Central Bank Digital Currency Conversation: Part 1

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Introducing Our Ongoing CBDC Conversation

The talk of central bank digital currencies (CBDC) have taken the central banking scene by storm. Bankers and academics around the world are attempting to make sense of digital currencies role in our financial systems. In order to better understand the magnitude of this subject, El Cooperativo is kicking off the conversation by exploring the subject of CBDCs through this ongoing thread. Subscribe to El Newsletter to stay up to date on the subject, add your thoughts in the comments below, and learn about the arguments on all sides of the discussion.

Part 1 explores our humble beginnings in currency, the changing dynamics of central banking, and an introduction to central bank digital currencies.

What is Currency?

Currency is any medium of payment that is accepted by all parties of a transaction. Money evolved from bartering into gold, from gold into coins and bank notes backed by gold, and now, in the US, bank notes (mostly digital) backed by the strength and trustworthiness of the US economy. It's transformation has been rather reactive in nature as we attempt to tweak it to better serve our economy.

The Great Depression proved to be an event that central bankers in the 1930s could not overcome under the gold standard. With inflation on the rise the US government had limited tools to stimulate the economy. The amount of money in circulation was directly tied to the amount of gold on hand; therefor, they couldn't simply print money as they do today.

Britain stopped using the gold standard in 1931 and the US started the process in 1933, officially adopting fiat currencies. After 5,000 years of using gold as currency, there are no countries left that use the gold standard today.

Our future with money is complicated as we invent new mediums of payment all the time. Cryptocurrencies are taking the world by storm leaving investors and governments alike wondering how it will serve us. Crypto is used as an anonymous, decentralized payment system with an ever-expanding range of uses; one of them being inflation hedging.

Inflation Hedging

Investment gurus like Charlie Munger are openly against cryptocurrencies calling bitcoin "disgusting and contrary to the interests of civilization." Munger says that bitcoin is a type of alternative to gold, which tends to be a regular comparison made while one attempts to place bitcoin among the ranks of existing financial assets. Unlike gold, bitcoin has experienced a rather volatile history; growing by 5,000% over the past five years and regularly taking 10-20% plunges within days.

Gold is famously stable as investors might buy it if they expect inflation to eat away at their buying power. During covid, however, cryptocurrencies have offered much better return than gold for investors seeking a hedge against inflation. Furthermore, the production of stable coins has given cryptocurrencies more of a gold-like stability if that is what one seeks.

Now, we shall see how gold and crypto compete against each other as inflation is on the rise due to supply chain issues around the world. The fate of these currencies likely lies within the regulation we will witness around the world. China has banned the trading of crypto as they roll out their own digital renmimbi (RMB).

This is not surprising as their communist party attempts to control more aspects of their economy. Bitcoin, though, responded by continuing to increase in value, almost out of spite. The Fed has talked of their own digital dollar but is still years behind their Chinese counterparts.

Central Bank Digital Currency

As previously mentioned, the future of currency is impossible to predict as these technologies are developed faster than we can regulate them. The Federal Reserve recently released a paper soliciting public opinion on a potential central bank digital currency (CBDC) in the United States. The Fed has not yet taken a firm stance on whether they believe a CBDC would be beneficial, but many influential central bankers have made their case against CBDCs.

Christopher Waller, member of the Federal Reserve Board of Governors made a speech earlier this year expressing his viewpoint on the subject. He says that a CBDC would not fill any void that the private sector is not already filling. His argument states that digital currency is already in place as a liability of commercial banks. The question then becomes: What is the role of the Federal Reserve?

In 2021 the Fed's customers are commercial banks; commercial banks customers are individuals and business entities. Monetary policy, then, trickles down to us via the private sector. Some argue that's the way it should be as "the market is well-equipped to provide assurance (FDIC) and financial services at the lowest cost possible." Others argue that a CBDC would increase the scope of monetary policy, provide more competition in financial services (lower prices), and decrease inequality.

As we move further away from our humble beginnings as a gold standard country we should ask ourselves how the Fed should interact with us moving forward. Private sector financial professionals pay themselves a lot of money to act as the intermediary between the Fed and us. As financial services continues to evolve, our monetary policy could too, but should it? Join el conversation now.

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