The False Utopia of CBDCs and Why Decentralized Stablecoins Reign Supreme
The government is watching! And with good reason. Cryptocurrency has always had a strong counter-power narrative built into it. “Dirty fiat!”, exclaims the forum crowd. Whether this narrative is quite borne out by reality when you consider the aggregation of Bitcoin in the hands of a few oligarch whales remains an open question — and not entirely the point of this article. Yet the fact remains that decentralized money systems that are free of the government’s legal mitts and control do reduce — ultimately — the power of national governments in our daily lives. So naturally, with the advent of the industry, they want in.
Why Nation States Are Looking Into CBDCs
The fact that Bitcoin hasn’t failed a transaction for thirteen years — a transaction that contains payment and settlement — has begun to stir the loins of governments as they wonder how to capture this nascent technology for their own aims. Running the world’s money systems on the blockchain, even if they were copies of their current guise, does make sense. Many experts have begun to state that the federal reserve “should issue — maybe needs to issue — a CBDC” — a central bank digital currency.
Multiple countries are currently working on their own whitepapers and considering launching digital versions of their fiat currencies. China’s Digital Yuan is the most advanced, but replete with critiques, as trials are launched in various parts of the country. The U.S is slow, but perhaps anxious about how the Digital Yuan might threaten the dollar as the world’s global reserve currency. Christine Lagarde has already mooted an EU crypto-coin by 2025, and of course the UK has dubbed their plan for a CBDC “Britcoin”.
Security, verifiability, fungibility and settlement are all top procedural issues with money that blockchain solves well. When you start to explore the utility of more modern coins — it makes further sense still. A fairer, fee-less payment system — whether in hands of the government or not — promises to strip away so many bureaucratic complications that surround every financial exchange, ranging from paying taxes, settlement of international investments, and everyday retail transactions. In a Citibank report, governments cited financial inclusion and domestic payment efficiency as the main reasons for exploring the use of CBDCs.
CBDCs, despite the threat of their panoptic glare, offer plenty of value for citizens who use it. U.S stimulus checks wouldn’t have taken weeks to arrive and cash — they would’ve just suddenly appeared in citizen’s wallets. There is also a chance for better integration of the general public’s money in economically potent blockchain economies. Another benefit of CBDCs would be how their wide implementation would transform the antiquated payments systems of countries like America, who still use ACH and the wire transfer system. This system, designed in the early 20th century, is just not fit for purpose — and which acts as a major drag on prosperity, but which without digital overhaul, will likely limp on. In Cambodia, a trial implementation of the Bakong has seen fantastic success, and will doubtless be a precursor to a further rollout across the country.
Defining CBDC Types
Governments are currently focused more on the domestic, retail General-Purpose CBDCs than they are in considering wholesale CBDCs.
In a general-purpose CBDC, there are two options. Governments are considering the use of account-based systems, where a citizen would hold an account with the central bank of the nation, which would be credited appropriately. Every account would be connected to a registered identity. A token-based general purpose CBDC could be issued by private institutions, and ratified with the central bank — whilst also providing a comprehensive payment system for the general public, is appealing. It would help pre-empt the more global nature of currency in the modern internet age, and help fiat currencies plug in, with government oversight, into the Web 3.0 economy — leading to national economic growth.
A wholesale CBDC opens up opportunities for reducing the costs of inter-bank transfer, wholesale liquidity pools, and even opening up cross-border payments in the future, but are less effective as a payment mechanism for the general public, as regulated intermediaries would still be interlocuting with the central bank.
The Threat of Oversight
For even the most casual observer of crypto, however, the idea that governments will mint, control, track, trace, inflate, deflate and govern the use of any and all transactions with their coin seems to be missing the point of the crypto game. This goes against the original thesis behind crypto of creating community-based value that is preserved in the hands of the people.
Add to that the fear of the state moving in, via the crypto backdoor, to full visual oversight over the ledger of their nation’s transactions, does seem invasive even to ardent proponents of big state politics. In the scariest model, a CBDC would be an account-based system where every individual is directly tied — and monitored — by the central reserve. Taxes, punishments, and deflation could be applied to any individual’s account at the whim of the state.
Ministers in the UK have even discussed with the Bank of England whether “Britcoin” should be “programmable”. This means that issued currency can only be spent on what the state deems fit, as its transaction parameters will be preset. What if the state decides “no, you can’t buy that magazine today.” or “we’re going to cancel your subscription because we deemed you can’t afford it”? What if benefits paid out to those in need can only be spent on food, clothes, and — let’s say due to intense lobbying — cigarettes? Who has the right to make these choices?
In such scenarios, suddenly the political armature of the state has total control over a section of society that relies on it — immediately fostering an ‘underclass’ — a state of affairs that breaks the social contract we all live under. Gibson paints a picture in the opening lines of Neuromancer, “It was difficult to transact legitimate business with cash in the Sprawl; in Japan, it was already illegal.”
There is certainly public understanding of this, with most Europeans saying that privacy is the most important feature of any Digital Euro CBDC. Resistance of the command and control technologies made so potent by the advent of pure digitization is, certainly, the most unspoken but essential political battlefield of our time. So, when considering CBDCs, there would be obvious legislative obstacles to such an eventuality, but given the political tumult we are witnessing in the west — it’s a short hop, skip and jump to such dystopian futures.
Crypto tokens which are stable representations of real-world national currencies are important to the success of the crypto space, as they remove volatility concerns and bank the unbanked.
Given the less than ideal future offered by CBDCs, then, why settle for central bank-backed digital currencies, when fully decentralized counterparts already exist on the blockchain? The stablecoin narrative is on an “up only” trend from here onwards, with over $115B worth of stablecoins being transacted within the crypto realm. There is little need for controlled centralized alternatives that miss the point.
Crypto Stablecoins Versus CBDCs
Current stablecoin systems are very effective. Yet they are not foolproof and many have a sense of shifting the problem of trust to a different provider — a private one. The largest stablecoins by market cap are “reserve” coins. Centralized stablecoin issuance companies theoretically hold the corresponding fiat value in their vaults — and effectively promise to, in any event, pay out to any holders of the token. Just as a bank would. These promissory notes are then flushed into the crypto ecosystem — often to the benefit of the companies doing it.
Except that’s just what they are, promises. Prominent entities have now resisted attempts to run accounting on their books for a long time. There is substantial fear that its practices threaten to blow the whole market up. Centralized exchanges minting their own USD stablecoins are audited and have the reserves put aside for their token, but they are still private companies that face unparalleled regulatory oversight. Not long ago, the UK’s FCA told one of the leading CEXs to suspend GBP withdrawals while their business practices were examined by the regulator. In short, who do you trust? If not your government, then these private companies? What if they go bust and the law adjudicates token holders to be the least important of their creditors. The list goes on.
When politicians and advocates of central banking deride stablecoins, comparing them to the “wildcat notes” of the pre-civil war era, it’s perhaps with these centralized promissory stablecoins in mind. They complain that the “free banking” era was riddled with corruption (it was) and that the system was inefficient (it is). What they neglect to mention is that it was the force of government bands and imposing restrictions that led to these banks failing. In countries like Scotland and Canada, where no such restrictions existed, free banking was a successful experiment.
Gary Gensler goes further, likening on-chain stablecoins to “poker chips’, thereby believing that real money is exchanged for fake closed-system money for utility. In some senses, with some centrally-issued stablecoins, he is right. However, these arguments are fallacious, as stablecoin models exist that do not behave like a centralized “bank” or casino chip issuer at all, merely a protocoled husbanding of collateral by the community. It is these models that will become the gold-standard stores of stable value in the future, where the entire crypto economy has a share in their success, not just a singular issuer.
Decentralized, crypto-collateralized and algorithmic stablecoins offer a far more compelling, decentralized vision of how a common worldwide or national currency can be achieved. Such protocols have made great strides in achieving effective stablecoins pegged to the U.S Dollar. While they are still in their relative infancy, some have successfully kept their peg, albeit not exactly and not at all times, in the face of the market shocks they have suffered so far in their life cycles. As the larger the collateral within these protocols the more stable the peg and more secure the system, if crypto adoption continues, then it’s intuitive to think that decentralized stablecoins will spearhead the CeFi to DeFi migration. A complementary approach is also possible, at least in the eyes of the BIS, which recently stated that ‘Central bank digital currencies may not replace crypto’.
What Are the Current Stablecoin Challenges?
While current decentralized stablecoin models are trusted, they do have their array of challenges. For instance, most protocols cannot mint stablecoins pegged to fiat other than the USD. Similarly, most decentralized stablecoins out there are siloed to the slow and fee-intensive Ethereum network.
If paying internationally, you’d still have to exchange the dollar-pegged token into the actual currency that your receiver wants — which would induce fees throughout for either the sender, receiver, or both, whilst forcing you to off-ramp your crypto. The challenge is also present when, for instance, you want to move your USD stablecoin from Ethereum to another blockchain economy. You must either go through a centralized bridge (if the other network supports the token) or directly purchase another stablecoin on that chain. This creates friction, which is catastrophic to emerging markets that already have complicated learning curves.
In light of the current narratives, Onomy Protocol has opted for a fully decentralized and crypto-collateralized stablecoin minting model. NOM, the single collateral to our Denom stablecoins, is locked within a reserve, with liquidity and stabilization mechanisms rebalancing collateral ratios and burning NOM to maintain the peg. We realize that the global financial system is much greater than the U.S. Dollar alone, hence have decided to gradually expand our reach until we cover the world’s prominent currencies.
By building an all-inclusive ecosystem within which users may seamlessly mint, trade, and lend stablecoins pegged to major currencies cross-chain, this addresses the two largest challenges with decentralized stablecoins — currency & chain support. For the retail user this is great, but for institutions it’s even better, as they can on-ramp their assets and deploy them globally in a frictionless manner that will help plug the $6.6T per day Forex market into DeFi. Users worldwide will also find new ways of capturing yield on their holdings, and hence become less reliant on the traditional market-lows offered by banks.
By building intuitive products that facilitate on-chain value transfers without large fees, or gated access, Denoms will become subject to worldwide adoption.
The Future of Crypto-Fiat
CBDC efforts will be made, and some are likely to gain adoption. One could argue that such efforts are a clear acknowledgement of how blockchain technology can truly elevate the global fiscal systems of the world in a way that brings prosperity to everyone, including the state architectures that inhabit them. Yet it has to be done the right way, and CBDCs, despite improving money transfer systems, are unable to match the might of decentralized finance and truly decentralized stablecoins, hence threatening the financial liberty that Satoshi set out to obtain.
The Great Financial Migration will happen. Within our lifetimes, we will see most of the world’s value migrated on-chain. If done in a decentralized manner, communities worldwide will be empowered to earn, spend, and save effortlessly, taking the era of globalization leagues forward.