Martin Chorzempa, research fellow the Peterson Institute, and Dovey Wan, founding partner at Primitive Ventures, discuss China’s new blockchain push and the forthcoming DCEP. They cover how the blockchain initiative is part of an effort to set global blockchain standards, how it fits into the larger U.S.-China trade war as well as the threat from Facebook’s Libra, and why part of the motivation behind the DCEP may stem from the shadow banking system in China. They also talk about how the DCEP might work, why it aims to be like cash, and ways in which a successful digital currency could be used to help internationalize the renminbi, but why other countries will likely still resist becoming more dependent on China’s currency. We also explore what “controlled anonymity” will look like in the DCEP, why it might actually be preferable to transacting via WeChat Pay or Alipay and whether or not Chinese people will become interested in Bitcoin due to this exposure to blockchain technology.
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Martin Chorzempa: https://www.piie.com/experts/
Dovey Wan: https://twitter.com/DoveyWan
Xi Jinping’s speech: https://www.coindesk.com/
Cryptography law: https://www.coindesk.com/
China’s 500 enterprise blockchain projects: https://www.coindesk.com/from-
Changchun Mu, the deputy director of the payment and settlement department of the PBOC, on how DC/EP aims to replace the M0 money supply (banknotes and coins): http://www.cf40.org.cn/
Dovey’s article on how the digital yuan will affect the M0 money supply: https://www.coindesk.com/
China’s already very digital economy: https://www.piie.com/blogs/
Reaction of Chinese dissident to China’s blockchain push: https://www.coindesk.com/
Unconfirmed interview with Alex Gladstein of the Human Rights Foundation: https://unchainedpodcast.com/
The commercial entities involved in helping to release the DCEP: https://www.forbes.com/sites/
How they will be involved: https://twitter.com/DoveyWan/
”Controlled anonymity“: https://twitter.com/
Problems that could arise with the DCEP: https://www.scmp.com/economy/
People with poor social credit banned from buying plane and train tickets: https://www.theguardian.com/
The FT on why China’s currency will not replace the USD: https://ftalphaville.ft.com/
2000 speech by Bill Clinton: https://archive.nytimes.com/
Change in plans to eliminate the Bitcoin mining industry: https://www.coindesk.com/
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The topic today is China’s digital currency, DCEP. Here to discuss are Martin Chorzempa, Research Fellow at the Peterson Institute, and Dovey Wan, founding partner at Primitive Ventures. Welcome, Martin and Dovey.
Before we dive into the topic at hand, why don’t you each give a little background on yourselves and how you came to understand the financial technology sector in China. Martin, do you want to start?
Sure. I arrived in China, moved to Beijing in mid 2013 just at the moment when Ant Financial you know, Alipay launched Yu’e Bao, lived in China during the beginnings of its financial technology revolution and also the beginnings of its interest in bitcoin, and then decided to go start a book project writing about fintech in China that I’m almost done with.
And Dovey, what about you?
Yeah, so I was born and raised in China and so I did my undergrad, just that in Guangzhou, and so I’m a Cantonese and so that is where the province and state is the headquarter for Tencent, NetEase, and Xiaome, and then many of other just Chinese tech giants.
I moved to US at the age of 20 to get my Master Degree in Carnegie Mellon University, and I moved to Bay Area. So right now I’m in Bay Area for about almost 10 years and I spent my first four years just in eBay as engineer and product manager, like that’s when I learn about Xapo as one of the marketplace out there and so that was back in 2012. And I learned about Xapo and then for look into bitcoin, and that’s how I got into crypto and you know, fintech, like marketplace in general.
So after eBay, so I work as venture capitalist and for like the rest of my life and pretty much cover anything fintech, crypto, and marketplaces, so have been doing this crypto-related investment for like last four or five years and like happily involving all this community governance and crypto assay investments and trading money, etcetera.
Great. Yeah, and you also often break news in the crypto space on your Twitter feed which I find really funny because sometimes I see some journalist complaining like hey, we were working on a story on that and Dovey just told everybody on Twitter. Anyway, okay, so why don’t we get into all the events that happened around blockchain and China recently.
Now from my perspective I would say kind of like the frenzy around all this began when Xi Jinping gave a speech on October 24 saying that China should seize blockchain. So why don’t you guys just describe for me kind of like you know, what he said, what you thought the significance was, and then maybe go into what you thought were the other big kind of like pro blockchain events and initiatives that happened in China afterward, and you can also give your reaction to each of these.
Yeah, sure. So first of all this is actually not the first time that Xi Jinping like publicly promote blockchain and so I think that’s probably not too knowledge of when many like Westerners out there, and so in about I think 2017 or like 2018, so he actually promoted blockchain but like doing like a smallest scale, so like doing like a smallest scale publicised science conference.
So I think like this time is definitely like more significant because it’s like a dedicated long speech so in a very core CCP meetings, right? And then just right after meetings, so like all this public use out there and just official CCP media outlets talk about it and then so have all this coverages.
So the narrative, so if we look into his speech, the narrative…so like a few things I want to highlight here is, so first of all, so he mentioned that like blockchain is a future and like China cannot lose the blockchain game, and China needs to have the leadership position on it. And also like during his speech and he specifically mentioned all the major nations out there across the world are accelerating blockchain technology development and we have to do so as well.
And then so he also said we need to focus on helping to establish the blockchain standard because I personally as a investor in all this public blockchain projects and I have no idea what the standard is because everything you know, is a permission list and then so everything form a consensus that based on the community discussion, like Xi Jinping did mention that to further enhance the China’s leadership position and we want to making the standard global, and then so we want to establish like the blockchain standard, like whatsoever.
So I think these are the few things I want to highlight from his speech. So like the over narrative is like definitely extremely pro blockchain but he didn’t mention a single word of like bitcoin or like any other you know, like the actual cryptocurrency out there. So if we read between the lines and then also thinking about like what has happened before, like China’s government is pretty good at this top down planning and infrastructure investment as we can see all the miracle of this metropolitan development and like high-speed railway, etcetera.
So like as the economy grows and slows down, and China’s government needs to sort of figure out like what’s the next infrastructural level thing for them to make investment on and potentially to get China onto like a leadership petition before any other countries.
So I think like technology like AI and 5G, so like those are the top picks for the last few years, and like this time, so like with Xi Jinping’s promotion on blockchain, so blockchain as a neutral database management technology is definitely being elevated onto the priority list. So as the next generation infrastructure technology that like the entire China will allocate resources. So that is my personal take.
Martin, what do you think?
Yeah, there’s a lot there. So going back to before Xi Jinping’s talk, I view one of the most important events of China’s support or at least interest in blockchain as in 2014 when the Central bank convened a group to study digital currency and blockchain to see if there’s a way to use it both for regulation and for government purposes, and then soon after that the State Council, which is sort of the equivalent of China’s Cabinet, included blockchain in a government plan for technology development.
So I view the Xi remarks as a culmination of a longer process that slowly feeds up the bureaucracy. I think the timing is really interesting and that you know, especially because there’s been a sense that much of the hype around blockchain around the world got a little bit ahead of itself, so you know, ICO prices have gone down quite significantly, bitcoin is down quite a lot from its height, and although there have been an enormous amount of enterprise and other applications that have been announced, there really isn’t any that appear to be a breakout success in terms of application for blockchain other than bitcoin and Ethereum, and even there you know, there are a lot of issues with how many transactions they can handle, for example.
So that makes me wonder you know, why would this come out now, and I think it’s a result of two things. One is the trade war, so if you look at how the trade war has extended into technology, the Chinese have found that the United States controls a lot of very foundational technologies for AI for example, many of the chips are US technology, and I think that China fears that if foreign countries, especially the US are the ones designing the standards or controlling the basic technology for blockchain, even though the applications are further in the future, they view that as a potential threat to national security and that’s why I think we see the phrasing as a core indigenous innovation technology. That’s the phrase that Xi Jinping used near the top.
And then the second is as a response to Libra which is also somewhat related, where China doesn’t want an American company like Facebook to be able to create global blockchain networks that other people then build on which might get in the way of China’s attempts to internationalize the renminbi and have its tech companies go abroad for example in fintech markets all around the world.
So they want to be leading the standards and potentially helping even other countries develop their own blockchain-based digital currencies and other systems so they don’t have to depend on something like Facebook and can hopefully get something out before Facebook succeeds, and that might actually work.
Yeah. So I want to add onto that, so for my personal opinion, and I don’t think Libra is like significant enough to actually require large industry level attention, and is a good like hour-long talk while during the CCP core meeting, and also like Facebook has been spending three, four years and Zuckerberg has been trying to be friendly with all these like Chinese government and officers and basically trying to make Facebook accessible in China market which didn’t pull it off, and I think it’s just a coincidence, so like the timing itself looks like, seems like a response to the Libra because it just that second day, like after the Zuckerberg, so it’s just second day after the Zuckerberg hearing, right?
But from my personal opinion the digital renminbi has been developed for like five years and is actually close to launch, and then CCP happened to have the meeting as well, and then so it has been scheduled long before. So everything is kind of like a very perfect timing in response to Libra, but I think like China purposely never responds to any just like company from private sector for like any specific policy out there. So that’s just my personal opinion.
Martin, what do you think because I saw you Tweeted something else. I mean, I think in a way maybe both of you are right. I think this was something that was in the works for a long time but I’m pretty sure I did…while I was doing the research for this show and I’ll just have to look for it afterward, I do think that there was some statements saying that Libra spurred them to kind of like hurry it up a little bit, like they you know, had been working on this for a while but then when they realized that Libra came out with its white paper and that this might launch next year then they kind of, it just made them hurry up a little bit more.
And I think maybe actually where I disagree with you, Dovey, is that the reason why I think they might pay attention to this even though they might not pay attention to other you know, moves by companies is that you know Facebook’s user base is bigger than the Chinese population and it’s literally…when I was trying to figure this out, I think it might be one of the only entities on Earth where they can say that. But anyway, actually both…I wanted to go back to a previous point you both made, which both of you basically said that you felt that China essentially wanted other countries or you know, technology groups whether it’s like you know, companies or organizations or perhaps even some of these decentralized networks, to follow their blockchain standards.
Do you really think that that’s like a realistic expectation on their part that people might do that, and why do you think that is their motivation?
So it’s potentially realistic because you can imagine a world in which if China launches a digital currency that works well and is successful and if they have for example you know, like Tencent’s system working with tax authorities to deal with better tracking of invoices, if you have these domestic systems that actually work really well, then there’s a sense in which China’s trading partners especially, but also maybe some of the financing destinations along the Belt and Road and others who do investments in China might want to make sure their systems are interoperable with the Chinese systems which are say proven to work, and I can see that happening at least in some limited scenarios.
There are some real questions around to what extent they will actually be willing to decentralize and allow some of the anonymity or at least pseudonymity that has been the feature of blockchain-based systems in other applications, but that’s really an open question. I’m a bit skeptical about their ability to either promote renminbi internationalization or get others to sign up on its standards, but I know that in other areas like for example in 5G, Chinese companies have been extremely active in promoting standards and I think that Huawei for example is part of many international 5G standards, not withstanding the security concerns that many governments, especially he US, have voiced about it.
Yeah. Actually, let’s keep talking about the standards issue because this actually leads to like some other questions that I have like about the significance of the cryptography law. You know, I was kind of curious like what that said and like why they have this cryptography law, but I’m assuming that has to do with standards, and then I happened to notice also this news about how they have these 500 different enterprise blockchain projects going and CoinDesk reported that the biggest categories of the projects are trade finance, asset management, cross border payments, and supply chain financing, and I kind of thought oh, you know, they have like this major role in global trade so is this like you know, part of their attempt to get companies and organizations outside of their own borders to either use their technology or to actually use their blockchains that they’re created?
Just add onto what Martin has said, when we think about blockchain standards and I think there are like a few different layers, like the most fundamental layers are going to be what the specific difference in like hashing algorithm, right? And when you view a specific blockchain protocol and so that is the consensus layer, so that is a consensus algorithm layer.
So I have no idea how China’s government can actually push that aspect of one singular standard because they’re just assisting other either public or just private blockchains out there and using different consensus algorithms, and it seems to me that’s impossible. And if we move to the upper layer, the upper layer going to be just like at the application layer, right? So at the application layer I’m not too sure about what is the specific standard, is it on like identity, is it on account whatever?
So it might be on account base, identity, and then many other just like cross blockchain, just like characteristics out there, and so it seems to me also it’s hard to push out a specific standard out there. But one thing I think they might be able to like leverages, if like consider we have like a China chain, right? So it’s like a China whatever blockchain, and so all the other major scale internet company like Tencent, Alibaba, Huawei, so they all adhere to that specific blockchain’s protocol and so they have been developing application on top of that, and then also like it would allow third party, so to develop their own applications which means all the other blockchain developers can instantly tap into this massive user base.
And I think that can be a huge attraction, so like that can be a huge attraction to other third-party like blockchain developers, and so either China developer or just a foreign developers, so because the current problem of all this public blockchain is that there’s just no adoption, like the primary use case right now is trading and all the exchanges they’re the after users is on the lower end of say like a hundred thousand, so like they’re not actually internet scale.
And if you have this share a platform and so that would allow you to tap into the internet scale traffic and so like that will be a huge add on and so if they want to push for specific standards and protocols out there.
So I guess like the one thing that I’m wondering is with the current internet in China is this you know, like closed wall, what do they call it, a closed wall garden, so why would the Chinese want…I guess my thinking is basically that if they make things interoperable, they also risk then kind of like losing a little bit of control.
No, no. So like the underlying infrastructure is not going to be interoperable, just like think about WeChat, right? WeChat is a closed source operating system and then so you ask a third-party developer and you can develop all this WeChat-enabled program, so like what’s considered a second micro program, and so like WeChat has its own ecosystem just like Apple and WeChat has its own like app store, right? But the thing is like WeChat as a Messenger app or like as a operating system cannot be interoperated with like Facebook Messenger messenger because like you as a developer, you have to adopt the same protocols that underlying, so like just like right now, so all these are Ethereum like DeFi application so can only work on Ethereum, right? And so there’s no bitcoin DeFi yet, right?
And so that is after the same thing because the underlying chain and just like the underlying blockchain infrastructure, like the tech layer has to be cohesive and there’s no just like cross chain thing among the other public blockchain, and so like the third-party developer is basically purely adopt the same consensus algorithm and like the same like you said, the same blockchain infrastructure and then building application on top of it.
And so that’s a very like a typical thing even right now, so even right now in the public blockchain domain.
Okay, so yeah. This leads me to a question about censorship but I actually feel like because we haven’t actually discussed the digital yuan yet, why don’t we just dive into some of the details on that because that is obviously the biggest news. So why don’t you guys describe for me your understanding of what this aims to be, this DCEP which stands for Digital Currency Electronic Payment, what is it aimed to be, how will it be structured, when and how do you think it’ll roll out, why do you think China wants to launch it, just kind of give me everything that you understand so far about it.
So a lot of the elements of it are pretty unclear at the moment because we have to rely on a few speeches, many of them in private who’ve had their transcripts leaked to know what’s going on. So far the plan seems to be, at least at the beginning, to replace cash, at least a piece of cash and create a system that allows a cash-like digital currency to be transacted. So that means you know, you’ll have a digital wallet.
The idea is to maintain what they call the two-tiered system now which is that the central bank manages the currency, but in terms of what actually touches consumers, they’re going to be interacting with and buying these at the commercial banks in the country. Maybe also Alipay and Tencent, that part is unclear, but at least it’s going to be like the banks. You come in with one renminbi and you can buy a unit of this special digital renminbi and you’re probably going to use some sort of digital wallet.
What’s really important about this is that it appears like the central bank will not actually be providing direct central bank access like accounts to consumers. That’s one of the biggest question marks in central bank digital currencies going forward because that would totally change the way the financial system functions, if you can go right to a central bank because most of the money is actually created at the moment in our financial systems at the commercial banks.
So they’re saying you know, we’re not going to touch any of that, we’re just going to replace cash. We don’t want to compete with Alipay balances, Yu’e Bao, we don’t want to compete with bank deposits which would disrupt the financial system, only cash which is already a liability of the central bank. So let cash, they’ve talked about having it quite limited and difficult to use in a sense so you have a limit in the amount of money you can have in the wallet and a limited amount of transactions you can make to kind of make sure that it mimics the fact that cash, especially in China, you know, the largest bill is 100 renminbi which is worth something like between 15 and 20 dollars, much smaller than most countries.
They made it on purpose difficult to use cash so that it’s harder to use it for corruption. You know, officials get arrested in China for corruption and sometimes we find entire apartments full of bills and the amount of money actually isn’t even that much in the grand scheme of things because the individual bills are worth so little.
One of the key features of it is what they call controllable anonymity, so you can use cash at the moment without any trace whatsoever pretty much, you know. If you pay in a restaurant in cash, then they have no idea who you are, you’ve told them nothing about you, and there’s no record of that transaction generated digitally anywhere. But now the way the Chinese interact and have financial transactions is generally through Alipay and WeChat Pay which are tracking all of those transactions and also feeding that into questions about how they evaluate you for credit and what they want to market to you and all this.
So the central bank is coming to people and saying we’re going to provide a more anonymous version of currency than what people are transacting with Alipay and WeChat Pay, but of course we still want to get some underlying visibility into the system so that people can’t use it to launder money and get up to nefarious uses.
That’s another critical question about this, how much access is the central bank going to get? There are a lot of concerns that this could be used to actually increase the amount of control that the central bank and the government have over the economy by being able to view there transactions individually. Whether it will use something like smart contracts, I don’t think it will start that way but they have talked about potentially adding it. You could potentially automate payment of taxes, you could change transaction fees for different types of transactions to encourage or discourage them, you could have new kinds of monetary policy tools. A lot of possibilities are open, so I’ll turn it over to Dovey to see what she thinks of this.
Yeah, so from my perspective, and I think there’s a very important prerequisite for this digital renminbi is that the China society has been cashless for like long enough which no other countries in the world is so advanced on getting rid of physical cash. So there will be little problem in you know, user identification, digital currency distribution, and like payment interface integration, etcetera.
So from my understanding the most intense or just detailed literature about the design of this digital renminbi was first published in about 2016, so that’s in a internal journal from PBOC. They have like a few chapters about what they think about this digital renminbi. Fast forward to now and I think there are probably over like a hundred patterns under PBOC specifically about digital renminbi, and talking about the timeline. So I think there are rumors floating around saying it might be launched by probably like mid this month and I think that’s probably just too rushed.
So realistically speaking, and I think the earliest it can launch any just very small scale experiment going to be by the end of this year, so I’m not too optimistic about it, and most likely, so like a child going to launch early next year and from what I heard it can be in Shenzhen or Hong Chau, like the full roll out and at least it will take another 12 months because there’s a lot of coordination and just the infrastructure change is massive.
And like talking about the bigger picture, just like Martin has said, the biggest question right now is whether PBOC wants to use this new medium of like cash, because it is not physical cash, and like physical cash it can be fully anonymous and people have like you said, when people transact with a physical cash and it can have like pretty much actual privacy. But if we look at the current major problem of the China’s financial situation, there is the shadow banking is actually what makes the economic, just said over economic like on the verge of explosion, and China right now has more than 10 trillion shadow banking assets and all of this is actually out of the…so all of this is outside of the physicality of PBOC.
If we look at the M2 monetary supply of China, close to 30 percent of monetary supply is actually under the sector of shadow banking. Shadow banking basically are P2P lending and they’re all this like wealth management products, like things that are…these are all outside the regular commercial bank’s balance sheet.
So I think from my perspective one of the most important purpose for this digital renminbi, at least domestically, is right now like commercial bank has much more power when it comes to monetary supply and also the monetary policy and then also issuance. And I think this can be of major monetary experiment. It will be the first time to make central bank, like PBOC in this case, with like direct inference on the monetary supply and daily economic activities.
And I think also it will make it possible to probably enable PBOC, like they will be able to program the monetary policy, so for instance if the Chinese government that wants to close down the real estate market, they can simply do so by subtracting the monetary flow into the specific sector. If we consider everything will be back to M0, so if we consider large portion of the monetary supply going to be full reserved base.
I think that might be the bigger picture that like PBOC has been thinking.
Okay. We need to dive a little bit more into that but we’re going to have to do that after this short break so we can hear from the sponsors who make this show possible.Cipher Trace
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Back to my conversation with Martin Chorzempa and Dovey Wan. So Dovey, when you said that if the real estate market was getting a little bit too hot and the central bank wanted to cool it down a little bit they could just stop the flow of money into like…I don’t even understand how that is possible.
So right now it is not possible because most of like the England trade, like most England trade of the monetary supplies, so it’s actually in the control of the commercial banks, and so PBOC has no direct control, right.
Right, right, right, but I’m saying if…yeah, with this central bank digital, how would they do that?
Yeah, so assuming the entire GDP and the entire monetary supply is on this digital renminbi, right? So they can be upper extreme case, but let’s assume that, and all the commercial bank and they will have their account, so they will have just a note or whatever, so they will have the account with the PBOC because all the commercial bank will be the distributor of this digital renminbi.
So they have to basically ask for the approval of issuance and then ask the approval of like any circulation of this digital renminbi, right? And then the entire ledger going to be on the private cloud, like off PBOC, and so that’s why PBOC will have the overall visibility on what’s going on like for instance, so if this much of the renminbi is actually issued by China merchant, then like for instance, and like to a specific end point, so if that end point going to be as real estate company or like a local major China real estate or like a real estate developer, so they can actually make specific end point so that is not visible or that is not accessible to getting into this monetary flow.
And so if everything is on the same ledger, so that will be possible because right now there is like a disconnection, so when all the commercial banks like talking with their own clients, so the disconnection here is the PBOC cannot get involved or just interfere whenever all the local commercial banks are interacting with their own clients and then with any potential monetary output.
So they can be a very extreme case, but I think if partial of the monetary supply and M0 going to be on this blockchain rail, so there’s a lot of things that can be creative.
Yeah. Yeah. I mean, and obviously we’re getting a little bit into speculative territory here because you know, it’s not like the whole entire money supply will be in this digital currency, but I do take your point that the central bank definitely will have more control over the money supply and possibly over credit creation, so yeah, when I was reading a little bit about that it did make me wonder if the rollout of this DCEP could affect kind of the growth of the economy which frankly probably has been fueled by a lot of this M2 activity. Do you guys have an opinion on that?
Yeah. I want to add a little bit to this context that Dovey was mentioning. There’s generally a perception that Chinese companies are tools of the state. If you talk to people in Washington, DC, for example, and assume that the Chinese government can get access to whatever data it wants on anyone at any time, and my research into the financial sector shows just how wrong that is in many cases.
The people at the central bank have been frustrated for years about their inability to get Alipay and Tencent Pay to share data with them on the transactions that are occurring. And if you look back at the aftermath of the financial crisis in China, they tried to clamp down on the bank’s lending but there was so much pressure from other actors like local governments to keep the credit taps flowing that the banks just move everything off their balance sheet and started using all the shadow lending, and the authorities just kind of let it happen.
So there’s enormous amount of activity that occurs in China which the government can’t really see and despite all of the surveillance cameras and other things that have grabbed a lot of headlines, in many cases Chinese private companies are able to stand up to the government and they have their own powerful political backing and play sometimes the bitter they are the more they have to play in these factional political battles that might make a chinese entrepreneur sometimes much more powerful than a Chinese government official, depending on you know, how highly ranked they are.
And one of the things that could change with that is you know, the Chinese government has made it clear that they want more control and more ability to access data and there’s a big question is, is to as all these new infrastructures are built, will the company’s ability to resist data requests continue to exist in China, and I think that’s a big question that’s really important.
Yeah, that’s a really nuanced picture that I feel like we don’t normally, you know, I feel like you’re right, the conception is that the big Chinese companies are kind of just like an extension of the Chinese government. But I actually want to go back now that we’ve kind of discussed the structure of the DCEP, to talk a little bit more about some of the things that were coming up earlier in the conversation, like about whether or not China could use this digital RMB to internationalize the currency and help it gain adoption abroad.
You know, there’s a lot of talk when you read some of the materials online about how they have this Belt and Road initiative and how it you know, will connect 65 countries in Asia, Africa, and Europe, and I just wondered like you know, is that one way where they could kind of leverage this network that they’re creating and push the digital currency, or whether or not you think so. I’m just curious, how likely is it do you think that either companies or people in other countries will want to use the Chinese currency?
So there’s a good trend just all over the world of just say de-dollarization and so if we look kind of global reserve off why US dollar asset, like it has been shrinking over past few years, and RMB is actually picking up as one of the alternative reserve in some of the central bankers out there in the world, and so I think most of the other nation states has to make their own decision, but the ultimate goal is always to diversify their own reserve portfolio.
So they have to ask themselves the question, would they prefer their current dependency on the US Federal Reserve, or like they might be adding onto more dependency just on the PBOC, right? So I think it will be a very open question to many central bankers out there, but just fly with the trend of like reducing US dollar asset, so in foreign exchange reserve, and then also given China has bigger and bigger clout along this Belt and Road initiative because like right now if you go to some of these local Africa countries and like you can see massive infrastructure investment coming from the state-owned enterprises, and there’s already just like good enough and like huge amount of trade between China’s company and local governments and also local private sectors, and so I think that digital renminbi itself can actually facilitate that trade, like more smooth, and so because you will actually make the inter-bank settlement so potentially easier.
And then also if we think even further, so PBOC might be able to export this digital fiat infrastructure and then helping the other underdeveloped country and then basically to help them to leap-frog the credit base or like the traditional base that banking system out there. And then so the entire Africa countries for instance it can be like Uganda or whatever, so they can actually like advancement and then to have the same level of advancement as what the China society has.
I think if I’m CCP and that’s definitely in place in my favor.
So I have a much more skeptical view. I think that might be possible in the very long term, but although I haven’t seen the data on dollar reserves going down, but I did see that actual international use of their renminbi has actually declined, and if we look back to a few years ago when there was this exchange rate reform in China, which also was corresponding at the same time with much tighter capital controls that made the renminbi harder to use, since then renminbi internationalization has pretty much not advanced at all.
So I think about payment systems usually in the context of network effects and also the ecosystem. You need to be able to plug into lots of other countries, and the ecosystem here is like financial infrastructure. Are there ways for people who are trading different currency payers, especially Euro currency, to be able to borrow in it, to be able to freely use it, to be able to hedge risk with financial instruments, are the markets liquid to buy and sell?
And so far even though the renminbi is part of this existing financial infrastructure with a network that all of the Central banks and financial players around the world are plugged into, people are not demanding to use the renminbi more and I think that’s an important sign because if you have a digital currency that runs on some unique architecture and requires a duplication or a completely separate set of infrastructure to be built around it to be able to use it, I mean, they’re going to have this DCEP but nobody else is going to have anything analogous to it for a long time.
And I just don’t see how that makes it easier to internationalize than using the existing infrastructure, especially when much of this is unproven. And we consider that one of the main reasons it hasn’t internationalized is because China’s government hasn’t been willing to release some of the control, capital controls and free usability of the renminbi. So unless this digital renminbi has different characteristics and is not as tightly controlled, I don’t see how other countries would want to use it. I mean, they don’t want their countries to renminbi-ize any more than they want it to dollarize. I can imagine that they might work together to develop a digital currency from their own home currency, but many of these countries, even if they’re getting large investment from China still want to protect their sovereignty and be very careful about maintaining their own domestic currency.
So I kind of feel like the renminbi internationalization piece, there’s a lot of demand for a separate architecture than what exists which gives the United States enormous leverage. There’s talk about alternatives to SWIFT which is the messaging system that’s used for most global cross-border payments, but I’m not convinced that digital currency is at least in the short and medium term the way that this is going to get fixed.
Yeah, so I just pulled the data out and I looked at the global dollar share of the reserves versus the renminbi share of the reserve, and actually starting from like ‘17, so like starting from like 2017, so the dollar share of reserve actually declined from about 66 percent right now to 61 percent, and like the renminbi share of the reserve actually increased from one percent to close to two percent. Even though it’s a single-digit percentage, but if we think from just like growth perspective so that’s almost like 100 percent growth.
So I think all the central banker around the world and so whatever they want to do to diversity their reserve portfolio and other than dollar, Japanese Yen and then so all the usual suspects, and renminbi is definitely probably the most promising candidate so they can potentially have on their reserve portfolio.
And also add on to this payment has network effects and so I totally agree on that. I think from just a strategic planning, Alipay and WeChat Pay can potentially ask the children horse, so for this like the digital fiat currency or digital renminbi and to be widely used, just like outside China. And so it’s all about usability and then it’s all about how many offline merchants can actually accept this payment, and I think if like PBOC can actually first that we’ve heard that from happening, just like have, so potentially have a better policy when it comes to foreign exchange settlement, things like that, so that can actually drive the adoption really fast. That’s my two cents.
All right, so we have so many topics I’m going to have to leave you guys along a little bit more quickly. In the backdrop of all this discussion, especially around what currencies it is that some of the other countries, like smaller countries especially will want to hold as their reserve currencies, is the Libra question. But before we get to the Libra question I actually want to ask about one other aspect of the digital yuan that Martin brought up earlier which was this controlled anonymity aspect because I wonder if this also will play into whether or not other countries will want to use the digital yuan.
And granted I have no idea. Literally the only stuff I know about China is like what I read in the Western media and apparently you know, there were these stories around the social credit system that then later other reports said, like chinese people were saying like this is over blown. However, one report that I saw did say that by the end of 2018 people who had poor social credit were barred from purchasing plane and train tickets 23 million times which okay granted, it’s a huge country but still that sounds quite alarming to like I think anybody who grew up in a place like the US, that just feels kind of crazy.
So I just wonder like you know, first of all how do you think this controlled anonymity will work, how much surveillance do you think it actually has, and how do you think that will affect you know, other countries wanting to use the currency?
Something quick on that social credit. So what you’re talking about is a black list, like if you borrow a lot of money and then default on your loan and refuse to pay it back, and a Chinese court judges that you could pay it back but you’re maliciously not paying it back or you’re refusing to comply with the court judgement, then they put you on this travel black list. It doesn’t happen from not visiting your parents enough or like not writing enough positive things about the party online, you know, or any of that stuff.
So there’s an element in which there’s a score that Alibaba creates with Sesame Credit. That’s a totally separate thing that got mixed up. There isn’t like some number that if it falls below you’re barred from it, so I wanted to just make that clear.
But in the controlled anonymity part, that’s an area where there’s probably a lot of debate and disagreement even within the central bank about what ultimately this will look like because they really have to do a balancing act here. If there’s too much government surveillance of it I don’t think people will use it, both internationally and even in China. You know, if the Chinese people know that someone at the party is going to be able to watch every transaction they make, they’re not going to use it unless you force them to, I would think.
But my sense is what they’ll do is allow you to transact anonymously with very small amounts and then as amounts get higher that you’re transacting and the risks of money laundering get higher, then they will impose more identity verification and that’s a similar system that they’ve used for digital payments where they require more pieces of identity, for example. And much of it is about just being able to transact without giving any information about yourself to a merchant that you’re paying, and also without giving it to the big tech giants.
So you might want to buy your booze, your baijiu, and cigarettes with a DCEP instead of Alipay because you might have your Sesame score get lowered a little bit and have it a little bit harder to get a loan from Alibaba. But so far it’s really hard to know where they’re going to come down on the amount of privacy they will allow.
Okay, so let’s actually just turn to Libra since as I mentioned this, I feel like this has been part of the conversation even though we haven’t really been discussing it. So do you agree with Facebook’s pitch to the US government that Libra is its best strategy for countering kind of like the threat from China? And also, do you think that Facebook is being genuine about saying that since as Dovey mentioned you know, not too long ago Mark was like trying to court the Chinese Communist party and that Dovey even had this Tweet where he had a book by Xi Jinping on his desk.
Yeah, so I think like the Libra thing, if we’re looking at just back in the history only why Facebook wants to have this project initially and I think Facebook is being very opportunistic, and so Zuckerberg being as a businessman and so I find no problem of him just like being shaky on a lot of things and just talking about one story in front of the CCP and then the other story, and so like opposite story just when it comes to like the US Congress, right? And I have no problem with that.
But I think Libra itself is like after five years of like markers with Facebook and as they had the Messenger, it has been trying really hard so basically to like push out something similar as WeChat Pay. So I think they didn’t just do a good job, right? So like in that payment transaction, so they are not able to pull it off, and so like the whole Libra project I think started about one and a half years ago and it’s kind of in a rush and I think like Facebook actually used this to FOMO the US government because we are in like this geopolitical tension and trouble with China and this can be like 2.0.
So to be honest? Like to think from US perspective in order to make the digital version US dollar leading the game, and I think the easiest way is the Fed should just allow all this at private sector no matter as Libra, no matter as coinbase, no matter as Tether, and as long there is enough stable coin, one on one backed by US dollar, and then those stable US dollar coin can be the interface. And then they can compete with each other and then so better use adoption, better use experience, but as long the back-end is all pegging to US dollar.
So that is how the US dollar can actually have the leading position of this digitization of the money game. It does not have to be Libra. Even though I agree Libra has a very massive user access and so I think like the other thing is Libra wants to bypass the current US commercial banking system. So that’s why at the very beginning, like the 27 Genesis nodes or, Genesis partners and none of them are actually commercial bank.
And I think the US government should also support major commercial banks like JP Morgan and the other actual commercial banks out there and then allow them to have their own just like digital US dollar coin, so their own version because at the back end is actually still dollar and so in that way they can actually further enhance like the dollar position like in the whole digital world and they don’t have to align or just like being extremely supportive on what any of this party from the private sectors.
Martin, what do you think?
So I would say there’s a grain of truth in what Zuckerberg has said because if you look at WeChat’s attempts to expand abroad, they’ve pretty much all failed, mainly because Facebook and WhatsApp already dominated communications and chat in all those countries, and that was the basis for WeChat’s you know, that was the spearhead for their ability to create a super app in China and compete with Alipay. They used this advantage in chat, and Facebook’s user base is enormous, it’s all around the world, so you can imagine that this would be a great way to head off Chinese fintech companies and Chinese financial institutions ability to expand their success in China abroad.
And that’s what some of the chinese have explicitly said that you know, a PBOC official noted that ultimately it could be that if Libra succeeds it’s just going to be the dollar that ends up winning. But I don’t necessarily see that geopolitical potential advantage to the US as a reason to just allow Libra to go forward because there are so many unanswered questions about how this will work and it’s really unclear whether the existing regulatory system around the world could handle the potential challenge that could result if the over 2 billion Facebook users suddenly immediately find it easy to use Libra in their existing apps if it just gets pushed out to them.
You could imagine that say in countries like middle-income countries or places like Venezuela or Turkey where there’s a lot of inflation that people might dump all of their domestic currency for Libra and that could be extremely destabilizing for those currencies. I don’t expect that it would have much impact on the advanced economies, but China is really afraid of a scenario where you know, it’s easy for China to ban Libra and have it not be a threat to China specifically, but if it catches on and becomes a unit of account and important for the digital economy all around the world except in China, they don’t want to find themselves in a scenario where they’re isolated or find themselves having to let Facebook in to avoid being isolated.
Yeah. Yeah. One thing, and this actually goes back to earlier when I was saying that I thought that I had read that one of the officials involved in the DCEP did cite Libra as like a motivation and yeah, I see here Mu Changchun who is he head of the PBOC’s Digital Currency Research Institute, said “If Libra is accepted by everyone and becomes a widely-used payment tool, then after some time it is entirely possible that it will develop into a global super sovereign currency. We need to plan ahead to protect our monetary sovereignty.”
So I do think for this reason actually that the possibly that Libra might instead be released as different stable coins pegged to a bunch of different fiat currencies that that could kind of mitigate that fear that the Chinese have and frankly increase the potential that the digital yuan does end up having more power globally than US lawmakers might like.
So we’re running out of time but I actually really just want to ask a question about bitcoin. Alex Gladstein of the Human Rights Foundation came on my other podcast, Unconfirmed, and he said that he thought that all of this will end up being a blender for Xi Jinping because he basically said that you know, to learn about blockchain you end up learning about bitcoin, and the Chinese will be more attracted to bitcoin than they will to the digital yuan.
And I kind of brought up oh, well, in the past people had said that they thought that the internet would open up China and obviously that hasn’t really happened, and you read these articles where Chinese people are just like I’m happy with the internet I have, they’re like who cares about Google and Facebook and whatever?
But Alex was saying that money is a different thing, so do you agree with Alex that this could end up being kind of like a gateway to bitcoin and if so, like do you think that that will have some kind of effect on the power that the Chinese Communist party has on china?
So I think this blockchain blessing from Xi definitely help like just this generic, just a bitcoin awareness because blockchain and bitcoin, there’s the two concepts, they’re interrelated, and it’s very hard to isolate one from each other, and like we can see from all these recent educational material released by CCP, and so they actually have to refer to the history of blockchain and then actually mention bitcoin because traditionally like in past few years the narrative around bitcoin among just the average Chinese is like bitcoin is a scam and crypto is a scam, and I think at least this kind of a narrative, like can be eliminated.
But we have to keep in mind that the average Chinese citizen and also by Chinese culture is very prompt to authoritarian statement. So I think if the message from why the Chinese Communist party is okay, blockchain is good, digital renminbi is good, I think most of the average citizen will just prompt into this Chinese version digital currency but like probably not bitcoin.
And it might be in the very long term when like the Chinese economy probably melt down and then people are not happy with their current living situation, things like that, I think whenever there’s a potential sovereign fiat crisis, I think that can be just a cognitive like awaken moment for the local chinese and so they might be consider okay, so probably bitcoin is actually the plan B.
The other thing to keep in mind is bitcoin is already very expensive, like in the eyes of any newcomer, so any Chinese citizen who’s new to digital currency or cryptocurrency, the average annual household income back in China is about 10 thousand US dollar every year. So whoever is new to bitcoin in China, and I think 99.9 percent of the Chinese like he or she will basically think bitcoin is already too expensive and it is too volatile and so what I should buy into bitcoin and then just instead of like probably buy into stock and probably stick with my current daily renminbi activity, right?
And so I think there’s a huge gap, there’s a huge leeway before the Chinese citizen eventually consider bitcoin as a store of value.
Yeah, I think that’s right, and there’s also the fact that Chinese government has cracked down so much on cryptocurrency exchanges, made it difficult to buy bitcoin in China You can still do it through there’s some peer-to-peer methods, but it’s not terribly easy and many of the ways to buy it might appear quite shady for an average chinese person.
But I think it could actually you know, this push to blockchain might actually backfire in another way which is that this is a very new technology that is mostly unproven for most of the applications and if there’s too much investment in it and too much of an idea that the top leader has said we need to apply it to we’re going to apply it whether it makes sense or not, it could actually lower Chinese growth and make things less efficient by trying to jam blockchain into areas where it doesn’t make sense, especially if they’re not willing to decentralize and use it as the technology was originally intended.
So it’s very hard now to be in China and be a blockchain skeptic which I think is important viewpoint that needs to be there in these discussions, but that kind of article would now get censored because you’re disagreeing with the top leader and I think that’s a big problem.
I would definitely agree with that. Oh, my gosh, that’s a hugely important point. Anyway, okay, so we’ve covered so much but just one last quick question. I wanted to hear from each of you on what your prediction was on how this global digital currency space race will play out.
So I think my prediction is giving all this resource allocation and I think China will be the first one to launch a nationwide scale digital fiat currency. Like the US on the other hand because they don’t have strong enough incentive given like the current US dollar is meeting precision, so in our global economy I think US going to be behind and so there will be probably second tier nations states for instance potentially Canada or potentially Singapore, I think they will also catch up to the game as well. That is my prediction.
Do you think Libra will be a player or no?
I think when Libra, they have to be US dollar backed and so if they can be 100 percent US dollar backed but not a basket of the other currencies, and I think they have a chance to get the approval from like the US government. I think that’s like a big if.
Okay. And Martin?
Yeah. I would tend to agree. I think that generally the way that blockchain is developing in the US there’s so much regulatory uncertainty that I don’t think most of the…you know, I think it’s going to be held back there compared to places like Singapore.
Libra, it’s a big question mark. I would actually think that some of the smaller countries and smaller central banks are going to be the first to issue central bank digital currencies before China, like maybe Sweden will do it before China, and actually countries like Uruguay have already done pilots where they’ve put central bank digital currency in the hands of, they’ve actually done pilots where regular people can use it. So China if it comes up with a pilot won’t be the first to do so, but I think it’ll be the first major economy to end up doing so.
But I think Libra has more of a shot in the short and medium term to be successful internationally.
Oh, okay. Great. All right. Well, we will check back in on how you guys did. Thank you both so much for coming on Unchained. Oh, no, no, no. Sorry. I’m sorry. Actually before that, where can people learn more about each of you?
Just for all the audience out there you can follow me on Twitter at Doveywan, so probably also send email to me at Dovey@primitive.ventures.
And for me I am at Chorzempamartin on Facebook. It’s a long name but it’s not too scary, and then my profile with all of my work is on the Peterson Institute website, if you just search for my last name and PI it’ll come up and then you can read all of my blogs and policy briefs and other stuff including writing on central bank digital currency.
Okay, great. All right. Well, thank you both so much for coming on Unchained.
Thank you, Laura.
Thanks so much for joining us today. To learn more about Martin, Dovey, and the China DCEP, check out the channels inside your podcast player. If you’re not yet subscribed to my other show, Unconfirmed, which is shorter, a bit newsier, and now features a short news recap, be sure to check that out. Also, find out what I think are the top crypto stories each week by signing up for my email newsletter at Unchainedpodcast.com.
Unchained is produced by me, Laura Shin, with help from Fractal Recording, Anthony Yoon, Daniel Nuss, and Josh Durham. Thanks for listening.