China recently unveiled its own national digital currency. This development creates an instant threat to the role of the US dollar as the world’s reserve currency. This gives China a powerful new tool for exercising “soft power” and massively undermines one of the most important foreign policy weapons of the United States. Failure to respond effectively will seriously damage America’s global standing.
The Chinese “digital yuan” represents the natural evolution of fiat currencies. When in 1971, the US government finally detached the dollar from the price of gold, it severed the link between “paper money” and real, durable assets. The dollar, like most other government-issued currencies, was worth whatever the market was willing to pay.
It didn’t take long for the currencies to even come off the paper itself. The face value of transactions made in dollars far exceeds their actual existence in the real world.
According to the Federal Reserve, there is approximately $ 2.1 trillion in cash and coins physical existence. On the other hand, there is currently
Most currencies are digital. It exists in the form of computer code, freely transmitted at lightning speed between central banks, financial institutions, traders and individuals. However, most countries around the world still maintain banking systems that operate as if the currency was held in giant vaults at the local bank. China appears to be the first government to adapt its financial system to the world that really exists.
A digital yuan recognizes the fact that fiat currencies no longer need a deposit-based banking system to circulate widely throughout an economy. It allows the central bank of China to create a bank account in the name of each user of their currency. By downloading an app, a user has their own vault at the People’s Bank of China, without the need for a depository between the user’s currency and its issuer.
China was not the first country to realize the power to allow individuals to have their own central bank accounts. In a 2018 article titled “The Case for Central Bank Electronic Money and the Non-case for Central Bank Cryptocurrency,” the Federal Reserve Bank of St. Louis wrote:
“We believe there is a strong case for central bank money in electronic form, and it would be easy to implement. Central banks would only have to allow households and businesses to open accounts at home, which would allow them to make payments with central bank electronic money instead of commercial bank deposits. “
Unfortunately, it seems only the Chinese government pays attention to it. The inability of the United States to act quickly in implementing a central bank digital currency could prove disastrous.
Since the end of World War II, the United States dollar has been the world’s reserve currency. Among other benefits, this means that the world’s most important assets are valued (and ultimately paid for) in US dollars. Gold, oil, debt securities, to name a few, are all effectively fungible into dollars.
The supremacy of the dollar also allows the United States to impose sanctions on its enemies. By denying access to the American banking system, the United States was able to deprive its adversaries of the money it needed to do things like finance terrorist operations or build nuclear weapons.
When it created electronic money with a ledger that resides directly at the central bank, China developed the power to cut the United States off the payment process. As more countries (and individuals) appreciate the ease and frictionless cost of using the digital yuan, the dollar could lose its prominent place in the global economy.
The discomfort that China is acting as a world banker could hurt its prospects, but ultimately the market will be owned by the tech leader – and right now China is in a league of its own. a.
Having allowed China to take the lead, the best option for the United States may not be with central bank money. Facebook has offered to issue its own digital currency. With literally billions of users, a “Facebook dollar” would immediately be able to tap into a global network that China (and others) would struggle to match. Since it is not a government entity, Facebook could also benefit from a level of trust that government controlled accounts lack. And as a U.S. company, U.S. regulators would still be able to exert at least some influence over its operations, giving U.S. officials resources they will miss if the digital yuan replaces the dollar.
Facebook’s efforts have so far met strong opposition from US politicians. Given the threat posed by the digital yuan, this is short-sighted. America cannot afford to fall further behind in the race for a global digital currency.