Money Reimagined: China’s 'Cold War' Blockchain Strategy

News items this week:

Which one is the centrally managed police state? Which one is the pro-innovation jurisdiction embracing open-source technologies and decentralized governance networks?

OK. I’m being a tad facetious. The reality is Chinese President Xi Jinping has severely concentrated power. In general, his government, with its Hong Kong crackdown and Uighur detention camps, has encroached upon people’s freedoms more than at any time since Mao Zedong’s rule. Also, the default assumption should be that China’s blockchain vision favors cryptographic backdoors, centralized master keys and transaction monitoring systems more than it does the permissionless, censorship-resistant ideals of those six blockchains – Ethereum, Tezos, NEO, Nervos, EOS and IRISnet. 

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Nonetheless, the contrast between China welcoming open-source, permissionless systems and the current U.S. government’s tendency toward anti-science insularity, authoritarianism and cronyism is telling. 

One is thinking outside the box. The other doesn’t know it’s in a box.

China’s moves are consistent with its desire to challenge U.S. financial hegemony, an effort that revolves around its forthcoming digital currency project, known as Digital Currency Electronic Payments, or DCEP. 

The BSN, which will offer tools and hosting services to developers of blockchain-based applications targeted at Chinese development goals, will eventually integrate DCEP. That will bring the efficiency of programmable fiat currency into top-priority use cases such as decentralized supply chains and smart city applications.

Widening the range of blockchain protocols integrating DCEP will allow the Chinese government to spread adoption of its digital currency, helping China challenge Washington’s gatekeeping role in international finance.

(To be clear, I see very little prospect of a digital renminbi becoming a dollar-like international store of value for central banks. Rather, the DCEP’s programmable qualities could render redundant the very need for a reserve currency intermediary in international transactions, allowing cross-border users to bypass the U.S. banking system.)

This comes as Chinese entities are seeking to avoid U.S. financial oversight in other ways. 

Ant Group, which runs Alibaba’s Alipay mobile payments platform, this week announced its public listing will occur in Shanghai and Hong Kong but not New York.

This is a big deal. Alibaba is signaling a giant $200 billion valuation for Ant, whose Alipay service accounts for more than half of Chinese mobile payments, which are forecast to hit RMB 777 trillion ($108 trillion) in 2020. U.S.-based investors will now be denied access to this monster primary share offering.

Why would Alibaba, which in 2014 held its own record-breaking $25 billion IPO on the New York Stock Exchange, take this step? 

For answers, look to Beijing and its tit-for-tat mini-Cold War with Washington. 

With the Trump Administration pressuring the U.K. into joining its ban against Chinese mobile provider Huawei’s 5G wireless business and closing China’s Houston consulate on allegations of trade secrets theft, Xi’s government is in retaliation mode. 

Excluding the Wall Street establishment from Ant’s deal is one way of retaliating. More importantly, by doing away with the Securities and Exchange Commission oversight of the company’s operations, it removes a lever U.S. regulators would otherwise have over China’s payment systems. 

Ant is likely to play a distribution role for the DCEP. It’s also big in the non-monetary world of blockchain; this week, Ant announced that users of its blockchain service, soon to be renamed Airchain, are uploading 100 million digital assets a day – mostly records of transactions, property and copyright claims. Excluding the company from SEC oversight is consistent with China’s resistance to allowing the U.S. any gatekeeping capacity over future blockchain-based payments and value exchange systems. 

Until the digital assets era, the U.S. enjoyed uniquely influential powers over the exchange of analog money and property around the world. This was on account of the dollar’s reserve status, which meant the currency settlement in any international exchange almost always flowed through a U.S.-regulated bank. China's blockchain-integrated digital payments system could bring an end to that era.

Ant’s listing strategy will also infuse badly needed funds into Hong Kong, where protests over China’s new security laws have left many wondering about the future of the multinational companies headquartered there. 

This brings us to the other U.S.-China financial flashpoint – the Hong Kong dollar – and whether China’s embrace of public blockchains could help it preserve this vital source of financial stability. 

When the Trump Administration briefly considered undermining the Hong Kong dollar’s peg to the U.S. dollar, some CoinDesk editors debated whether it was even possible. We concluded that while the U.S. could not directly deny the Hong Kong Monetary Authority (HKMA) access to its onshore foreign currency reserves – the backstop that guarantees the local currency’s fixed U.S. dollar value – it could impede their circulation by ordering U.S. correspondent banks not to transact with Hong Kong banks. 

That led us to question how a China-led HKMA might maintain its peg even if U.S. banks were blocking Hong Kong banks. The possible answer: blockchain-based stablecoins. 

Hong Kong banks could use their domestic holdings of U.S. dollar reserves to back a stable-value token that circulates between blockchain addresses anywhere, all without U.S. bank intermediation. China would make those tokens interoperable with DCEP digital currency. 

I’ve no knowledge such calculations lie behind China’s embrace of public blockchains. But given the surge in Ethereum’s stablecoin transactions (see the “Global Town Hall” section below), Beijing surely has its eyes on the sector. Stablecoins may provide an avenue for China to achieve monetary autonomy without destroying the region’s financial order. 

The irony: China’s ability to escape U.S. control over a centrally managed digital currency, one that many fear will become a surveillance tool, could depend on decentralized systems.

Is the U.S. awake to what all this means?

Folks like Christopher Giancarlo, former chairman of the Commodity Futures Trading Commission, who this week again testified to Congress on his Digital Dollar Project, are trying to encourage a counteractive technological initiative from Washington. 

It’s not clear the message is sinking in.

In thinking about how to value new forms of money, it’s useful to consider how people value old forms of money. So, let’s look at this post from Zero Hedge about the price of silver recently outperforming gold. Describing gold as “more money-like” and silver as “more commodity-like,“ the article said the recent decline in the gold-to-silver ratio (see chart below) signaled a modest improvement in economic confidence, which was fueling an early revival in inflation expectations. Interestingly, there are modest parallels in the relationship between bitcoin, often regarded as a “digital gold” store of value, and “altcoins,” some of which are often described as “commodity-like” network tokens.  

Contrary to a rather simplistic view of gold as an inflation hedge, this analysis views it more broadly as a safe haven when investors become bearish about the state of the economy, which is what happened in March with the onset of the COVID-19 global lockdown and market panic. Even though this brought on expectations of deflation, gold rallied after an initial decline as the extent of the economic meltdown set in and concerns grew about the political failures. But more recently, as central bank stimulus has breathed life back into stock markets and as European and Asian economies have gradually reopened, expectations for a credit-fueled rebound in demand for commodities, and concurrently, in inflation, have grown, even as the pandemic has spread further through the U.S. Hence silver’s recent outperformance.

Interestingly, there’s a mirrored trend in bitcoin’s performance versus a number of altcoins. The outperformance has been especially pronounced for tokens such as Cardano’s ADA and Chainlink’s LINK, but it’s also evident in the classic dichotomy of bitcoin vs Ethereum’s ether.

This might seem like a bit of spurious comparison, but hear me out. Whereas many crypto community hard money advocates described bitcoin’s spring recovery from its March lows as a function of rising inflation concerns – captured in the “Money printer go brrrrr” meme – I think it reflected a similar “hell-in-a-handbasket” trade to that of gold. Conditions were all-out scary, creating an uber-bearish picture of impending dystopian breakdown, which favored bitcoin as the must-have crypto reserve asset. Now, with liquidity sloshing around the crypto economy (itself a spillover from the Fed’s injections into the fiat currency economy), speculators are looking at surging demand for DeFi credit products and improving sentiment around new blockchain- and smart-contract based projects such as China’s. That’s compelling them to buy ether, the underlying commodity that fuels Ethereum’s smart contract engines. 

I’m not wedded to this analysis. Just thought it was fun. Open to critiques of it. Have at me.

WOODEN MONEY. "Yeah. 'What is economics?'" Fournier laughed. "I'm a firefighter. I'm not an accountant, I'm not a, you know, I guess I'm a mayor, you know?" - CBS News, July 19.

We reported three months ago on the small Italian town of Castellino del Biferno deciding to print its own money to restore monetary liquidity after the COVID-19 pandemic triggered a deflationary contraction. Now in Tenino, Wash. (population 1,884), Mayor Wayne Fournier is taking similar actions. But in Tenino’s case, it’s cranking up an 1890 printing press that’s producing a throwback: local currency made out of wood. 

The idea behind community currencies, which lock spending within the local economy, is not unique to the COVID-19 era. There were already more than one hundred such units of exchange around the U.S. alone. But desperate times are forcing creativity around money. People like this firefighter mayor and his neighbors are inspired to ponder what money represents and how its design and management have social implications. 

SETTLEMENT SUCCESS: One of the challenges for widespread acceptance of blockchain technology lies in taxonomy: how we describe what it is and what it does. These unprecedented new models of value exchange don’t lend themselves to clear analogies, which means people misunderstand them. So, it’s good to see a smart take from Ryan Watkins over at Messari, a research firm, who is asking investors to think differently about what blockchains actually do before they jump to conclusions about their success in facilitating payments. 

Rather than holding bitcoin to a “you can’t buy a cup of coffee” test, in which its small transaction viability is undermined by volatile BTC exchange rates and high transaction fees, Watkins describes blockchains as the settlement layer to facilitate larger-scale payment flows. A better comparison than cash, he says, is Fedwire, the Federal Reserve’s system that allows banks to settle their balances with each other. Bitcoin and Ethereum are on track to settle a record $1.3 trillion in combined value in 2020, the third consecutive trillion dollar-plus year, a success by any measure. A big chunk of that is driven by surging stablecoin transactions on Ethereum, which should surpass half a trillion dollars in value this year, putting it in striking range of the $712 billion in payments PayPal settled last year. Blockchains do much more than just enable fiat transfers; they offer a whole layer of settlement functionality that’s giving rise to an alternative financial system. Hard to call this a failure.

WHO “OWNS” YOUR TWITTER HANDLE? Anyone who’s gone down the early bitcoin discovery rabbithole of “what is money anyway?” will know that the digital asset age is challenging our notions of value, rights and the law. In that vein, a friendly debate, triggered by last week’s Twitter hack, saw Coin Center Executive Director Jerry Brito line up against Castle Island Ventures partner Nic Carter. Carter set it off with his thesis, laid out in one of his regular CoinDesk columns, that ownership rights over Twitter accounts should accrue to users, not the company. His anti-deplatforming point was that users create most of the value attached to their handles through their posts and interactions, and that this establishes a form of digital property that cannot be taken from them. Brito’s response, invited by Carter, was that the relationship between the user and Twitter lies in a contract that the former signs with the latter in setting up their account. By extension, any discussion about Twitter’s rights to kick someone off their platform hinges on whether the contract is enforceable or not, not on who owns the platform itself. 

Whichever argument would win in court, the debate – which was extended by Carter’s “rebuttal to the rebuttal” on (where else but) Twitter – helps frame the discussion about how to design a better social media platform. The bottom line, and both Carter and Brito agree on this, is that centralized social media platforms have done great harm. We are way past due for a model that gives users’ autonomy over their content and data, all attached to a clearly defined concept of self-sovereign, digital identity.

Banks in US Can Now Offer Crypto Custody Services, Regulator Says
Big news for the crypto industry: Banks are now allowed to provide digital asset custody services. The announcement put to rest the debate over whether Brian Brooks’ past as in-house counsel for Coinbase would make him more or less willing to prioritize cryptocurrency regulatory projects in his new role as Acting Comptroller. Nikhilesh De reports. 

Wyoming-Based Avanti to Open in October With a New Bank-Issued Digital Asset.
Wyoming is ahead of the U.S. OCC’s curve. With a state bank charter already in place, Wyoming blockchain advocate Caitlin Long’s Avanti Financial will issue a new digital asset, known as Avit, Nathan DiCamillo reports. Long argues a bank charter is necessary to ensure that digital assets such as stablecoins have all the power of immediate-settlement programmable money – a topic Money Reimagined is a little obsessed with, as indicated by this shout-out in Long’s explanatory tweet thread.

3 Reasons Bitcoin’s Price Could Soon Rise to $10K.
By bitcoin’s volatile standards, it has been a remarkably dull past month. Since June 23, the leading cryptocurrency has traded back and forth within a $600 range, failing to break out either way. Now, maybe, just maybe, we have the chance of a breakout. I like to think the mid-week jump was fueled by the OCC news. But CoinDesk’s Omkar Godbole reports on three other reasons why bitcoin might be poised for a breakout, with the newfound volatility being a reason unto itself. Also: growing institutional investor interest in bitcoin futures and a positive “risk-on” trend in traditional financial markets: 

Crypto Needn’t Fear GPT-3. It Should Embrace It.
For producers of content and creative output such as journalists, graphic designers and even software coders, the bombshell release of OpenAI’s powerful general language model programming system is a little terrifying. Might the programmed creative take our jobs? And what of the risk that crypto scammers will use it to create fake news to move markets? Forget it, argues our contributor Jesus Rodriguez, who says the groundbreaking AI technology will be more valuable than threatening to the industry. The reason: It can devise powerful quant trading strategies that will bring liquidity and sophistication to crypto’s otherwise volatile, Wild West markets. 

Ethereum 2.0 Developers Announce ‘Final’ Testnet Before Network Launch.
Maybe, just maybe, the vitally important Ethereum 2.0 release will come by year-end. That’s one interpretation of this important final test run for the massive upgrade’s development schedule. With DeFi and decentralized exchanges sending gas fees soaring on the bloated Ethereum blockchain, the moves to boost throughput with “sharding” and to introduce a more energy-efficient proof-of-stake consensus mechanism can’t come soon enough. (Incidentally, on September 29, CoinDesk will host CoinDesk Invest: Eth 2.0, a virtual conference on this very topic and what it means for investors. Details to come.)