Among the many races the pandemic has accelerated, none is so pointless as the issuance of central-bank digital currencies. The Canadian government, which should know better, has jumped into the fray despite earlier opposition.
Reversing comments made in February 2020, Bank of Canada deputy governor Timothy Lane now believes state involvement in cryptocurrencies is a pressing matter. Along with its G7 partners, Canada has been exploring central-bank digital currencies since 2017 but the race suddenly sped up in mid-October.
The G7 countries claim to be getting ready in case another government or company issues a similar product. On the one hand, they believe private cryptocurrencies such as bitcoin and Facebook’s Libra pose a threat to their monetary-policy control. On the other, they view China’s push to issue a central-bank digital currency as a threat to national security.
However, creating a new money monopoly for the digital world is a little too late. The cryptocurrency genie is out of the bottle, with altcoins flourishing by the thousands, and there is no going back. The way to tackle rogue actors is not to impose a top-down solution but to set clear rules for the legitimate initiatives to flourish.
Central banks: staying alive
Just as in other parts of the world, droves of Canadians have turned to online payments and e-commerce during the pandemic. Many have dipped their toes into the vast sea of cryptocurrencies. Trying to bank on the opportunity and prevent more money from exiting the taxable financial system, authorities are rushing the development of central-bank digital currencies without pause for reflection.
Cryptocurrencies are such an attractive and disruptive technology precisely because they offer peer-to-peer alternatives to state-backed currencies. Central banks are increasingly impotent against that driving force. The more they fight, the more they reveal their obsolescence.
G7 central banks have only compulsion to offer crypto-enthusiasts. Governments are not after monetary innovation but rather their own continuity. To ensure it, they are trying to get in front of and truncate existing cryptocurrencies.
Central-bank digital currencies are at complete odds with the nature of decentralized digital currencies. The technology that makes cryptocurrencies distinct, secure and trustable is the distributed ledger called blockchain, behind which there is no central bank tweaking monetary policy.
Digital currencies controlled by the state would need a different architecture. They portend nothing akin to a network of transaction validators, like the miners that today power bitcoin through profit incentives.
Central-bank digital currencies are the dream of starry-eyed politicians who think printing currency can solve a country’s problems. One need look no further than the digital currencies issued in Ecuador and Venezuela.
Amid a humanitarian crisis, partly as a result of mismanaging its paper fiat currency, the Venezuelan socialist regime created two state-backed digital currencies: the petro and petro gold. The latter is allegedly pegged to the value of oil, gold and other precious metals, but it never took off due to the lack of trust in the government.
Officials have tried forcing Venezuelans to use petro, but they prefer bitcoin and U.S. dollars. No reputable cryptocurrency exchange lists petro.
Cryptocurrencies tackle externalities
One reason keeping Canada from launching a central-bank digital currency is that it creates more problems than it solves.
Unlike bank accounts, cryptocurrency wallets are privacy-oriented and autonomous; only the holder of a wallet’s private keys exerts control over it. If a central bank aims to retain these features, it must deliver citizens the private keys to their wallets. However, no third party would be able to assist them if they lost those keys; responsibility ultimately falls on end-users. If enough constituents lose access to their wallets, politicians would have their heads on a plate in no time.
This means a central-bank digital currency would be a watered-down version of cryptocurrencies with few attractive features. They are likely not to displace but to coexist, with bitcoin, ether and other cryptocurrencies. According to the Bank of Canada, such diversity undermines the effectiveness of a central-bank digital currency. Is it worth all the trouble and the cost?
Whereas full privacy and autonomy may be a nonstarter for central-bank digital currencies, private cryptocurrencies can thrive on them. Developers are achieving user-friendly solutions so everyday clients can safely hold and use private keys.
Open-source ecosystems give developers the incentives and tools for quick trial-and-error processes. Central banks, bound by politics and archaic bureaucracy, can’t offer the same creative conditions.
Rather than trying to stop the inevitable, the Bank of Canada must work together with other financial authorities and develop smart regulation for cryptocurrency and blockchain initiatives.
By doing so, Canada can not only be at the forefront of digital money, it can also become a hub for financial technology entrepreneurship.
Paz Gómez is a research associate with the Frontier Centre for Public Policy.