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Are digital currencies the future of money? INSIGHTS ON THE INNOVATIONS THAT MATTER CATALYSTS Digital currencies have moved from the fringes to the mainstream. A decade ago, few outside specialist circles even knew they existed. Now, they are at the heart of the policy plans of the world’s biggest institutions – both public and private. As technology and finance grow increasingly intertwined, how will new forms of money shake up the global economy? And what opportunities will they create along the way? Stéphane Déo, Head of Markets Strategy at Ostrum Asset Management KEY TAKEAWAYS • Bitcoin is well-known as a speculative instrument – but as a currency it’s slow, hard to scale, and is environmentally damaging • The debate around cryptocurrencies has opened a path for new thinking about how technology can deliver new ways of story and sharing value • Central Bank Digital Currencies build on some of the ideas of cryptocurrencies but retain a central authority to maintain trust in the system • CBDCs could potentially radically shake up monetary systems around the world • Private currencies like Facebook’s Libra project have yet to take off – but they do point the way to a future where government-issued money is not the only currency in day-to-day use When people think of ‘digital wider market. They have limited exposure currencies’, they most likely think to tail risks, so a token investment could first of bitcoin, and then other pay off in the long term. cryptoassets. What position do There is also the ‘brand’ that bitcoin has they now hold in the investment become. The original white paper was 6 landscape? published in 2008 , and since then it First of all, I want to stress that bitcoin has gone from the fringe of the fringe to is an environmental disaster. ESG something non-specialists have heard of. considerations are increasingly central It has driven the conversation forward, to our industry, so any discussion of demonstrated the potential – and cryptoassets must start with the fact that limitations – of the blockchain technology bitcoin alone now has a greater carbon that underpins it, and made the mass footprint than the Netherlands1. Even a delivery of cryptographically-secured single transaction has a carbon footprint digital assets something not only feasible, roughly equivalent to a flight from Paris to but likely. Moscow. However, for the average retail trader, you Added to that is the problem of scaling – overall would have more fun in a casino. there are around 300,000 transactions a day with bitcoin2. That sounds a lot, but the Cryptoassets are just one of a wide Visa network handles around 150 million range of digital stores of value in 3 existence. Where do you think the transactions a day , and the infrastructure around bitcoin and other crypto assets is next stage of development lies? Bitcoin has demonstrated both both slow and aging rapidly. Digital or electronic money is nothing new, the potential and limitations of the There’s also the problem of volatility. of course – the overwhelming majority of technology that underpins it, and This makes cryptoassets excellent for bank deposits and other assets have been made the mass delivery of digital speculation, but flawed as stores of value stored and exchanged electronically for assets something not only feasible, and units of exchange – which are, after decades. but likely. all, the key purposes of money. If you want The rise of e-money in recent years is also to retain your wealth, or plan a significant important in this story, allowing challenger transaction, you don’t want to do it with an banks and platforms like Paypal to offer asset that can rapidly double or halve in retail clients the kind of easy transfer of value. virtual funds previously available only on Finally on the debit side, there is the the wholesale market. issue of the uncertain regulatory and tax This feeds into the narrative of the turn to treatment across different jurisdictions, a cashless society in the developed world, which we as institutional investors must of but even in mature banking markets this course be very wary of. can be overstated. Some Scandinavian This all sounds negative, but the facts countries are well on their way, but 1 https://cbeci.org/ remain that the total market capitalisation within the eurozone – even allowing https://www.cnbc.com/2021/02/05/bitcoin-btc- of all cryptoassets in February 2021 was for the very different banking sectors surge-renews-worries-about-its-massive-carbon- footprint.html well over a trillion dollars4. This would within the currency bloc – more than make up which over 10% of the world’s 90% of transactions of less than €5 were 2 https://www.statista.com/statistics/730806/daily- number-of-bitcoin-transactions/ 5 7 existing gold stock , so it’s not negligible conducted by cash in 2017 . Even with 3 https://www.visa.co.uk/dam/VCOM/download/ in value. Also, 300,000 transactions a day younger consumers significantly favouring corporate/media/visanet-technology/VisaNet- is tiny on a global scale - but it’s also far digital payments over cash, it will still take Network-Processing-Overview.pdf from zero. some time for the transition to occur. 4 https://coinmarketcap.com/ There is a positive case to be made about However, the iterations of e-money used 5 https://www.sunshineprofits.com/gold-silver/ them as non-correlated assets, as they in these consumer transactions were in dictionary/size-the-gold-market/ tend to be subject to different forces to the effect representations of value on a ledger, 6 https://www.bitcoin.com/bitcoin.pdf 7 https://www.ecb.europa.eu/pub/pdf/scpops/ecb. op201.en.pdfhttps://www.bis.org/publ/bppdf/ bispap114.pdf Catalysts | Natixis Investment Managers 2 backed by bank reserves and ultimately a Finally, there is the ‘tone-setting’ implicit in central bank. In other words, they are little their introduction by central banks – there different to traditional bank deposits. are hard to predict second-order effects, The new idea of central bank digital where innovation spurs further innovation in currencies (CBDCs) – which have been a virtuous cycle. largely spurred by developments around What would they mean for banking? cryptoassets and blockchain – have the There are degrees of radicalism to the potential to catalyse radical innovation in various proposals. Theoretically, the the banking sector, and by extension the implications for retail banking could be wider economy. enormous. What benefits could CBDCs deliver? If you deposit a euro in your bank account, For the average consumer, CBDCs won’t that’s a de facto liability for your bank. You appear any different to the e-money they’ve have lent your euro to the bank, who can used to shop online for years. then use it on their balance sheet as they determine the extent they can reuse it as However, they have the potential to they make loans, deliver mortgages, invest significantly shake up the financial it in equities and so on. Your euro is in infrastructure of any jurisdiction where practice a funding source for the rest of the they are introduced. Transaction costs bank’s activities. Digital currencies have the potential and settlement times for payments could With a CBDC, in theory your wealth is to significantly shake up the world’s be slashed, resulting in huge efficiency booked directly with the central bank – in financial. Transaction costs and savings across whole national – and in our example, the ECB. This would have settlement times for payments the European Central Bank’s case and serious consequences for commercial transational, in the case of the European banks, as the deposits that fund their other could be slashed, resulting in huge Central Bank (ECB). activities could dry up or even disappear. efficiency savings across whole They can save in costs for the production Any big shift in the balance sheets of major economies. and distribution of physical cash, encourage banks would have major disruptive impacts competition between payments providers, throughout the real economy. and break down separations between Obviously, this is an extreme picture, and walled-off payments environments and the any disruption on this order will surely wider payments system – for example, the attract the intention of regulators and proprietary ecosystems presided over by lobbying efforts from the banks, but it several Chinese online retail platforms. should give a picture of how big any At the macro policy level, CBDCs excite changes could potentially be. The transition central bankers as they offer the chance will have to be handled very delicately. for the far more direct transmission of monetary policy than is currently possible. What stage of development are they at? They could offer infinitely greater visibility A recent BIS survey of more than 60 central on a whole economy than is now possible, banks showed that more than 80% of them which could make for very detailed and had a digital money plan, or at the very least responsive control of the money supply. 8 Central banks could offer emergency a task force on the topic . liquidity support far faster than is now The most significant at present is the digital possible, which could help prevent chain yuan in China. A recent survey by the BIS reactions in any future financial crisis. on over 80 central banks showed that more However, the processing of the huge than 60% of them had a digital money plan quantities of data they would gather raises or at least a task force on the topic. questions around privacy. In Europe, there has been a steady drip of research from the ECB and other 8 https://www.bis.org/publ/bppdf/bispap114.pdf Catalysts | Natixis Investment Managers 3 institutions, with momentum growing in Let’s turn to Libra, Facebook’s the last year. The ECB concluded a public attempt at a digital currency that has 9 consultation in January 2021 and are recently been rebranded as ‘Diem’. expected to make a formal announcement Was it ahead of its time – does the in the Spring. A lot of the implications of future of digital currencies also lie in their choices will be in the fine print, so we’ll privately-issued money? have to wait a while for full visibility on what to expect. Libra faced many issues with regulators, In China, the People’s Bank of China is based in large part on the cultural clash significantly ahead. After five years of between the engineer mentality of Silicon developments, local tests are expected this Valley and the – necessarily – more year in Beijing, Shanghai and Guangdong conservative approach of regulators around Province. The digital yuan is known as the world. the DCEP – Digital Currency Electronic In short, the main problems were that Payment – and its two-tier system, where it if Facebook wanted to keep Libra/Diem is issued by the central bank but distributed stable in value, it would have had to be and retained in custody by commercial backed by what would be de facto one of banks, is perhaps an instructive model the biggest sovereign wealth funds in the for how banking systems elsewhere can world, which they would likely to have at manage the transition. This would be more some point attempted to derive value from akin to traditional deposits, hence for the – creating incentives for actions that would consumer their bank would in practice influence the currency. Also, Libra would remain their funding source. have in effect turned the company into one of the world’s largest shadow banks, which If we think about where the greatly concerned authorities. complementary opportunities may That said, I’m surprised there have not been lie – where do cybersecurity, KYC more Libra-like projects. There have been and AML sit in this picture? suggestions Amazon may try something Digital currencies are foundational If there is to be reorganisation in the similar specifically in emerging markets, technologies that can spur and banking system in the long term, it seems but most of the projects that have come facilitate innovation throughout logical that the banks themselves will shift to fruition have been very small-scale in into something more along the lines of comparison. For example, some regions the wider economy. The currencies IT providers. It won’t be as a substantial and cities in France have issued a local themselves are not the end of the a change as that sounds, although it’s digital currency. story – they are the beginning. clear that cybersecurity will be ever more It’s likely that something like Libra will central as the risk transfers from the come along again, learning from previous banks themselves to the payment chain. mistakes and having more success in However, it will likely be the same people and making it past the regulators. institutions challenging these new problems. One of the key hurdles they will have If we look at KYC, AML, and other anti-fraud to overcome is trust. The only reason practices, we see a huge opportunity as someone will accept a ten euro note from the amount of data embedded in every me is that they have confidence they can transaction means there is a huge efficiency pass that note on to someone else. Trust is saving in determining where resources are absolutely critical, and for cash it is based allocated. Even a small institution raises on formal and informal structures that have many thousands of suspicious transactions developed in some cases over centuries. every day: the kind of data that a digital So, if Apple – for example – launched a currency embeds in every transaction digital currency of its own for transactions means that triage can be accelerated within its ecosystem, it would still be reliant significantly. on its users’ trust. Any crisis or crash 9 https://www.ecb.europa.eu/press/pr/date/2021/ html/ecb.pr210113~ec9929f446.en.html Catalysts | Natixis Investment Managers 4
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