2020 has been a year for crypto industry themes muscling their way into the mainstream economic discourse. Bitcoin as an inflation hedge has, for example, taken its place in the macro discussion. But it isn’t the only example.
In the wake of pandemic shutdowns and the resulting extraordinary acts of monetary and fiscal policy, the discussion of central bank digital currencies has grown significantly. Central banks are coming to recognize the difference between the electronic money we have today and the opportunities of truly digital money to come, and are consequently scaling up their efforts around research and even digital currency pilots.
Central banks, however, are not the only actors in this space. Private-sector stablecoin networks are already deep into the journey of developing standards, assets and infrastructure – the new rails for the digital money age. It is our belief that global stablecoin consortia will continue to outpace CBDC efforts until there is an inevitable convergence.
To understand the new system of digital money emerging, it’s important to understand the current system it is augmenting (and maybe one day replacing). While fiat money is issued by governments, the way that money works is actually an alliance of private consortiums and governments.
In the U.S., for example, the U.S. Treasury Department’s Financial Stability Oversight Council has the authority to label private firms as “Systemically Important Financial Market Utilities.” These are banks, exchanges, and core settlement networks, utilities and other types of companies that U.S. regulators view as too important to the functioning of the overall economic system to fail and so are subject to additional regulatory supervision. The Bank for international Settlements’ Committee on Payment and Settlement Systems also designates Systemically Important Payment Systems.
It’s not just that governments explicitly recognize institutions as systemically important that shows the public-private alliance that underpins the financial system. Throughout modern history, innovation in how consumers and institutions interact with money has come from the private sector. These innovations tend to be matured through consortiums that set standards which are later officially sanctioned by regulators.
Two easy examples spring to mind: the SWIFT system and credit card networks.
The Society for Worldwide Interbank Financial Telecommunications (SWIFT) system is the messaging network used by global financial institutions to send financial information - most notably, money transfer instructions. Before SWIFT there were no standards around how transaction instructions were communicated, leading to many human errors. In 1973, six large global banks formed a cooperative to create the network of standards that today supports more than 11,000 member institutions who represent 33.6 million transactions per day.
Credit cards have a similar story. In the 1950s, individual banks started issuing cards, but it wasn’t until 1966, when a group of California banks formed something called the Interbank Card Association to issue MasterCard, that the idea of card networks that would be easily recognized and accepted as standards really took off.
Today there is a new innovation being driven by a similar type of private-sector consortium: the transition from electronic money to digital money.
To understand how this transition is happening, it’s important to first understand why it’s happening. Isn’t today’s electronic money good enough? Truly digitally native money is different from (and represents an improvement over) today’s electronic money representations in a number of ways:
- Digital monies are cash-like bearer assets
- They can be transmitted over open internet protocols
- They can operate without a centralized processor or clearing agent, peer to peer
- They are programable on public networks using smart contracts
- They offer improved privacy and security
- They offer near-instant settlement at virtually zero cost
Lower speed, more utility and new opportunity make this a shift that is almost inevitable. The question is where innovation is going to come from: central banks or the private sector?
Let’s first take a quick look at where central banks are in the development process. In the U.S., possessor of by far the most dominant global reserve and settlement currency, the Federal Reserve has been researching the possibility of a digital dollar. In every interview on the subject, however, Fed Chair Jerome Powell has made clear no decision has been made. The European Central Bank is currently in a public comment gathering period on a digital euro, with President Christine Lagarde suggesting a digital euro is likely. Europe, in particular, has seemed particularly keen on the easier ability digital currencies give policymakers to distribute aid and articulate more precise monetary policy.
In both these situations, an official central bank-produced digital version of one of the world’s leading reserve currencies seems years off, if not longer. Simultaneously, there are many smaller nations that are at least talking a quicker talk about a CBDC. The Bahamas has a fully launched CBDC; pilots have been completed in Ukraine and Uruguay and dozens of countries from Brazil to Turkey are in some form of active research.
The farthest along CBDC from a major economy, however, is China. China's Digital Currency Exchange Protocol (DCEP) is in active trials with consumers and merchants, having already processed hundreds of millions of dollars worth of live transactions.
In many ways, however, China’s advancement in this area should be seen as a challenge. While Western governments are grappling with real questions of user privacy and financial freedom, China sees its digital currency as another way to surveil transactions and keep an even tighter grip not only on its own economy but also as a way to project its power internationally.
Put differently, the places where digital currency could be a tool for reducing costs, increasing opportunity and advancing financial freedom are years behind in development.
At least, that’s what it looks like if you only look at government-initiated efforts. As we argued above, financial infrastructure innovation has nearly always come from the private sector first, and this time is no exception.
By any accounting, 2020 has been a breakout year for fiat-backed consortium led stablecoins. USDC, for example, has grown ~500%, from $400 million in circulation at the beginning of the year to nearly $3 billion in circulation now. On-chain transaction volume has increased similarly – growing by more than $200 billion. The digital asset industry infrastructure for this type of asset has also improved this year, with the rollout of multichain stablecoin infrastructure that demonstrates these assets can keep up with layer 1 protocol innovation around speed, scale and security.
One recent announcement from the Centre Consortium reinforces this theme of a major maturation in the private stablecoin space. The consortium has just announced that Wall Street veteran David Puth would be joining as its new chief executive officer. David has a storied, multi-decade career with firms including JPMorgan Chase and State Street. Most recently, David was CEO of CLS Bank International. A global consortium owned by 70 financial institutions aimed at supporting global foreign currency exchange and settlement, CLS supports over $1.7 trillion in transactions daily and has been designated by FSOC as one of the world’s Systemically Important Financial Market Utilities.
David’s decision to take his experience at one of the current financial systems most systemically important firms and bring that to the private stablecoin space is one more piece of evidence of the growing significance of this industry.
Over the next 12 months, Centre anticipates a true blossoming, from more major players and partners joining the consortium to more fiat currencies being issued under these standards, to support for those Centre standards on a growing number of blockchains.
We also anticipate a deepening engagement with regulators and central banks around the world. As the drums continue to beat for a deeper commitment to the benefits of digital currencies, the natural innovation partnerships between private sector actors and governments will again serve this space.
We believe the future of digital currencies is bright, and that today’s current division of private-sector currencies versus central bank coins will increasingly converge.