A LOOMING FINANCIAL ARMS RACE

January 26th, 2023

Originally published in January 2021.

Intro

US Policy makers can no longer be concerned about the speculative technology that a bunch of 'loony libertarians' promulgate. Crypto-assets have entered mainstream consciousness and are now becoming weaponized by both the private-sector and public-sector. Said differently, the scope is now geopolitical, and that means the stakes have considerably widened.

The only issue is that the US has generated a cacophony of reticence and criticism, instead of viewing the asset class as a uniquely American opportunity.

An impassioned Nial Ferguson on Laura Shin's podcast recently said:

"It particularly troubles me that in Washington, whether you are at the fed or at the treasury, the mindset is so small seed conservative they really don’t want to do anything new. They’re very suspicious of Libra. They’re pretty suspicious of bitcoin. ... When you ask them, but what about digital currency, they say well, we already have that. The dollar’s already digital and so this is, I think, a sign of a very profound pathology that the United States is no longer at the cutting edge of financial and monetary innovation."

You first, CBDCs are complicated

On CBDCs, Jerome Powell believes getting CBDCs "right" instead of being "first." Here is an example where reticence makes sense for several reasons. There are a plethora of design choices, characterized by access, anonymity, availability, and maturity transformation. Beyond this, the Federal Reserve would be assuming an unprecedent role as a pseudo-private entity. And beyond this, they would need to weigh the disintermediation of commercial banks, the merger of monetary and fiscal policy, and cyber-security trade-offs. JP Koning analogized the second mover-advantage as follows:

"A classic strategy in bicycle racing is to let others lead. The burden of breaking wind resistance falls on the leaders while followers conserve energy. This same analogy applies to traveling down the risky road to CBDC."

However, it remains to be seen if the public sector will assume their position behind China and the EU, or if they're even paying attention to a more micro experiment, Bahama's Sand Dollar. As the US takes a back-seat, President Xi Jing Ping instead urges his country to "speed up" their digital transformation. More recently, trials for its DCEP, or digital, state-controlled, Yuan. A casual 50,000 participants and approximately 3500 vendors were using the technology in China's Shenzen district.

Analyst may point towards the DC/EP being a domestic and retail focused payment channel. However, the geopolitical risk for the US isn't China's control over its populace. It's the sudden linkage to its cross-border payment system (CIPs), with all the programmatic aspects of the technology and, once economically comfortably, relaxing capital controls on the yuan.

A bewildering measure of the China's ascent, and Yuanization, can be uncovered by looking at global supplier relationships from 2000 to 2020. According to analysis from Lowy Institute and IMF data, in 2001, the year China acceded to the World Trade Organization, over 80% of countries with data available had a larger volume of trade with America than China. By 2018, that figure was down to a little over 30% – with two-thirds of countries (128 out of 190) trading more with China than the United States.

For now the Renminbi is managed with capital controls. A top down relaxation of capital controls, at the moment, seems unlikely so US policy makers are in no rush. More alarmingly, few economist are speaking about the bottom up revolution that may cause all global currencies to free-float. In this scenario, countries who cannot defend their pegs, will be farced with a few stark choices, and no surprisingly, supplier relationships will serve as a key component.

Cold War II

After years of invisible subterfuge, the 'second cold war' between the US and China entered the limelight with the Trump administration.

It's obvious the economic posturing between the two countries is rooted in a technological arms race. However, it seems US is caught in-between a rock and hard place. On one end, they are seeking to destroy the network moats that Amazon, Google, Facebook, and Apple have created through anti-trust measures, and on other end, these companies remain crucial assets in the battle against Chinese supremacy, harboring valuable data, accruing global profits, and attracting human capital to the US.

Consequentially, the ignition of a fiery trade-war and indictment of Huawei CFO in corporate espionage ossified China as a foe, but more saliently, employed two financial / economic weapons. So, the question must be asked, why does the US continue to undermine one of the most fascinating fin-tech primitives, crypto dollars?

WH: Trump agrees to honor 'One China' policy - CNN Video

Enter CryptoDollars

Dai, USDC, PAX, USDT -- private enterprise, to no one's surprise -- have relieved the Fed of its burden of digital, programmable, cross-border, pseudo-anonymous money. In other words, we can now comfortably sit on our second-mover position in the CBDC race.

And yet, the introduction of the STABLE ACT (H. R. 8827) seeks to ban any dollar-denominated 'stablecoins' that are issued from any entity without a federal bank charter. The bill purports systemic risk and shadow money in the financial system. (Never mind it leaves uncertainty regarding fin-tech money transmitters). Both criticisms are vacuous. USD Stablecoins are congruent with the shadow money properties of physical USD dollars, a concept coined as 'Permissioned Psuedo-anonymity". Once redeemed in fiat -- which is inevitable given that US citizens tax obligations are denominated in fiat -- trans-actors can be KYCed. And while there is some veracity to software failures of blockchain technology, one only needs to imagine the concentration risk that a single issuer can bring to the system. Multiple stable coin issuers instead disperse the risk. This further supports a co-existence with an eventual FedCoin, should the US government encourage this action to disburse stimulus.

In any case, if the the Fed isn't going to pioneer the technology, and if regulators are going to signal punitive measures against privately operated crypto-dollar technology, then its clear that they are trying to have 'have their cake and eat it too'. The unfounded 'suspicion' is either ignorance, or its a vector to exert control on the burgeoning 'DeFi' sector.

Moreover, if it is indeed simple ignorance, regulators must be aware that stable coins have already become weaponized in favor of dollarization. Recently, Circle, collaborating with the US government and the US supported Venenzual government, BRV, and AirTM, a private fintech player, circumvented Maduro's capital controls:

'Through a collaboration with the Bolivarian Republic of Venezuela, led by President-elect Juan Guaido, U.S.-based fintech innovator Airtm, and coordination with the US government, we were able to put in place an aid disbursement pipeline that leveraged the power of USDC — dollar-backed, open, internet-based digital currency payments — to bypass the controls imposed by Maduro over the domestic financial system and put millions of dollars of funds into the hands of people fighting for the health and safety of the people of Venezuela.

So it seems the a subsector of the US government understands the power of this technology from a geostrategic angle.

If USD crypto-dollars are facing off with China's DCEP, how do we drop a 'proverbial' atom-bomb? As Brian Brooks recognized, (though citing Chinese hashing power):

"As a country, we now face a geostrategic competitiveness issue, which is: Do we in the United States want to own the internet 2.0 in the same way we owned internet 1.0."

The answer is simple. We can encourage institutional adoption of Bitcoin. Following this, we can legitimize Bitcoin as a foreign reserve asset. This seems far-fetched, and yet, Bitcoin has closed above $400 billion in market-cap in ten years of its monetary existence. This further provides an opportunity to front-run hostile nation states, like Iran, who have recently forced its miners to capitulate their Bitcoin accumulation to the Iranian Central Bank.

Once again, a number of intuitions have made purchases of Bitcoin. Conservative players like MassMutual, old-tech dogs like MicroStrategy Incorporated, and new blood like Square. On the buy-side, a number of family-offices and hedge-funds are privately accumulating.

Thus, it isn't inconceivable that Bitcoin becomes the a crucial foreign reserve. (Libra had the right idea, but was victim to the stench of its parent company, Facebook). In any case, a pure Bitcoin foreign reserve, or even a basket that included Bitcoin would engender perhaps the greatest economic power-move, surpassing Bretton Woods system, where the world effectively dollarized in fiat-terms. Instead, the world would effectively Bitcoinize with the US public and private sector operating as gunslingers.

Like all cold-wars, the battle between the US and China isn't being wagered in blood but in technology. It seems irresponsible for US policy makers to actively ignore, or even undermine, financial innovation. Instead, as demonstrated with Venezuela, where US Banks could not operate, a collaborative effort between the US government and Stablecoins could further US geopolitical interest. And while China experiments with their CBDCs, the US government should let the crypto community innovate financial architecture through a bottom-up process.

Pour L’Avenir De La France,

A.K

Sources:

https://www.reuters.com/article/us-usa-fed-powell-digitalcurrency-idUSKBN2741OI

https://www.coindesk.com/cbdc-race-better-to-be-last

https://www.coindesk.com/big-choices-designing-central-bank-digital-currencies

https://www.coindesk.com/us-getting-left-behind-cbdcs

https://www.americancryptoassociation.com/2020/11/19/occs-brian-brooks-says-china-owns-bitcoin-but-crypto-world-disagrees-chinese-crackdown-pushes-miners-away/

https://jpkoning.blogspot.com/2014/10/fedcoin.html

https://www.alt-m.org/2020/06/19/should-the-u-s-government-create-a-token-based-digital-dollar/

https://decrypt.co/44410/1-5-million-of-chinas-cbdc-will-be-distributed-in-shenzhen

https://jpkoning.blogspot.com/2019/11/from-unknown-wallet-to-unknown-wallet.html