In his 2022 letter to shareholders, Blackrock CEO Larry Fink wrote, “The Russian invasion of Ukraine has put an end to the globalization we have experienced over the last three decades” and that the conflict has a “potential impact on accelerating digital currencies.”

Other high-powered investors, such as Jim Rogers, have stated that what’s going on with Russia and the sanctions imposed have the potential to spell the end of the U.S. dollar as the world’s reserve currency, and that we are quickly moving into a world where countries will struggle to figure out what the world reserve currency is… a world where they will be reevaluating their currency dependencies.

We’re already watching this play out, and the U.S. government has taken note and steps to mitigate possible impacts. The recent Biden executive order is an excellent example as it focuses on cryptocurrencies and a possible framework for a Central Bank Digital Currency (CBDC).

CBDCs And The White House

On March 8, President Biden announced an executive order that directed the Federal Reserve to study digital currencies, and he directly mentioned a digital dollar, stating “My Administration places the highest urgency on research and development efforts into the potential design and deployment options of a United States CBDC.”

As cryptocurrencies have become more prolific and accessible, central banks have struggled to know what to make of them, and to figure out how to effectively regulate them. Now, we’re seeing them adopt them and make moves toward issuing their own CBDCs, which is a smart move, because they aren’t going anywhere…

CBDCs are expected to be the next evolution in money, with surveys indicating that a whopping 85% of global banks are either considering, developing, or already in the process of implementing their own CBDC. Included in that figure are Japan, Europe, China, and now the United States, with the Federal Reserve partnering with MIT in 2020 to test a hypothetical CBDC and requesting public comment on CBDCs in a discussion paper.

So, what exactly is a CBDC? While there is no consensus, the Federal Reserve has defined a CBDC as “a digital liability of a central bank that is widely available to the general public” in its 2022 discussion paper. All this really means is that instead of holding an account with a retail bank, a consumer would transact with a central bank through a digital interface, thus cutting out the need for a middleman from most transactions. This is because customers would be able to transfer their digital currency directly from their wallets to vendors.

Legislation On The Horizon

So, could all this just be speculation? We don’t think so… late last month, U.S. Representative Stephen Lynch, Chairman of the Task Force on Financial Technology, introduced the Electronic Currency and Secure Hardware (ECASH) Act, which will develop an electronic version of the U.S. dollar. This is very real. When introducing the legislation, Representative Lynch cited the over 90 countries around the globe already involved in launching their own form of CBDC, saying that it’s critical that the U.S. remain in a position of leadership when it comes to the development and regulation of digital currency and assets. He further noted that the act will complement and advance current efforts by the Federal Reserve and President Biden in examining the design and deployment options of a U.S. digital dollar.

The ECASH Act will establish a two-stage pilot program led by the U.S. Department of Treasury that would:

• Develop and issue an electronic version of the dollar.
• Require the incorporation of security and functional safeguards typically associated with physical money.
• Command that the digital dollar must be interoperable with current financial systems.

The money would be distributed to the public on secured hardware devices, capable of offline peer-to-peer transactions, be regulated similarly to physical money, and subject to standing reporting requirements. Sounds exciting!

Detractors Push Back

While the prospect of a digital dollar is exciting, some legislators have legitimate concerns around privacy and have published bills pertaining to a CBDC which emphasize privacy. In recent months, several bills have been introduced. One of the bills would ban the Federal Reserve from issuing a central bank digital currency (CBDC) direct to the public in competition with the private sector while the other seeks to foster financial inclusion.

Rightly so, a primary concern is that anonymity will be lost through a CBDC and that governments could spy on citizens and their every transaction. Cash allows for a certain amount of anonymity, but digital currency, well… that really depends on how it’s implemented. While there are those that like the fact that a CBDC may not be anonymous (typically citing money laundering and other illicit activities), there are those who worry that it will be completely lost, even for small transactions.

To get even more nefarious with the possibilities, some worry that it would be possible for involuntary policies to be imposed on when, where, how, who, and how much could be spent at the whim of the government… when it’s put that way, it does sound a bit terrifying.

In addition to privacy concerns, there’s the worry that centralizing transactions (a CBDC is issued and backed by a government entity on a centralized, permissioned blockchain) could expose personal financial information and leave it vulnerable to attack. The ramifications of such an attack are difficult to comprehend. So, ideally, we’d want the Fed to craft a CBDC framework that is open, permissionless, and private, with the digital dollar accessible to all, transacting on a transparent blockchain, and maintaining the privacy elements of cash.

Disrupting The Financial Status Quo

While privacy and inclusion are certainly major factors in considering a CBDC, there are other factors that must be addressed… like the possible destabilization of retail banks and disruption of the financial sector.

The concern around the destabilization of retail banks is that those banks rely on customer deposits to fund loans… so, if CBDCs are less expensive, customers may be more likely to shift away from private banks. We can certainly imagine this being the case with inflation, interest rates going up, and people looking to find ways to save money. Then there’s the possible disruption of the financial sector, as such a change, with large portions of Americans switching from the private banking sector to the CBDC, could spell major trouble. In a report issued in January of this year by the Federal Reserve Board of Governors, it was noted that a switch to a CBDC system would increase bank funding expenses and reduce available credit.

Powell’s Criteria

The qualifications of a U.S. CBDC have already been laid out by the Federal Reserve Chair Jerome Powell: ensure user privacy, be identity verifiable, be intermediated, and be widely accepted as a means of payment. With that, Powell did say that the issue of a possible CBDC has not yet been decided, that the central bank is “only at the beginning of this journey” and that while the Fed supports innovation in the space, the inherent risks involved with the technologies are clear and easy to see. He also noted serious concerns surrounding the model because we have no idea how a digital dollar would behave in times of market stress.

It will certainly be interesting to watch as the developments around a possible U.S. digital dollar evolve, which seems to be barreling forward faster than most realize. We’ll continue to keep you updated on developments moving forward. We must admit, despite concerns, it’s exciting to possibly be participants in the birth of a new kind of money.