VYSYN Ventures Weekly Insights #15
In recent months, we have observed significant progress from central banks developing their own digital currencies. China has been pacing ahead of other central banks in the attempts to launch a digital currency. The Chinese Digital Currency and Electronic Payment (DCEP) project is already in testing phase in several cities while the Federal Reserve recently revealed its own digital currency initiatives.
The interest in issuing central bank digital currency (CBDC) extends beyond China and the United States. A paper released from the Bank of International Settlements showed that central banks worldwide are giving the prospect of a digital currency more attention than ever before. Retail investors are also taking notice with Google Search Trend results for “CBDC” approaching a twelve-month high.
In the latest VYSYN release, we detail how the explosion in demand for USDT has increased the viability of CBDC currencies being a success. We also highlight the latest updates in CBDC development and show how China is spearheading progress with their DCEP. We further consider the impact a successful CBDC may have on Bitcoin and the wider cryptocurrency market.
USD Tether — The CBDC Minimum Viable Product
The 2020 explosion in usage and adoption of USD Tether (USDT) has demonstrated high demand for a digital dollar. The global economic crisis unfolding at the hands of the Coronavirus pandemic accelerated the urgency which crypto adopters demanded an asset tied to the dollar. With the amount of dollar-denominated debt vastly outsizing actual dollars circulating, the value proposition of a dollar-tied asset has become more attractive as an alternative. The growth in USDT during 2020 certainly illustrates that demand has been building throughout the year.
Here is the growth in market cap year-to-date based on CoinMarketCap data. Several other data providers like Messari and CoinGecko have reported that the market cap has recently jumped to over $13 billion.
Furthermore, trading volume for USDT has been multiples of its market cap. CoinGecko is currently reporting a 24-hour trading volume of $34 billion which also vastly outsizes the recent trading volume of Bitcoin.
Motives for a Central Bank Digital Currency (CBDC)?
With demand validation established, it is unsurprising that central banks have been experimenting with digital currency technology. Furthermore, central banks have another strong motive to implement digital currencies.
The censorship resistant and permissionless features of the Bitcoin network are almost certainly being perceived as a threat by leading governments. Capital controls imposed by the Chinese government can be circumvented through Bitcoin technology while recent innovations in privacy technology increase the likelihood that Bitcoin users can maintain privacy while carrying out activities such as money laundering or tax evasion. It is logical that governments would experiment with the technology underpinning cryptocurrencies. However, there will be some fundamental differences between a CBDC and Bitcoin.
How will a CBDC be Different from Bitcoin?
The distributed architecture and intelligent design of the Bitcoin network foster valuable properties which include censorship-resistance, permissionless payments, and immutable transactions. However, the design of a payments network underpinning a CBDC would be drastically different.
A payments network designed by a central bank will maintain the option to reverse and censor transactions. While governments may tout that these CBDC networks are underpinned by distributed ledger technology, the networks will be designed in such a manner that governments and central banks can keep control over the development of the protocol and the transactions which are executed within it.
China Spearheads CBDC Efforts
China is leaps and bounds beyond other countries in their development of a CBDC. The interest in a central bank digital dollar is high but a digital yuan is far closer to a reality. The DCEP project is currently being tested in several Chinese cities including Shenzhen, Chengdu, and Xiong’an. It has also been recently reported that DCEP will be rolled out across Hong Kong’s Greater Bay Area.
Comments from professionals close to the DCEP project have corroborated that the design of CBDCs will be entirely different to the architecture of the Bitcoin network. Yifan He, the CEO of a key firm behind China’s Blockchain Service Network, noted that neither he nor his associates were clear about the role which blockchain will play in DCEP.
What Impact Would a Successful CBDC Have on Bitcoin?
The code which details how the Bitcoin network functions is agnostic to the regulations and developments of governments and central banks. Sending 1000 satoshis in the Bitcoin network would be identical in the absence of or the coexistence of a CBDC.
However, what a successful CBDC may do is push Bitcoin to the fringes of society. The development of a CBDC may be a stepping stone in an attempt to eventually outlaw Bitcoin.
Although the Bitcoin network would likely adapt and overcome such an occurrence, such a development would represent a threat to the network. Bitcoin thrives off of network effects and outlawing it may harm this.
CBDCs will certainly become a reality. However, their expected release and the impact they will have on the broader cryptocurrency market remains uncertain. At face value, the development of CBDCs appears to validate the value proposition of Bitcoin. But as detailed, the technical design of such currencies will be far different and governments may outlaw Bitcoin once CBDCs become widespread.
Major governments coordinating an outlaw of Bitcoin would threaten the network effects which play an underappreciated role in the success of Bitcoin. But Bitcoin may be able to adapt and overcome such attacks. It may even become stronger because of them. Some have characterized Bitcoin as antifragile. If it is antifragile, the ability to sustain such attacks would allow the network to become stronger.
“We can almost always detect antifragility (and fragility) using a simple test of asymmetry: anything that has more upside than downside from random events (or certain shocks) is antifragile; the reverse is fragile.”
Nassim Taleb, Antifragile