NYU law professors Richard Epstein and Max Raskin published a paper to explain the potential hazards of central bank digital currencies, highlighting the risk of overstepping governmental boundaries and the importance of maintaining the ‘separation of money and state’.
Central banks worldwide are swiftly progressing with their explorations in creating digital currencies.
Numerous examples, such as the recent announcement of a successful prototype by the New York Federal Reserve or the Bank of England’s achievement in the subsequent phase of its digital pound trial, indicate that over 130 nations globally are considering the idea of central bank digital currencies (CBDCs).
The reasoning behind this is twofold.
Firstly, central banks can position themselves as protectors of consumers and innovators in cost-saving technologies by eliminating the role of private banking intermediaries.
Secondly, they can acquire an additional mechanism for policymaking.
However, the proposition of excluding these intermediaries raises an important question of who would be responsible for the other end of the financial transactions.
The inevitable answer is a far-reaching and intrusive government capable of monitoring every single expenditure.
Max Raskin, an adjunct professor of law at New York University and a fellow at the school’s Institute for Judicial Administration, and Richard Epstein, a law professor at New York University, a senior fellow at the Hoover Institution, and a senior lecturer at the University of Chicago, are exploring this topic in a paper called “A Wall of Separation Between Money and State: Policy and Philosophy for the Era of Cryptocurrency,“ published in The Brown Journal of World Affairs.
Their argument suggests that a central bank, for instance, the Bank of England, would issue a “digital pound,” which would be a direct claim on the central bank, much like current cash is.
This process would involve creating the necessary infrastructure for individuals to store digital pounds in digital wallets and facilitate interactions with retailers and other users.
Contrasting current practices where central banks such as the Federal Reserve and the Bank of England do not offer accounts to direct depositors, the proposed model would eliminate the costly private banking system that presently stands between the central bank and the accounts held by businesses and individuals.
At a glance, it seems that CBDCs might cut unnecessary costs.
However, these apparent efficiency benefits can be deceptive and hazardous.
Intermediaries function in thousands of markets, with representatives, aggregators, and monitors in almost every significant business line. These participants can’t be easily deemed obsolete.
Intermediaries often provide value as they are motivated to offer more than the bare minimum to stand out – such as new banking products and services.
The variety of services banks can offer due to competitive pressures that ultimately benefit consumers. Restricting these forces can hamper the market economy.
CBDC implementation can be risky
The implementation of CBDCs is not without risks.
The idea of providing extensive power and confidential information to a faceless government entity can be alarming. The system can use that data against you in numerous ways.
By removing the private banking intermediaries, CBDCs would eliminate a crucial barrier that currently safeguards individuals and firms from government intrusion and overstepping.
The use of cash and bearer instruments is currently untraceable by the central government.
However, the use of digital cash would be.
It’s clear that even those who decide to stick with private bankers will still be scrutinised by the state, which holds control over all transactions.
Moreover, these digital funds would empower central banks to direct personal loans and mortgages to specific private parties with minor competition, raising concerns around state industrial policies. It’s not hard to imagine potential nightmare scenarios, yet they are difficult to avert.
The question remains: can we trust thousands of new banker-bureaucrats to perform any better?
Can we trust banks?
The Bank of England, in its digital pound argument, emphasised the British government’s commitment to fighting climate change, stating that the digital pound would be designed with this objective in mind.
Why should a topic as intricate and contentious as climate change be regulated through the financial system?
Similarly, U.S. financial regulators have started to wade into political issues like climate change.
If such explicit political objectives are considered, it is not a stretch to imagine a government-run bank using its powers to favour certain energy producers and punish others through their bank accounts.
The power to impact credits and debits must be a feature of the central banks’ proposed code, which introduces a covert system of industrial policy.
If CBDCs become a reality, officially favoured energy sources like solar and wind power could witness their bank accounts receiving subsidies without the need to attract private investors or undergo the scrutiny of the private banking system.
Bank accounts could become vulnerable to political manipulations, bureaucracies, or even disenfranchisement overnight with limited recourse.
Furthermore, these CBDC initiatives in the U.S. were originally proposed in the context of directly providing pandemic stimulus to the economy. However, the evidence is overwhelming that this hasty system of government payments was incredibly wasteful.
Moreover, central banks could implement countercyclical monetary policies, such as providing cash boosts to individuals in specific regions or sectors, which again becomes a political football.
Money and new technologies
We should undoubtedly strive to leverage new technologies, but only when implemented correctly. According to the paper in the Brown Journal of World Affairs, “Money should be a neutral unit of measurement, like inches or kilograms.”
This concept, referred to as the “separation of money and state,” aims to stabilise all currencies over time, minimising the need for private parties to design complex and costly mechanisms like adjustable-rate mortgages to handle financial instability.
For instance, Bitcoin has a predetermined supply of no more than 21 million units, not governed by any individual institution but rather by the network’s consensus mechanism.
This feature provides a robust defence against value dilution that no government-centric system could hope to match.
This fixed system could offer additional institutional support for developing countries seeking modernisation.
Countries with a history of mismanaging their monetary systems could benefit from the discipline that comes with certain forms of digital currency.
For instance, a central bank like Zimbabwe‘s or Argentina’s, plagued with mismanagement, could adopt an innovative form of dollarisation using Bitcoin or another form of programmed cryptocurrency.