Banks, Bitcoins, and Blockchains

Banks, Bitcoins, and Blockchains

What is this bitcoin I’ve been hearing so much about? Some view it as a form of Internet currency, others argue it is a money launderer’s dream come true, and the groups creating new bitcoins treat it like an investment. Regardless of where you stand on the issue, it cannot be denied that bitcoin has completely changed the game, at least from a financial perspective. Its price volatility may be astronomical, making long-term holdings a risky endeavour, but bitcoin has nevertheless proved the technical feasibility of digital currencies.

Although bitcoin is often praised as a way of taking monetary power away from private institutions and giving it back to the people, big players in the financial community are looking to bitcoin as a model for consolidating their influence over the flow of their country’s capital. Recently, the Deputy Governor for Monetary Policy for the Bank of England, Ben Broadbent, gave a speech addressing the possibility of a “CBDC” as he calls it (central bank digital currency) and discussing how this CBDC could be integrated into the economy of the U.K. Likewise, central banks around the world have started studying bitcoin, and they are using its features to guide the design of their own digital currencies. However, the central banks are not interested in bitcoin itself. There are many aspects of bitcoin that make it fundamentally incompatible with the practices of a large central bank, such as its distributed control and transaction anonymity. The central banks only care about the technology that bitcoin was the first to implement, the blockchain, and how they can modify this technology to expand their economic control.

Without going into too much detail, a blockchain updates an ever-expanding list of data records, where each record refers to previously listed records, and it does so using a distributed database management system. In other words, its storage devices are not all connected to the same processing device. This list acts as a ledger of all transactions in the case of bitcoin, and every single record is publicly available. Since storage of this list is distributed throughout the community of users, bitcoin does not require a concentrated source of authority to regulate its circulation. Unfortunately, it is only bitcoin itself, and not the blockchain technology, that protects us from overwhelming central control and the abuse of power that follows.

What does all this mean? And most importantly, why does it matter? The fact that these protections are not integral to blockchain technology means that they do not have to be included in different implementations of the technology, and it is extremely unlikely they will be as central banks begin creating their own digital currencies. While these currencies will probably be built around the same ever-expanding ledger idea, access to this database will be restricted to the bank alone. This set-up allows bankers to regulate the flow of their currency unconditionally, a level of control that could have both positive and negative consequences depending on how it is used.

With digital currencies, everyone would have an account with the central bank, but just like with bitcoin, it would just be numbers on a screen. Between direct deposit and credit cards, we’re pretty close already. The most obvious benefit of this fiscal situation is that the digital currency could eventually replace cash, so the maintenance costs of a physical currency could be eliminated entirely. Think of all the money that is wasted every year minting new coins and replacing old bills. These savings can then be reintegrated into the economy, but it all relies on the integrity of the central bank, as none of their records would be available to the public. They could simply do as they please, and we would be none the wiser.

This incredible degree of economic control is accompanied by an equal degree of regulatory power. Unlike cash, which does not require record keeping, all digital currency transactions would be subject to and recorded by the central bank. Everything would have to be run through the bank, making illicit transactions next to impossible. Similarly, effecting change in economic policy becomes quicker and easier. There is no need to worry about things like the amount of cash in circulation when all currency is digital, as the central banks can adjust this number as they please, whenever they please. Spurring economic improvement becomes as easy as adding more capital flow, and stimulating consumer spending becomes as easy as dropping interest rates, which they would have total control over.

For consumers, the cost accompanying these new luxuries in monetary policy is the same cost accompanying many modern technological advancements: privacy. Since central banks would have complete control of private accounts, and the list of all currency transactions is only available to the issuing bank, they would be able to access, manipulate, and freeze the finances of political enemies in complete secrecy and with complete impunity.

Another issue regarding the possible abuse of power with a digital currency backed by a central bank is that they would necessarily have a monopoly on monetary accounts. The banks we use today offer positive interest rates on savings accounts to entice us to store our money with them, and these interest rates increase proportionally with the number of different bank accounts we can open. However, the central bank’s digital currency would annihilate all competition. Since you have to store your money with them, they could drive interest rates below zero, and you would have no option but to pay these fees so you can continue to access your account. Bankers would be able to do whatever they want, and you would just have to live with it because there is nothing physical for you to withdraw and no other banks where you could store money.

Although blockchain technology was originally designed to remove centralized authority from the circulation of currency, it will only give them more control over monetary policy as their digital currencies replace the cash transactions we know and love today. Ordinary consumers would be completely subject to the will of the central banks, which then becomes a matter of how much faith you have in your government’s finance department. When big banks unveil plans for introducing their own digital currencies, the public must consider both the positives and negatives aspects. Ultimately, we will have to decide if implementing policies that increase the central bank’s control over our finances will really be in our best interest.