Are central banks planning to issue their own digital currencies? If so, is there anything to fear? Those are the questions at hand today as reader Ken asked “Could you post your opinion of Fedcoin?”
What is Fedcoin?
Fedcoin is a digital currency proposal that would use the same blockchain technology as Bitcoin. Every penny could be traced to someone. Unlike Bitcoin, Fedcoin would not have a limited supply.
A Newsweek opinion column by David Andolfatto addressed this question Should the Fed Issue Its Own Bitcoin?
Fed Investigating Fedcoin
David Andolfatto is Vice President of the Federal Reserve Bank of St Louis. That tells you the Fed is seriously investigating Fedcoin.
Andolfatto listed these positives of “Bitcoin”.
- First, it’s monetary policy reduces the “hot potato” motive of economizing on money balances—that is, it offers the prospect of being a decent long-run store of value.
- Second, anyone with access to the internet can access an account (a public/private key pair) for free—like cash, no permission is needed. The public key is like an account number and the private key is like a password. Account balances remain secure as long as the private key remains secure.
- Third, like cash, no personal information is necessary to open an account, so no need to worry about securing private information.
- Fourth, like cash, Bitcoin is censorship resistant—no one can prevent you from spending/receiving Bitcoin from whomever you like.
- Fifth, Bitcoin can offer a greater degree of anonymity than bank deposit money, but less so than cash (unlike cash, the blockchain ledger is visible and public).
- Sixth, the entire money supply (blockchain) lives on a replicated distributed ledger—it lives simultaneously everywhere—so that “sending money somewhere” means updating the ledger on all computers everywhere. There are no banks, there are no borders.
- Seventh, the user cost of transferring value is relatively low.
Those positives pertain to Bitcoin. Point number one does not pertain to Fedcoin. Dollars issued by the US treasury have no maximum amount.
Point number four is false under Bitcoin and Fedcoin. People have been convicted of Bitcoin money laundering.
Andolfatto’s Recommendation
My own recommendation is for central banks to consider offering digital money services (possibly even a cryptocurrency) at the retail and wholesale level. There is no reason why, in principle, a central bank could not offer online accounts, the same way the U.S. Treasury presently does (www.treasurydirect.gov).
These accounts would obviously not have to be insured. They would provide firms with a safe place to manage their cash without resorting to the banking or shadow banking sector. They would give monetary policy an additional instrument—the ability to pay interest on low-denomination money (possibly at a negative rate). To the extent paper money is displaced, there would be large cost savings as well.
It’s hard (for me) to see what the downsides are in having a central bank supply digital money. Critics might argue that it leaves people exposed to potentially poor monetary policy. This may be true and, for these people, currency substitutes should be available (including Bitcoin).
I don’t think we can expect anything like this in the near future, but it is technologically possible. Of course, people will complain that Fedcoin will inspire illicit trade, etc. But again, the same is true of regular central bank issued cash.
The Downside
Andolfatto glossed over the downside but he did state one key point: “Critics might argue that it leaves people exposed to potentially poor monetary policy.”
Yes! That is precisely the concern.
Mandated use of Fedcoin and the elimination of cash would let the government track every dime.
Expiring Money
As long as physical currency circulates, there is likely a limit as to how insane central banks can get with negative interest rates. At some point, people will pull out money and elect to hold cash.
Eliminate cash, and limits on negative rates and expiring money go out the window.
Expiring money is an absurd concept, but it is precisely what economist Greg Mankiw has proposed to defeat deflation (See my April 21 2009 article Economist Mankiw Defends Policy of Theft).
Mankiw’s proposal was to look at the last digit of currency and if it ended in a number drawn at random it would be worthless.
Such a proposal would have increased the demand for treasuries, euros, gold, etc., causing an immediate run on banks. Every vending machine in the county would have needed to track the digits on dollars, etc.
There are other oddities that make the proposal idiotic, but Mankiw stood by it.
With Fedcoin, money might not expire the same way, but the same effect could be produced with a tax on money or a tax on money above a certain amount.
Were the latter tried, it would create another immense asset bubble in something.
The downside risks of forced use of digital currencies should not be underestimated. That’s yet another reason we need to end the Fed and let the market decide what money should be.
I have no doubt that in the absence of government mandate, the free market would overwhelmingly select gold.
Mike “Mish” Shedlock
so there just substituting currency …..
Money provides readily exchangeable stored value. Expiring currency is not money. Other stores can substitute. Gold, silver, cut diamonds, real estate, bitcoin, common stock certificates, and cocaine have exchangeable stored value.
The Constitution grants the Feds power to mint metal coins. Expiring currency was never intended. Taxing currency is permitted. Taxing exchanges of currency is permitted. However the tax defeats the utility of the currency and promotes barter.
Bitcoin values flux, but the supply of bitcoin is securely limited. It remains to be seen whether a bitcoin account on a flash drive accessed from a public computer is anonymous. Such a flash drive is small enough to be freely exchangeable.
Corrupt governments such as the Federal Reserve have ever and always debauched their currencies. Substitutes always suffice.
Thank you Mish. I agree the downside to too great. Like my Mom says “we are living in interesting times”.
The PBOC is seriously studying digital currency. I wouldn’t be surprised if they’re the first to launch one, since there are far fewer privacy rights. National ID# would be the address and nearly all financial activity would be visible by the government.
I do not think that even Orwell imagined that Big Brother would go to that much detail in observing & controlling people’s lives.
Wow. There’s so much to hate about this idea. Where to start?
I’ll limit myself to just two reasons why this is an abomination.
1) During the occupation of Germany after WWII, the Western Allies abruptly changed the Reichsmark for the Deutschemark, with a sliding scale of exchange rate,
“The Deutsche Mark was officially introduced on Sunday, June 20, 1948 by Ludwig Erhard. The old Reichsmark and Rentenmark were exchanged for the new currency at a rate of DM 1 = RM 1 for the essential currency such as wages, payment of rents etc., and DM 1 = RM 10 for the remainder in private non-bank credit balances, with half frozen. Large amounts were exchanged for RM 10 to 65 Pfennig. In addition, each person received a per capita allowance of DM 60 in two parts, the first being DM 40 and the second DM 20”
https://en.wikipedia.org/wiki/Deutsche_Mark
So, they could do this to the dollar overnight if all accounts are electronic, and there would be nothing to stop them from giving you 65 cents for a notional $10 bill, or even less. They would own your money, not you.
They already pulled this trick with making gold illegal in 1933, but that was harder because gold is a physical object. Electronic money is easy to steal.
2) What if the power goes out? Anything from a squirrel in a transformer to a terrorist attack to a solar storm could shut down the economy for days or weeks. When EBT cards went out for a day there were near-riots in Walmart. What if nobody can buy food for a day, a week, or a month?
Nobody has mentioned the IT technical reason NOT to do this. What if the system is hacked (talk about a target for enemy nations).
In Brazil, as soon as the Collor administration started in early 1990, in order to combat galloping hyperinflation, cash was effectively suspended. Bank account holders could only withdraw $50 and companies had severe limitations too. The results were obvious: shelves went empty, working hours were cut (I worked only 3 days per week, with corresponding paycut), massive layoffs, etc. More amusingly, if it weren’t painful, inflation picked up again, since merchandise, especially essential items, like food, became scarce and expensive. After a few weeks, the policy was reverted and inflation resumed its merry pace to the stratosphere.
What developed countries are musing now, suppressing cash, has been tried before is less subtle ways, but the results now will not be as subtle. Rather, mark my words above, or worse.
Imagine the boon to tax collectors when every transaction is trackable, identified, and maximally taxable unless the taxpayer has extensive records identifying each and every transaction’s status as income, expense, or capital purchase.
No more will those craigslist sales, garage sales, drug transactions or under the table jobs be free of taxation.
However, it’s never a better time to be a 501-c3 and solicit donations, “For the Children!”, with a 90% administrative cost rate…
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