2) to compete with China and private sector challengers on the international stage it seems clear Western CBDCs would have to offer “privacy as a service” and be universally accessible. Sadly I don’t see this as very likely. Too much “do as I say but not as I do” hypocrisy.
One small correction. I used the wrong Twitter handle for the CSFI. Should have been @CSFI1 not @CSFinance
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Ben Hunt @EpsilonTheory
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Oct 27, 2022
Outstanding work by @izakaminska.