The war around currencies is heating up: for the first time in more than a century, the dominance of the US dollar has been challenged. The rise of cryptocurrencies and “stable currencies” has prompted people to rethink what currency is, who should be regulated, and no longer be regulated by it. What does it mean when the national government controls these questions. The U.S. dollar itself may be undergoing a major change, becoming a digital currency that can be circulated all over the world instantly, competing with Bitcoin or other tokens.
The rise of cryptocurrency redefines the old battle lines of competition among currencies. Privately issued cryptocurrencies are splitting the currency system, the banking industry, and the payment system. This situation is reminiscent of the "Wildcat" currency era in the mid-nineteenth century, when many banks in the United States rushed to issue their own currency, which also prompted the Federal Reserve to introduce a national currency. Without an "unquestionable" currency, business cannot operate effectively; if multiple currencies compete to participate in economic activities, the government runs the risk of losing control of fiscal and monetary policies.
What kind of drastic changes will the emerging currency bring? No one knows, and there are many legitimate use cases for cryptocurrencies and applications built on blockchain networks. However, because this technology is extremely disruptive, it has triggered calls for a series of new regulations and prompted governments around the world to consider digitizing their currencies, at least to a certain extent, to keep up with this trend, while maintaining their economic interests. control. It is expected that the Fed will soon release a report on its views on the launch of the digital dollar.
Thomas Hoenig, former president of the Federal Reserve Bank of Kansas City, said: “The advent of digital currencies may allow individuals and businesses to bypass banks. If cryptocurrencies become an alternative to the U.S. dollar, they may create an independent The monetary environment will make monetary policy more difficult to implement."
Cryptocurrencies are currently worth 2.1 trillion U.S. dollars, which has doubled in 2021 alone. Bitcoin, worth nearly $900 billion, recently became the legal tender of El Salvador. This is a controversial shift in the country, but it may pave the way for other developing countries to adopt Bitcoin. Capital is pouring into companies that build trading platforms and exchanges for new digital assets such as NFTs (non-fungible tokens). Investors are also trading tokens on decentralized exchanges such as Uniswap. "Betting" to earn high profits for network operators.
Cryptocurrencies and other tokens have not weakened the $19.4 trillion money supply, nor have they affected the 50% dollar-denominated portion of international trade. The share of central bank reserves is an indicator of dollar hegemony. This indicator has fallen for 25 years, but its share of 60% is still three times that of its closest competitor, the euro. The huge global commodity market is denominated in U.S. dollars, and trillions of dollars in sovereign debt and corporate bonds are also linked to the "risk-free" interest rate of U.S. Treasury bonds.
But the challenge that blockchain technology poses to the US dollar is not so easy to overlook.
Cryptocurrencies, stablecoins, and NFTs are becoming native tokens for gaming and e-commerce platforms. The design of virtual reality platforms is incorporating NFTs or other privately issued currencies. As economic activity shifts to these "walled gardens," currency backed by banks and governments may eventually flow to the "outskirts."
Challenge existing currencies
"Big money" is in danger, especially for banks and other companies that charge fees for transferring dollars. These fees are actually a kind of "rent." According to data from consulting firm McKinsey, North American banks, credit card networks and non-bank “financial technology companies” make huge profits from payment and credit card services, reaching US$500 billion each year. It is estimated that this is equivalent to 2% of US GDP, a large part of which is credit card fees.
Many banks and financial companies, including Visa (V) and JPMorgan Chase (JPM), are working hard to integrate cryptocurrencies and stablecoins in order to collect fees from brokerage, custody, and payment services. But they are faced with technologies that threaten their revenues, and perhaps more importantly, their access to data is also threatened.
For example, Solana is a relatively new project in the field of encryption. This network was developed by a former Qualcomm software engineer. It is said to process 65,000 transactions per second at a cost of $0.00025 per transaction, which is more expensive than Ethereum. Waiting for bigger competitors is faster and cheaper. Solana is driving the rapid development of new things in the field of art, video and music-stablecoins and NFTs. Solana's blockchain network has also attracted high-frequency trading companies, which see it as an ultra-fast data feed and trading application platform for cryptocurrencies, stocks and other securities.
Figure 1: Market value of cryptocurrency
Note: The data is as of September 7, 2021. Source: CoinMarketCap. Drawing: Zhang Ling
BTIG analyst Mark Palmer called Solana "the biggest breakthrough in the blockchain field in 2021." Solana is providing a highly anticipated "meta universe" game "Star Atlas" Driven, the game uses NFT as an asset in the game. Palmer recently wrote in a research report: "The high speed brought by Solana's architecture is a real game changer in the field of NFT games. Due to the surge in usage, the network has recently collapsed, causing the Solana token to fall. But this drop may also reflect some profit-taking. Before the drop, the token soared 9166% in 2021, the price rose from 1.5 US dollars to 139 US dollars, and the market value reached 41 billion US dollars.
Fighting for the digital dollar
The digitization of the U.S. dollar is one of the biggest financial policies that the U.S. government is brewing to contend with cryptocurrencies: turning the U.S. dollar into a token issued directly to consumers by the Federal Reserve. The Federal Reserve is expected to release a highly anticipated report soon outlining its views on central bank digital currencies (CBDC). Other countries, led by China, have already launched CBDC pilot projects, which has also increased the pressure on the Federal Reserve to launch CBDC.
Digital dollars can take many forms. The basic idea is that the Fed issues a new digital tool for trading and deposits while issuing physical cash or using the bank account system. Proponents believe that payments through digital dollars can be settled in real time, and fees may drop significantly, because there is no profit incentive for the Fed. For 6% of people who do not have a bank account and pay high fees for cashing checks, this will bring them great convenience. Remittance fees for people sending money overseas will also be reduced, eliminating the need for middlemen such as Western Union and MoneyGram.
As China and other countries take the lead in developing CBDC, the pressure on the Fed from the international level is also increasing. In a speech in September, Benot Coeuré, head of the innovation department of the Bank for International Settlements (BIS), said: “The central banks are not acting fast enough. We should accelerate the pace of the specific work of CBDC design. "
Figure 2: Global payment revenue of banks and payment companies
Note: The data is as of September 7, 2021. Source: CoinMarketCap. Drawing: Zhang Ling
Figure 3: The number of cryptocurrencies has risen by 140% in 2 years
Note: In October 2020, CoinMarketCap removed some inactive cryptocurrencies from the statistics. Source: CoinMarketCap. Drawing: Zhang Ling
However, Fed officials seem to be divided on the idea of a digital dollar, let alone formulating specific details. Fed governor Lael Brainard, who may take over as chairman of the Fed in 2022, expressed support for CBDC, but another governor Christopher Waller was skeptical. He put the digital dollar Described as "a solution that will cause more problems." In his view, commercial banks and the Federal Reserve are already researching and developing real-time settlement. He also believes that stablecoins may put pressure on bank fees, and surveys show that most people who do not have a bank account do not want to have an account. “The government should compete with the private sector only when the market fails. I don’t think CBDC should be given special treatment,” he said in a speech in August.
The final decision is likely to be politicians, not Fed officials. The idea of a bill supported by Ohio Democratic Senator Sherrod Brown is that the Federal Reserve provides a "digital dollar wallet", and then commercial banks will maintain the operation of the digital wallet. Those who own digital wallets can own commercial banks. A portion of the reserves held by the Federal Reserve. For consumers who do not have branch accounts of commercial banks, he believes that the Postal Service can be used as a digital dollar bank.
Of course, these proposals are not attractive to commercial banks. They worry that the Fed will suck its deposits and affect its lending business. Rob Morgan, senior vice president of the American Bankers Association, said: "The disadvantages of doing this seem to outweigh the benefits, at least in the United States."
According to a recent research report released by Joshua Younger, head of US fixed income strategy at JPMorgan, JPMorgan Chase is calling for "the greatest possible reduction in the impact of CBDC on commercial banks." He believes that limiting CBDC deposits to less than $2,500 can reduce the possibility of the Federal Reserve "cannibalizing" commercial bank deposits. He also said that US banks have been "partially nationalized", and 15% of assets are stored in the Federal Reserve's reserves and US Treasury bonds. If the Federal Reserve intervenes in commercial banks, this proportion may rise.
Tame the wild encrypted west
When digital currencies took root, US regulators did not stand by. U.S. federal and state government agencies are formulating rules to pay close attention to the industry. The new chairman of the US Securities and Exchange Commission (SEC) Gary Gensler (Gary Gensler) recently proposed a broad agenda for regulating crypto tokens, trading and lending platforms at a hearing in the Senate. He said: "A large part of the crypto space is sitting across-rather than operating within-regulatory frameworks." Automated exchanges may be subject to stricter scrutiny, and there are lending platforms like BlockFi where investors can Get high returns from encrypted deposits.
Congress saw plenty of opportunities to increase revenue by taxing cryptocurrencies. Democrats in the House of Representatives have included "digital assets" in their $3.5 trillion coordination bill, which includes a clause that stipulates that crypto products must comply with the "wash sale" rule, which prohibits investors from Apply for tax losses when buying the same securities within 30 days before and after. This measure alone can raise approximately US$16 billion in ten years.
However, it is not easy for regulators to levy taxes or supervise the entire industry. Crypto brokers outside the United States handled most of the transaction volume. Exchanges such as Uniswap use agreements and "smart contracts" to process transactions. "They are operating independently of the underlying agreement, and users can still trade assets. It has nothing to do with the SEC." Anthony Georgiad, crypto asset investor of Innovation Capital Anthony Georgiades said, “The degree of decentralization of crypto assets is very high, so even if they try to delist assets, they will not
be able to do so.” Washington is still unable to classify cryptocurrency as a currency, An agreement is reached on a security or a commodity. The Internal Revenue Service refers to cryptocurrencies as "property", while the Commodity Futures Trading Commission is responsible for overseeing the cryptocurrency futures market and overseeing banks and exchanges.
Some states have not waited for more federal regulations to be introduced. BlockFi's regulators in New Jersey and Texas have run into trouble, in these two states, residents opening accounts with the company may soon be deemed illegal. BlockFi CEO Zac Prince (Zac Prince) said that unified federal banking rules need to be developed. He said at a recent conference: "It will depend on federal regulators to open the way for such activities to occur."
Stablecoins may constitute the biggest regulatory challenge. Tokens with a fixed value of 1 U.S. dollar are usually linked to the value of the U.S. dollar, and the circulating assets of more than 110 billion U.S. dollars are mainly TEDA coins and USD Coin. Investors use these coins as a substitute for the U.S. dollar to trade on exchanges, and they are also very popular in international payments and P2P transactions.
A game-changing stablecoin might come from Diem, an alliance of 26 companies originally conceived by Facebook. Christian Catalini, chief economist of the Diem Association, said that Diem is trying to introduce a "regulatory-friendly" version. Its basic network is supported by companies such as Uber, Coinbase Global (COIN) and Spotify Technology (SPOT), and the fee per transaction is expected to be less than 0.10%, which is much lower than the current charges of banks and credit card networks level.
Diem may be a blockbuster. This token may soon gain traction in areas such as Uber fares, Gucci bags sold on Farfetch, Spotify subscriptions, etc.-canceling payment to middlemen with lower transaction fees. This network is also designed for P2P transactions, including remittances, and the underlying blockchain technology can transfer programmable digital assets in the future. However, if the digital dollar is put on the market, the Diem coin itself may be short-lived. Catalini said: "We have promised that when digital dollars appear, we will phase out this token."
Diem has promised to hold high-quality assets as reserves for Diem coins, and these tokens will be at least one-to-one. Of cash or U.S. Treasury bonds. It may not have many options: regulators are beginning to see stablecoins as a source of financial instability, and they may be about to issue new rules on issuers’ capital and reserve requirements.
What is worrying is that token issuers do not have 100% cash reserves to support them, but instead use commercial paper, bank "repurchase" agreements and other securities and other forms of agency. Under normal market conditions, this may not be a problem, but in a crisis, it may cause instability.
Money market funds have experienced runs that have spread to other areas, prompting the Fed to stabilize the market, most recently in March 2020. Morgan Ricks, a law professor at Vanderbilt University and a former Treasury official, said: "From a stability perspective, this is the central concern of the Fed."
Tether, the world's largest stablecoin, is in legal trouble over its reserves. In February 2020, Tether reached an agreement with the New York State Attorney General and agreed to further disclose more information. However, the composition of its reserves is still opaque. According to the latest information disclosed, the TEDA coin supported by the Bitfinex exchange only holds 3.9% of its cash reserves and 2.9% of Treasury bills, of which 65% are commercial papers. TEDA stated that its tokens are “always 100% backed by our foreign exchange reserves”.
The U.S. Treasury Department recently convened a task force to develop a framework to regulate stablecoins. Some leading economists say this move is long overdue. "Policy makers may regard stablecoins as an emerging financial innovation that does not pose any systemic risk," said Gary Gorton, an economist at Yale University, in a recent meeting with Federal Reserve Attorney Jay Gorton. In a paper co-authored by Jeffery Zhang, “This would be a mistake, because this is when policymakers need to take action.”
The dollar will not disappear
The dollar will not disappear easily. Since President Richard Nixon ended his peg to gold in 1971 and turned it into a freely floating "legal" currency, the U.S. dollar has avoided multiple threats. The new round of inflation in the 1970s, the appreciation of the yen in the 1980s, and the rise of the euro at the beginning of this century failed to defeat it.
For the largest cryptocurrency, Bitcoin, a common marketing statement is that it is a kind of "digital gold" with a fixed supply of 21 million pieces; by design, it cannot be increased, unlike fiat currency, the government may Let it depreciate for political or economic benefit.
Central banks are printing money on a large scale-the Fed's balance sheet has surged from US$1 trillion in 2008 to US$8.3 trillion. Proponents of cryptocurrencies argue that because the central bank tolerates inflation, the purchasing power of the U.S. dollar will decline, and cryptocurrencies will have more value.
However, although people often talk about currency "devaluation" or the decline in the purchasing power of the U.S. dollar, this is a more complicated issue from an economic point of view. Since the early 1980s, the inflation problem in North America has not been so serious. Before the outbreak, the level of inflation was so low that policymakers were worried about deflation. Rising labor costs and global supply chain disruptions constitute a recent threat of inflation, but the continuity of this threat is uncertain. The forces that curb inflation—including the aging of the population in advanced economies and the productivity gains brought about by technology—will not disappear.
History is also on the side of the dollar, because governments have never allowed other currencies to usurp their power. Technology makes this work harder, but it is not insurmountable, and the more successful a currency like Bitcoin, the more governments may try to stifle it.
What does this mean for investors
How does this affect investors in crypto infrastructure stocks and cryptocurrencies? For now, not much. Despite increased regulatory review, the prices of encrypted asset stocks and digital currencies have been climbing for several months. With the expansion of cryptocurrencies, stablecoins, and decentralized finance (DeFi) networks, capital is flooding into the industry.
New rules will take months or years to be formulated and implemented by regulatory agencies. The digital dollar may become a partisan battle that is troubled in Congress.
A clear attitude from regulators will be welcomed because they may open the floodgates of investment products and services, and expand the market through financial advisers and institutional fund managers in charge of trillions of dollars in global assets. Banks also hope to have a level playing field to reduce "regulatory arbitrage," which may now give crypto asset companies an advantage.
The cryptocurrency industry is also becoming a lobbying force. In August 2021, lawmakers attempted to increase tax filing requirements for cryptocurrency companies in the Senate Infrastructure Bill, which illustrates the industry’s influence. The lobbying blitz failed, but the battle is not over yet-it may be transferred to regulators.
As for the U.S. dollar, those currencies that follow may help preserve the U.S. dollar. When investors sell anything risky, cryptocurrencies and other tokens have not yet experienced the baptism of a crisis. The most dangerous currencies fall the most during the panic, and cryptocurrencies may do the same. "If there is a crisis, all cryptocurrencies will be sold," Honig predicts. Regardless of whether it is digitized or not, the dollar will continue to fight.