Cryptocurrencies: What added value?

Euro50 Group Conference, 16 October, Washington, D.C., prepared remarks

Ladies and Gentlemen,

I'm most grateful to the Euro50 Group for their invitation to speak to you today. The subject of this session, Cryptocurrencies: What added value? seems to have an ever so tiny hint of cynicism which however, I’m glad to report, I shall completely ignore. Cryptocurrencies have changed the debate about money and probably represent the most important source of financial innovation of the past 10 years. They have inspired many financial applications and given rise to consideration by central banks to introduce central bank digital currencies (CBDC). I have been working on a number of leading CBDC projects with Accenture over the past few years including among other E-krona, Jura, Khokha 2, mBridge. Money or better said currencies have rarely been subject to more interesting and transformative developments.

I shall first define what cryptocurrencies are. But before I do that, I shall also briefly describe what money is. Money is issued mostly by the private sector being liabilities of the banking system. Central banks also issue money of course comprising banknotes, accessible universally, and reserves that can typically be held by banks only. The bulk of money though are bank monies. The new thing about cryptocurrencies is therefore not that they are being issued by private sector entities but that they are being issued by non-financial institutions. I shall call currency, though normally a term reserved to means of payment issued by a central bank, any instruments that exhibits properties as a payment instrument with some characteristics of broad or near universal acceptance. The fact that many cryptocurrencies are highly volatile should not disqualify them as currencies as many national currencies exhibit similar exchange rate patterns.

Cryptocurrencies are normally identified as means of payment typically issued on blockchain and other distributed ledger technologies (DLT) platforms. The technology used by cryptocurrencies shall be secondary although the new functionalities it provides is one of its most important traits. One question that is still often being asked about the energy consumption of blockchain today is really limited just to bitcoin. The main cryptocurrencies, bitcoin and ether, are issued and processed by non-tangible entities, computer networks, and should be treated not dissimilar to gold. Gold is a commodity that does not represent a liability of anyone and can serve as means of payment. Other cryptocurrencies including stable coins like tether and USDC represent monetary liabilities akin to bank deposits, e-money or units of money market funds. Therefore, e.g., bitcoin and tether are two very different types of currencies.

Bitcoin and tether are floating rate currencies. Tether and USDC are fixed rate. The latter two give rise to a promise, I think it is fair to say that it is a mere promise and not an obligation, to convert a tether or USDC coin on demand and at par into a dollar. Tether and USDC do not constitute liabilities of Tether Limited and Circle, respectively, nor a claim on the assets held as reserves unlike for example a bank deposit or money market fund. Stable coins work and that there is nothing to suggest they should not. The so-called crypto winter seems to have been affirmation that while there are inherent risks with stable coins, they are no inherent flaws. Those risks are of course very similar to any fixed exchange rate, that is, fixed exchange rates are fixed until they are no longer fixed.

A special category of cryptocurrencies are bank liabilities issued on blockchain. In principle they are similar to any other bank liability. But a bank-issued crypto would combine features of a bank deposit and a payment instrument like a cheque. It could be used directly to conduct payments in the same way a cheque can be reassigned to a merchant. Bank issued cryptos would allow banks to offer native payment instruments on alternative financial market infrastructures.

Utility coins in contrast, similar to air miles, while they may be used for payments and represent monetary value, are typically restricted to a very limited ecosystem, that is, you can use Lufthansa airmiles mostly to fly with Lufthansa and its Star Alliance partners. Utility coins should therefore not be considered currencies.

Why then do cryptocurrencies add value? The value added of cryptocurrencies rest in large part in driving financial innovation, diversification and competition. Cryptocurrencies live on new financial market infrastructures, the blockchain, and rest on peer-to-peer relations allowing to recalibrate how monetary relations are being formed. Unlike in today systems where payments are intermediated by isolated financial institutions that manage each their own ledger and can only communicate via secure messages with no inter-operability, information is shared only through reconciliation and where money never moves, the blockchain is about using a common ledger, where needed information is shared instantly and money actually moves. The blockchain-based payment architecture could therefore not be more different from the current system. This is not to say that a blockchain-based architecture can do everything better. They cannot but for certain types of payments they excel.

Cryptos are new mediums. They are bearer instruments unlike other electronic currencies and offer new functionalities like programmability that make them smart and embed the most complex business logic in particular for so-called bi-directional trades like payment versus payment and delivery versus payment transactions. They offer traceability to address new use cases and confidence about the provenance of a payment.

Cryptos fundamentally change payment processing. Payments is a combination of different steps including the discharge of debt or payment execution, clearing, netting and settlement. With cryptos the payment is the settlement like tending a bank note. Four processes collapse into one. It should bring considerable efficiency gains.

To conclude, cryptocurrencies have given rise to new actors in payments and have been a key driver in reminding many of the persistent deficiencies in particular in international payments and financial inclusion. One of the biggest contribution of cryptocurrencies has already been how they changed the debate about money and what money can or should do.

Cryptos form an important part towards greater diversification, functionalities and competition in payments. I often hear the question what problems do cryptos trying to solve? I think it is the wrong question. It is backward looking and can only serve to address problems we know of today. Cryptos are forward looking to meet new payment demands some of which we may not even know about today.

Thank you for your attention.