- Aristotel Kondili focuses on emerging market currencies and debt at Lazard Asset Management.
- His latest research dives into the risk/reward of central bank digital currencies, as seen in China.
- Kondili also explains how central bank digital currencies might compete with cryptos like bitcoin.
- See more stories on Insider’s business page.
Central bank digital currencies are coming, and that could pose a problem to cryptos like bitcoin.
As the use of physical cash becomes increasingly rare and consumers continue to transact via private sector-generated digital money, central banks’ “market share of money creation and the economic influence it offers is in decline,” UBS chief economist Paul Donovan said in a research note last week.
To stay ahead and relevant, central bank digital currencies, or CBDCs, seem inevitable.
“There is an emerging concern amongst the central bankers due to this combination of the rapid ascent of the cryptocurrency usage and the rapid decline in natural cash usage,” Aristotel Kondili, a portfolio manager and analyst at Lazard Asset Management, said in an interview.
Alarmingly, private company-developed digital currencies such as Facebook-backed Libra (now renamed as Diem) are also mushrooming, according to Kondili, who specializes in emerging market currency, debt, and macroeconomics at Lazard.
He believes that the rise of alternative digital currencies could interfere with central banks’ objective to control inflation and achieve maximum employment.
“If a significant portion of the population were to use alternative currencies, monetary policy — from easing financial conditions in a
to raising the policy rate to fight inflation — could lose much of its effectiveness, which has implications for everyone,” Kondili wrote in a recent research note.
Even worse, privately backed stablecoins such as Facebook’s Libra could also undermine the role of a national currency or the confidence in it, he added.
Central bank digital currencies could solve those problems.
Benefits of CBDCs
According to a recent Bank of International Settlements study, about 80% of central banks, including the
and the European Central Bank, are looking into the potential of launching digital currencies.
Many among them have put CBDCs on their agendas, with about 20% of the 66 central banks saying that they’re likely to issue a digital currency within the next five to six years, the study shows.
Their rush to launch CBDCs is not just for regaining and retaining economic influence; central banks’ main goal is to promote financial inclusion, Kondili said.
He used China’s pilot test program of a digital yuan in several cities as an example.
The People’s Bank of China, which started working on its own CBDC in 2014, has made slow progress on the project until last year. In October, it handed out 10 million yuan, or $1.5 million, in digital currency to residents of China’s tech hub Shenzhen, as a trial.
“Millions of people signed up for it,” Kondili said of the roll-out. “It was really a success.”
In China, CBDCs could also help break up monopolies. The country’s online payments market has been dominated by Alibaba and Tencent whose Alipay and WeChat Pay command a respective 52% and 37% of the total market share, according to Kondili’s research.
The widespread usage of the digital yuan could threaten the dominance of the duopoly, which has still yet to penetrate consumers in rural areas who are not participating in the digital payment ecosystem and therefore have no access to credit and other financial products.
“In jurisdictions with very limited banking penetration and unreliable settlements platform, the central bank digital currency is very attractive to users because it ensures very equal access to means of payment for all citizens, and therefore it favors this financial inclusion,” he said.
Competition to cryptos
Unlike cryptocurrencies, central bank digital currencies are not based on blockchain technology. Rather, it is a legal tender of the country issued by its central bank and part of its liability.
Evidently, the arrival of CBDCs would further diminish bitcoin’s role as a means of payment due to the latter’s notorious volatility. Tesla, for example, announced last week that it has started accepting bitcoin as payment for its cars in the US.
“Because it’s designed to replace cash in circulation, the commercial banks will actually distribute the digital currency to users, meaning that the value, unlike other digital currencies like bitcoin will always be one digital currency to equal one local currency,” Kondili said.
CBDCs would also have the advantage of superior security to bitcoin or Facebook-backed Libra because they are backed by the full faith and credit of the government.
“Instead of printing money, the central bank will issue electronic coins or accounts,” he said. “And they will use the name and the full sovereign power behind it to make it a better proposition.”
To be sure, CBDCs would still retain some of the same flaws of fiat cash. As central banks continue their monetary easing policies, the risks of currency devaluation and inflation remain.
Contrary to bitcoin’s promise of anonymity, CBDCs also carry the risk of privacy invasion as central banks could potentially see the behavior of the consumers through aggregated data. The digital yuan, which is planned to be used at the Beijing 2022 Winter Olympics, has drawn concerns over the Chinese government’s ability to track foreign athletes’ spending.
Conversely, some investors believe that CBDCs could also end up differentiating cryptos like bitcoin as a digital store of value.
In an October tweet, global macro investor Raoul Pal said that CBDCs could result in “the biggest overhaul of the global financial system since Bretton Woods,” but they could “allow central banks to circumvent the banking and fiscal system and give or take money (tax or transfer payments) directly.”
As a result, “fiat globally will be worth less versus hard assets,” he said. “And that means that gold and in particular bitcoin will become THE way to circumvent the system of ever lower value.”