The age of digital currencies is approaching
Unlike other cryptocurrencies, China’s DCEP is endorsed by national credit. Photo: FILE
The era of the digital currency is getting closer. Fan Yifei, deputy governor of the People’s Bank of China (PBOC), said recently that the country will adopt the principles of stability, security and controllability, and it will carefully select the regions, scenarios and service scopes for the process of research and testing. Also, it will continue to optimize and empower DCEP’s functionality and safely promote its launch and application of the digital currency.
Difference from e-payment
The PBOC started to research the digital currency in 2014. Now, DCEP is mature enough to launch. If DCEP comes into force, will all RMB be replaced by digital currencies? Will cash disappear?
“I’ve never thought that China would move to a cashless society. I might use the concept of ‘a society in which cash plays a minor role,’ said Mu Changchun, deputy director of the Payment and Settlement Department of the PBOC. Currently, DCEP is designed as a replacement of the M0 rather than M1 or M2 because the latter two systems are shown in digital and electronic form. There is no need to use cryptocurrencies to digitize them.
M0 refers to cash in circulation. In other words, the digital currency DCEP will start with replacing paper currency and coins in circulation. Household deposits, corporate deposits and other money in bank accounts are already in digital form, so there is no need to repeat the construction.
Mu said that the state digital currency DCEP will replace M0. No interest is claimed on cash, so the launch of the digital currency will neither trigger financial disintermediation nor tremendously impact the existing real economy. In addition, DCEP will be adopted in small-volume retail scenarios, so it will cause no crowding-out effect on deposits.
What is the difference between the use of DCEP and other digital payments such as WeChat Pay or Alipay? Mu explained that for ordinary people, the difference is relatively blurred in terms of function, but DCEP varies greatly from other digital payments concerning how to make these functions possible. For example, DCEP supports transactions without internet coverage.
Many people use cash for anonymous transactions. Will the introduction of the PBOC’s legal digital currency DCEP end anonymous transactions?
Mu said that DCEP maintains the attributes and main characteristics of cash. Being portable and anonymous, it is a proper tool to replace cash. The digital currency adopts a mechanism of controlled anonymity to meet people’s legitimate needs for anonymous transactions. Meanwhile, it must also perform functions such as combating actions of money laundering, terrorist financing, online gambling and cybercriminal activities.
This also means that, unlike Bitcoin and other cryptocurrencies that emphasize decentralization, DCEP will still apply a centralized management approach. Regarding issuance, the central bank (PBOC) will first distribute DCEP to banks or other operating institutions and people can exchange DCEP at these institutions. The PBOC remains in the central position in this process and it designates agencies for DCEP distribution. The centralized mechanism helps to prevent excessive issuance of currency by the designated agencies. It makes no change to the current account system or the implementation of monetary policy.
Comparison with Libra
The most critical difference between legal digital currency and Libra is price stability and whether there is a national credit endorsement.
Unlike DCEP, Libra was proposed by multiple companies. Libra is designed to become an international reserve currency that is decoupled from sovereign countries and can maintain long-term currency stability. According to the Libra White Paper, its biggest difference from most cryptocurrencies is its using 100% real assets as reserves and guarantees, so that users can exchange Libra into legal currencies such as US dollars and euros at any time. It aims to serve as a stable currency by pegging to legal currencies. The stability of the currency is the key to its acceptance.
In the era of credit money, how Libra can earn trust is another major problem. Libra, whose sponsors are several companies, have no national credit endorsements. The absence of sound supervision may breed criminal activities such as money laundering and terrorist financing. Due to a crisis of trust, many companies, including Visa and Mastercard, have announced their quitting Libra.
Tim Murphy, the general counsel of Mastercard, said that the main concern of the withdrawal is compliance. The cooperation between the two parties must follow local regulatory requirements concerning such aspects as anti-money laundering and knowing your customer (KYC) regulations. But in terms of compliance, Libra obviously has a long way to go.
Can people accept Libra? Can it be used as a major currency? Ravi Menon, managing director of the Monetary Authority of Singapore, said that most people prefer using digital currency in mobile phones in small-volume payment scenarios. But the bigger question is how many people will invest their life savings?
Cryptocurrency competition
From a global perspective, the digital currency competition has just begun. The emergence of Libra has led to the catfish effect, and global discussions on legal digital currencies are becoming more enthusiastic. Countries have taken precautions and accelerated research on legal digital currencies. Even the European Central Bank, which seemed to show no interest before, has recently considered the need to develop a unified digital currency. A report released by the International Monetary Fund (IMF) in July 2019 observed that nearly 70% of central banks around the world are working on legal digital currencies.
Many people worry that when Libra is in circulation, it may become a strong currency and develop exchange relations with many countries’ currencies, thus eroding legal currencies. Once countries make regulatory mistakes, Libra is prone to cause hyperinflation and “expel local currency.” For example, Zimbabwe abolished its currency and was forced to adopt the US dollar and other currencies.
Zhao Yao, a guest research fellow at the Institute of Finance at the Chinese Academy of Social Sciences, pointed out that if cryptocurrencies such as Libra are successful in retail payment applications, they will form competition with legal currencies.
Zhao said that Libra’s design has many similarities with the DCEP. The 100% reserve issue method adopted is the same as the DCEP scheme. They both will be used in retail payment scenarios, so there will be a direct competitive relationship between Libra and DCEP.
“Libra will also become a blocker,” Zhao held that the Libra project targets cross-border financial services, especially cross-border retail payment. This will form a more direct market competition with China’s digital currency as the country hopes to promote its mobile payment model across the world. Dollarization has a deep historical foundation and impact in the world, making it harder for DCEP solutions and products to “go global.”
“We should plan ahead and take precautions,” Zhao said. There is a huge investment demand for Libra reserve assets, which is likely to cause financial markets to stumble and thereby create new instability factors. More attention should be paid to the possibility of systemic financial risks as its scale expands.
Zhao said that the implementation of cryptocurrencies will be very fast, which is completely different from the replacement of traditional currencies. Once a cryptocurrency is successful, it becomes difficult to regulate and restrict it. In the process of promoting digital currency in China, we must absorb advantages and learn from other countries’ experiences. The process will also fuel RMB internationalization.
This article was translated from Economic Daily.
edited by MA YUHONG