Are Digital Currencies The Future?

Dear Rich Lifer,

The debate centering around central bank digital currencies (CBDC) has been ramping up since coronavirus swept through America.

Even before COVID, monetary authorities in many countries had already begun taking steps towards cashless societies including: abolishing large denomination bills, imposing ceilings on cash transactions, introducing declaration requirements on the carriage of cash in and out of the country, reporting requirements for cash payments exceeding a specified amount and even taxing cash transactions.

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At a panel hosted by the International Monetary Fund (IMF) earlier this week, Federal Reserve Chair Jerome Powell said that 80% of central banks around the world are exploring the idea of issuing CBDC.

In fact, China piloted a national digital currency in April 2020, and The European Central Bank has convened a working group of major economies to coordinate digital currency research and development.

The U.S. Fed has not decided to follow suit at this time, but is in the early stages of researching the digital dollar.

At the IMF panel, Powell stated, “We do think it’s more important to get it right than to be first. Getting it right means that we not only look at the potential benefits of a CBDC, but also the potential risks.”

However, it’s becoming abundantly clear that the world is moving in the direction of digital currency. A 2019 study by the Bank for International Settlements (BIS) revealed that central banks representing one-fifth of the world’s population have said they are likely to issue the first CBDC’s within the next few years.

With the economy in disarray, many are wondering – will a digital currency overtake the dollar?

Today we explore…

What Is CBDC?

Before we dive into the future of Central Bank Digital Currency we should clarify what exactly we are talking about here.

Simply put, a CBDC, or national digital currency, is the digital form of a country’s fiat currency.

Instead of printing paper bills and minting coins, the central bank issues electronic tokens, whose value is backed by the government.

You may be thinking, ‘I haven’t used cash regularly in years, isn’t my money already digital?’

Technically, yes. Deposits held in commercial banks today are already digital and can be moved around electronically using credit cards, debit cards and mobile payments apps.

However, this form of digital money is the liability of private banks, who must maintain reserves and deposits.

CBDCs are the liability of the government — like cash today– which means that the central bank would need to back them up.

Digital currencies can also be issued by private institutions. These may be centralized — issued and regulated by a single authority other than the government — for example Facebook’s Libra. They can also be decentralized, like Bitcoin.

Why Would The Country Want A National Digital Currency?

According to the IMF, a key reason that advanced economies may be considering them is to counter the growth of private forms of digital money.

The demand for low-cost, convenient digital payments is rising, and the government sees this as an opportunity to get in on the market. Digital currencies have the potential to make it easier, cheaper, and faster to move money around.

With cash disappearing, apps like Venmo, WeChat, and M-Pesa are seeing greater payment volumes, raising concerns about consumer protection, data privacy, and operational risks.

Policymakers are therefore pushed to explore a digital currency solution before users commit fully to adopting alternatives — such as the apps listed above — that have very limited government control.

Economists have also argued that central bank digital currencies can improve market functioning.

The Bank for International Settlements (BIS) has stated that it can improve liquidity by allowing faster transaction speeds, and the Bank of England noted that it can boost GDP by up to 3% by lowering transaction costs.

Additionally, in more emerging economies, national digital currencies are primarily being considered as a means to increase financial inclusion because they allow governments to include unbanked populations in the digital economy.

With an especially volatile election in the works, many in the U.S. believe it’s only a matter of time until our country adopts CBDCs.

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The Concerns Involving CBDCs

There are definitely risks involved in digital currencies. For one, they would give governments more ability to surveil their citizens, which raises concerns involving privacy.

Financial stability is also at risk because business models for banks and payments platforms would need to change if people are using government-provided digital cash.

If a new monetary structure designed around digital currencies allows Americans to maintain their savings and current accounts directly with the Fed, commercial banks could lose retail deposits, which are their most stable source of funding.

Central banks would also need to restructure their operational capabilities to manage digital currency, supervise reserves and deposits, protect user privacy, prevent digital counterfeiting, and mitigate cyber attacks as well as other operational risks.

There are also national security implications, such as data privacy and security. Digital currencies will produce a lot of data on how individuals spend their money, raising concerns about surveillance, data manipulation and other privacy breaches.

Because of the digital nature of these potential currencies, they would also be at risk of things such as cyberattacks and security breaches, which could lead to theft of currency or personal information.

Clearly the Fed has its work cut out for it when it comes to researching America’s potential implementation of a digital currency.

In fact, the Fed is collaborating with the Massachusetts Institute of Technology (MIT) on a research project that will include the development of a hypothetical central-bank digital currency.

Only time will tell if the days of Venmo are numbered and if a government-controlled digital currency is the way of the future…

To a richer life,

The Rich Life Roadmap Team

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