Agustin Carstens, Bank for International Settlements (BIS) general manager and a noted bitcoin critic, has said that the launch of central bank-backed crypto assets could undermine financial stability.
During his speech at the Central Bank of Ireland, the BIS official said:
“There are huge operational consequences for central banks in implementing monetary policy and implications for the stability of the financial system. Central banks do not put a brake on innovations just for the sake of it. But neither should they speed ahead disregarding all traffic conditions.”
Considering the role of central banks in maintaining stability in the global financial market, the integration of decentralized crypto assets or blockchain-based solutions could present a risk.
However, it remains unclear whether permissioned blockchain networks or centralized ledgers present a similar risk given that central banks could arguably have tighter control over the circulation of money.
Bitcoin is Decentralized But Permissioned Blockchain-Based Crypto Assets Aren’t
Bitcoin is a truly decentralized and a peer-to-peer blockchain network that is sustained by an open-source community of developers, miners, node operators, and users.
As such, unlike cash, it is not possible to manipulate the supply of bitcoin given that it’s fixed at 21 million. In that sense, bitcoin is a deflationary currency.
Central banks, however, take on a key role in adjusting interest rates and controlling the circulation of money in their respective regions. Based on the outlook of the central bank, the rate in which cash or new money is produced can be determined.
Depending on the state of the economy, the central bank decides on its benchmark interest rate, the rate of inflation, and the rate at which cash is distributed to either slow down or fuel the market.
Agustin Carstens has admonished crypto programmers to leave the task of creating money to the bankers. | Source: Flickr/IMF
The concern of critics towards central bank-backed crypto assets is that the central bank may not be able to demonstrate or exercise a similar level of control over money when the monetary system moves from a cash-based to a digital currency-based system.
This would be an accurate assessment if decentralized and peer-to-peer currencies like bitcoin are implemented. For a centralized blockchain network and a closed-source cryptocurrency which a central entity has control over, the central bank would be able to have full control over its supply, circulation, and distribution.
As a Bank of Finland research paper on the economics of bitcoin read:
“Bitcoin is a monopoly run by a protocol, not by a managing organization. Familiar monopolies are run by managing organizations with discretion to determine and then change prices, offerings and rules. Monopolies are often regulated to prevent or at least mitigate their abuse of power. Bitcoin is not regulated. It cannot be regulated.”
“There is no need to regulate it because as a system it is committed to the protocol as is and the transaction fees it charges the users are determined by the users independently of the miners’ efforts.”
But, when a permissioned ledger is implemented, then the crypto asset based on the ledger would be run by a managing organization, reducing the risk for central banks and whichever financial entity that controls it.
JPM Coin is a Good Example
Earlier this year, banking behemoth JPMorgan created JPM Coin, a crypto asset representing the value of the U.S. dollar to process payments.
Umar Farooq, head of Digital Treasury Services and Blockchain, wrote:
“We have always believed in the potential of blockchain technology and we are supportive of cryptocurrencies as long as they are properly controlled and regulated. As a globally regulated bank, we believe we have a unique opportunity to develop the capability in a responsible way with the oversight of our regulators.”
“Ultimately, we believe that JPM Coin can yield significant benefits for blockchain applications by reducing clients’ counterparty and settlement risk, decreasing capital requirements and enabling instant value transfer.”
JPM Coin could be the first permissioned or centralized cryptocurrency that is actively utilized to transfer value and process transactions with a model that could be considered by central banks in the long run, especially in regions with declining demand for cash.