Blockchain technology, the driver behind cryptocurrency, is steadily becoming mainstream. It’s already penetrated the minds of institutions, many of whom have started taking a vested interest or a full-blown leap into the space. Firms have embraced blockchain technology by building new technology around it or slowly integrating its capabilities within their own offerings. While institutions are pushing the boundaries, various government agencies are slowly following suit.
Some examples of institutional action include Fidelity’s cryptocurrency trading desk or Facebook’s ambitious project Libra. Fidelity, one of the largest asset managers in the world, established the first institutional-focused cryptocurrency trading desk, solidifying their support for blockchain technology. Facebook also announced their support for cryptocurrency by creating a new cryptocurrency that seeks to replace the role of fiat currencies in digital marketplaces.
China’s attempt to create a digital currency is one of the first large-scale government attempts to hop on board the cryptocurrency bandwagon. However, some important points need to be emphasized.
China’s Digital Currency is Not Cryptocurrency
One of the core tenants of blockchain technology – and by extension, cryptocurrency – is that payments are tracked using a group consensus process. This means a single transaction is validated when a majority percentage of every entity on the network processes the payment – making it impossible to fake or reverse a payment. Exchanging a cryptocurrency with fiat currency can also be done peer-to-peer or through an exchange.
China’s approach to its digital currency takes a very different approach. It’s a very centralized process, which means the Chinese government has extreme control over the currency and its actors. First, it has a centralized ledger, meaning payment processing is similar to existing options, such as credit cards. Secondly, the Chinese government is planning on limiting the avenues on how to obtain its digital currency. Residents much exchange digital currency with a Chinese commercial institution, allowing the government to track their transactions at home and overseas.
China’s digital currency will not be cryptocurrency. Instead, it is a centralized, electronic cash system that uses familiar encryption technology, backed up by cash reserves.
The Push to Be Number one
It’s important to examine what motivates China to create a digital currency. China has already banned Bitcoin and Bitcoin mining in the country, so it might seem strange that China is seeking to create something similar to what they banned.
There are two high-level reasons why China is pushing for digital currency. While the country banned Bitcoin for its citizens, it’s no secret that China has been trying to push the boundaries of blockchain technology and cryptocurrency. Releasing the first sovereign digital currency can be seen as a way for China to position itself as a trailblazer.
The People’s Bank of China (PBoC) is attempting to launch its digital currency before Facebook launches Libra. According to a report from a state-owned media outlet, “closed-loop testing” has already begun with the digital currency where commercial and non-government payment scenarios are being tested. China is currently looking to launch Libra in the first half of 2020. According to rumors, the first rollout will be deployed out to China’s four largest state-owned commercial banks and other industry titans such as Alibaba, Tencent, and Union Pay.
By releasing their digital currency before Facebooks, it gives China a first-mover advantage to grasp more of the global market.
Transaction Transparency for More Control
China’s state-run digital currency is more than just a proof-of-concept — it has the potential to completely disrupt payment processing. The PBoC is targeting private businesses and institutions, for reasons that may not be immediately apparent. The vast majority of businesses operated in China have a link to the government in some way. For example, China is home to 109 of the largest 500 companies in the world, but only 15% of those Chinese companies are privately owned.
For those who are familiar with holding companies – the organizational structure of China’s private institutions is very similar. If the hierarchy of corporate ownership is traced far enough up the chain of ownership, chances are everything is backed by a government institution. Integrating digital currency into Chinese government agencies provides a means to track how money moves through the confusing array of “private” Chinese companies.
Limitations on Digital Currency Exchange
While “transparency” is a much-touted concept in the corporate world, it can also be used as a tool for control. The rollout plan for China’s digital currency requires Chinese commercial banks to convert cash into the PBoC-backed digital currency and vice versa. By inserting Chinese banks an intermediary, it gives the government the ability to capture and analyze transaction data. More importantly, by limiting this process to just state-owned banks, it can take a significant chunk of economic power away from payment processing services such as AliPay and WeChat.
Unless there is a means to exchange PBoC’s digital currency with other digital mediums, then the Chinese government has sole control over how digital tokens are redeemed for money. If China’s digital currency were to become globally adopted, then it gives the Chinese government a more power over international companies since it controls a critical aspect of currency exchange.
Quick Implementation for a Non-Crypto Solution
Ultimately, China’s digital currency is an attempt to position the country as a pioneer and leader in digital currencies. While their implementation does not leverage blockchain technology, it does feed into a broader global discussion on increasing adoption of digital currencies – which includes crypto. Adoption rates are low for most digital currencies due to extreme market fragmentation, security concerns, and poor ease of use. If China pushes its digital currency onto private companies and banks, it will see an unprecedented rate of adoption, which could boost confidence for digital securities as a whole.
However, there is a drawback to forced adoption. Forcing people and companies into China’s tight net of control and cause people to balk, leading to lost trust for digital currencies as a whole. The average user likely won’t be able to differentiate between centralized and decentralized (aka crypto) digital currencies, leading to a new wave of digital currency distrust. Only time will tell.