Why crypto disruptors and central banks can work in harmony

 

There are obstacles to be overcome, but the time is coming soon when both traditional and digital forms of currency will be trusted and accepted by all

JULY 2022

Arturo Bris

Director of the World Competitiveness Center and Professor of Finance at IMD Business School

For an asset to be a medium of exchange it must be fully accepted by all, and this is the role that central banks play.
Photo by Dmitry Demidko on Unsplash.

The basic principle of disruption is that innovators come from the outside of a given industry and capture a market dominated by incumbents. In the world of cryptocurrencies, this all happened when the disruptors – the non-permission blockchains and their cryptocurrencies such as bitcoin (BTC), ethereum (ETH) and cardano (ADA) – rocked the boat of the central bank incumbents.

For centuries, central banks worked as monopolies in the issuance of currency in their markets. Money is a strange asset; its physical value (that of the notes and coins on which it is printed) does not necessarily deteriorate over time, but its integral value does. This comes down to risk, uncertainty and the basic principle of the time value of money, which is that money today is worth more than money tomorrow.

To make up for that loss in value, central banks created an artifact called interest rates, which compensates money holders for their loss in value. How interest rates are paid is not a mystery: the central bank prints (technically “issues”) more money to satisfy the needs of the system and to pay such interest.

Central banks’ money plays three roles: that of being unit of account, deposit of value and medium of exchange, with the most difficult to fulfill being the latter. For any asset to be a unit of account, it just needs to be countable, and almost everything — except for intangibles such as love and fear — is countable: gold, stones, but also water (in liters) and sand (in kilos). Any asset that does not deteriorate over time can be a deposit of value; that is why tomatoes and leaves cannot be used as money.

But for an asset to be a medium of exchange it must be fully accepted by all, and this is the role that central banks play. Because they are both trustworthy and stable institutions, I can trust that my Swiss francs will be converted into dollars, and these dollars into TJ Maxx t-shirts, say. Equally, I am confident that if I keep my Swiss francs under the mattress, in a year’s time (or 10) they will still be worth at least something.

For decentralised blockchains, the issue of credibility remains a challenge. Most people still see cryptocurrencies as investments and not as deposits of value, and this is why their price fluctuates so much. Credibility in the currency world is the magic key to full acceptability and today, while I can pay for some items with BTC, I still cannot pay for important things such as my mortgage or my plane tickets. READ MORE HERE

 

 

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