ECB's misunderstanding of cryptos

The views of central banks on cryptocurrencies (in short cryptos) keep changing and surprising.

The latest contribution in this sequel was by the president of the ECB, Christine Lagarde, during an interview with Bloomberg in which she very explicitly stated that:

"cryptos are not currencies, full stop" .. "they are highly speculative assets".

Why cryptos are not highly speculative assets

Given that even Central Bank presidents don't seem to understand what cryptos are, let's start with some simple background.

Technically, cryptocurrencies are (universally unique) identifiers that identify and represent something. This can be a share in a company, a painting, a token for a contribution (like with loyalty points), a payment token, an enforceable rule, an event, it really doesn't matter, as long as it represents something identifiable that is worth identifying (in other words "has value").

Moreover, one definition doesn't have to exclude another. A cryptocurrency can represent proof of a contribution, behave in a certain programmed manner and serve as a payment token all at once. With the use of cryptographically controlled processes, cryptocurrency systems ensure that people can register and govern information and value (like ownership information) in common mutually trusted manners. While the names of 'cryptocurrency' and 'currency' appear alike, their technical abilities, uses and purposes differ widely, so a statement like "cryptos are highly speculative assets" is quite easily dismissed and outright damages the credibility of the ECB in both its understanding and management of cryptos.

If cryptos would be assets, the ECB couldn't have any mandate over cryptos

What may even be more striking is that when the ECB considers cryptos not to be currencies, but assets, then they legally should be treated as such, like 'assets'.

The trading and exchanging of assets, like equities or other financial assets, is regulated and supervised by other institutions than central banks. Only in case cryptos would be created as credits through debt issuance (which is true for around 95% of traditional currencies), they could also fall legally under the regulation, oversight and supervision of central banks, as they regulate, oversee and supervise credit issuing (or money issuing) institutions.

Individually identifiable assets (like cryptos) have completely different risks than pro-rata claims on a balance sheet of a (central) bank (like the money in our bank accounts). Counterparty-, credit-, liquidity-, ownership-, clearing- and settlement risks are completely different between cryptocurrencies and traditional currencies. These risks for cryptos are very similar to these risks for equities and if they tend to be diverse from equities (like clearing- and settlement risks), than they tend to be even more diverse from the risks of traditional currencies.

Time for lawmakers to intervene

Cryptocurrencies have now been with us for around a dozen of years. By and large, central banks have tried to frustrate the proliferation of non-central bank issued cryptocurrencies, possibly because cryptocurrencies are seen as a competitive alternative for central banks' own (crypto)currencies.

In those dozen odd years, central banks, the world over, have exploded their balance sheets, caused inflation (purchasing power erosion), made us more indebted and exposed us to more risks, while lowering the interest rates we get for those risks as compensation. On top of it, they have frequently been the source of misinformation around cryptocurrencies, exaggerating risks and presenting selective truths.

The value of most cryptos is constituted differently than that of traditional money (the former tends to be created out of value whereas the latter is practically created with debt creation). To make a long story short (I'll save that for another post), cryptos are more inflation resistant, credit risks are lower and also clearing- and settlement can be less costly and less risky.

Cryptos can facilitate necessary reform in our financial-monetary system. Almost all ecosystem participants want such systems to be fair and would welcome compliance with non-power skewed laws and regulations. In fact, cryptocurrencies could more easily facilitate privacy and compliance at the same time, something that money in bank accounts cannot provide (I'll also leave that for another post).

The time has come for lawmakers to intervene and to take away the mandate from central banks to oversee and regulate cryptocurrencies, not in the least to facilitate a free market in which innovation can flourish to create more beneficial financial-monetary systems to society.

Heading towards disaster

In the same interview, Lagarde explains that Central Banks (including the ECB) are now looking and considering to issue Central Bank Digital Currencies (CBDCs in short). These CDBCs are designed and based on the current financial-monetary system that central banks operate. This means that CBDCs will not facilitate financial-monetary system innovation, moreover, they will bring the current financial-monetary system towards a state of implosion.

Once clients of commercial banks will have the option to hold their money and deposits in CBDCs with the central banks instead of money with their commercial banks, a massive shift in funding will take place from commercial banks' funding to central bank funding.

There is no counterparty risk on central banks and as interest rates are anyway negative, zero or just above zero, the substantial portion in funding of commercial banks that does not have deposit guarantees is likely to leave.

Introducing CBDCs would therefore introduce an attack on the commercial banking sector and weaken its own currency system.

Yet, another reason for law makers to intervene and to ensure that cryptocurrencies stay far away from central banks' influence.