How Distributed Ledger Technologies are set to disrupt the world’s monetary system

, Eugène Delacroix Liberty Leading the People The intent of those involved at the very beginning of cryptocurrencies was to disrupt the monetary system and offer an opportunity for people to escape the control of states and institutions. Today, Bitcoin, Ripple, Dash, and others provide both value transfer and storage. Cryptocurrencies continue to gain momentum, revealing money’s digital future: general adoption now is on the horizon. Central banks and governments had already been paying close attention to DLTs (Distributed Ledger Technologies: including blockchain, direct acyclic graphs ledgers, etc.) since their creation, but, with their increased hype starting in 2017, institutions have been forced not only to take cryptocurrencies seriously but also to judge and comment on their future. Official positions however, tend to be biased in favor of the status quo. The purpose of this essay is to investigate as objectively as possible the potential for cryptocurrencies and DLTs to play a role in the future of our monetary system. We will start by briefly reviewing the history that led to the current system, understand its challenges, and explore the alternative ideas at the origin of Bitcoin. We will look at cryptocurrencies own limitations before assessing some of the potential uses of distributed ledgers that could change our global monetary system forever. An essay on monetary system disruption: what an ambitious task on such a loaded topic! Let’s get to it. I. Monetary systems; a brief history Richard Nixon announcing end of gold convertibility of US dollar As of early 21st century, our interesting monetary system on this beautiful blue planet can be seen as a questionable heritage. What we have today is the consequence of the unilateral decision to cancel the convertibility of the US$ to gold by American President Nixon in 1971. This philosophically meaningful event has been a revolution in the story of monetary systems. How long of a story? Well, let us go through an (oversimplified!) version of our history to understand how we got here. Way back when we were happy, blissful hunters and gatherers, we simply went out and got what we needed. However, we did not completely lack a sophisticated macroeconomic consciousness, and swap exchanges started to occur, with exotic exchange rates (five handfuls of beans for a rabbit…). Soon enough, we wanted more than we could hunt or gather. This raised the need to store and move value for more convenience as single transactions could not always procure what you needed. So objects with perceived intrinsic value, such as conch shells or potteries started to be saved and exchanged. And we lived a long time like this with swaps relying on more or less abstract objects, which were more or less rare, beautiful, and difficult (time-consuming) to produce. Eventually it appeared that certain non oxidizable metals were of particular interest and a convenient way of storing and exchanging value, and gold/silver became widely accepted as such. But then things started to mess up. When societies began to organize, they quickly got dominated by kings, sultans, tzars, or what have you. These rulers realized that controlling the value exchange and storage system was a great means to achieve even greater power. They started retaining for themselves the privilege to issue money. Peasants were further obligated to pay taxes or tributes in the ruler-minted coins, or they would face the militias paid by the ruler in his self-emitted coins. proved to be quite stable for a few more thousand years! But it had a small flaw; workers were struggling under work to pay taxes. At the very least, it just wasn’t the most egalitarian of systems and at some point in time people started to claim fairer treatment. More ‘modern’, democratic states emerged, and well, they naturally inherited the prince’s privilege to issue money. This feudal system Swiss 20 Franc Coin At this moment in history, central banks in each country were issuing their own precious metal tokens used in everyday trade. By then, “money” still had “intrinsic” value. But, using gold coins had several drawbacks: it was subject to physical erosion; to losses; and most importantly, it was in limited supply. The particular concern here the dynamic adaptation of the monetary supply needed for economies to run smoothly. Throughout the 19th century, the inability of central banks to issue enough coins for businesses to develop whenever gold was scarce caused repeated recessions, alternating with economic expansions whenever gold was discovered — like in , , , Transvaal (1873), Yukon (1897),... Georgia (1830) California (1848) Australia (1851) Gold ruch in California, 1850s So, the obvious solution was to generalize paper money. Notes are an Arab invention — the word comes from the Arab word for king, In the west, bank started in the Middle Ages to issue from a financial institution that could be conveniently repaid later and/or at another place. In order for the central banks to adjust the monetary supply without being limited by availability of precious metals, they decided to issue IOUs as well. These notes were convertible to gold at a nominal rate — but of course little by little, it happened that gold stored by central banks did not cover the total face value of printed notes… cheque sheik. I-owe-you (IOU) Inside Fort Knox What happened next is European nations committing suicide in two world wars, that left the “old world” bankrupt after having supplied their war efforts at the US counter, payable in gold. In the months following WWII, was holding most of the world’s gold reserves. The finance ministers of western nations gathered in , USA, to discuss and sign the eponymous agreement. It stated that the US dollar would be pegged to gold, and that other currencies would be pegged to the US dollar. Fort Knox Bretton Woods This agreement governed the monetary system until our good friend Nixon stepped in. II. Questioning and criticizing the current monetary system So. 50 years ago, the US decided to torch the Bretton Woods framework. The money we were using every day to buy goods and services suddently lost its collateral backing and became officially just a convention. As we were used to paper money anyway, we did not perceive really that anything had changed. But what did change though is the macroeconomic tools in the hands of central banks and their behavior to influence the economy. We entered in an era where they are able to change the monetary supply as they please, with little concern about the “assets” side of their balance sheet (when buying a good price for trash securities for instance). With no need to back the currency with anything, macroeconomics fundamentals changed. Our central bankers are empowered as never before to act on the money supply to control inflation. Evolution of stock prices and central bank interest rates during the last 50 years Let us try to clearly understand the criticisms faced by central banks and the monetary system. #1 Fiat currencies do not have any collateral As we just saw, fiat currencies are now paper money that either rely on the belief that everyone is willing to use it, or are enforced by law. Today, all official currencies fluctuate against each other and with respect to precious metals. Here, maybe we should make an important diversion, so that we have the basis for further discussions. We need to understand the distinction between and . Many of us might not even be aware of the difference… central bank money commercial bank money You recall, from the first day medieval merchants started to use IOUs, the monetary supply started to increase. Commercial IOUs obviously have a face value and can be exchanged; they contribute to the overal amount of money circulating, but they do not involve directly the central banks. They are : your bank account balance is intrincically an IOU from your bank to you. Then when an individual A banking with BankA wants to pay 10€ to individual B banking at BankB, as the redeeming bank is different from the emitting one, both banks need to reconcile their accounts; here BankA has to compensate BankB for the IOUA redeemed to B. The payment between the banks is done in . commercial bank money central bank money So what is exactly? It’s the bulk of coins and notes for sure, plus it’s the currency used by a licensed commercial bank to pay for its IOUs redeemed by another commercial bank. They usually compensate for just the delta periodically. By law, is completely redeemable for , but the sole form of available to the public are coins and notes; the “central bank IOUs” are reserved for financial institutions usage. central bank money Commercial bank money central bank money central bank money Note that interestingly, all originates from lending operations. Therefore an increase in commercial debt increases the money supply (and loan reimbursement decrease it, of course). And the demultiplication of money supply through successive lending of deposited money by banks has ended up with representing the vast majority of the current money supply. commercial bank money commercial bank money The consequence is that, whenever Central Banks decide to issue more , the impact is not direct; it is a means to influence private actors through interest rates fixation on their deposits at the central bank. The impact on the monetary supply truly applies only when private banks agree to lend more to households and companies. central bank money Now back to the critics: not only does fiat currency have no collateral, but its very creation and existence merely comes from the trust in private financial institutions. This system can only holds due to our confidence (and habit!) in the commercial bank network. #2 Monetary expansion policies are unconstrained This is the logic following. With no need for backing fiat currencies, the monetary supply may have become too liquid compared to what economies were used to. In 2009 when it became obvious that many huge banks would go bankrupt if nothing was done, US federal reserve decided to step in and buy back so-called “toxic assets” so that private banks would not default. This brilliant invention of quantitative easing ended up flooding the market with liquidities so that the economy could rebound, while interest rates were already close to zero. source Sadly holy miracles do not exist, and physics always messes things up. Someone actually have to pay in such cases. And that someone was you and I. When the US Fed started to issue free money to rescue banks, they diluted the fiat money held in our savings and retirement accounts. Let’s be clear, we did not ask the US government to decrease the value of our fiat money. We did not vote for that! And now there are consequences for Americans and non-Americans alike. If central banks continue using such unconstrained monetary policies, not only is it difficult to decide at which level to stop, but it is philosophically impacting because saving behaviors are artificially penalized for the first time in history. #3 Powerful nations use their currencies to abusively advance their sole interests Official currencies are unequal, nations keep using them as tools in their favor. Here are a few illustrations to depict this challenge: When the Chinese have financed America’s trade deficit by buying US treasury bonds for decades, they exposed themselves to the risk of the US printing money. So in 2009 all that China could do was just cry. source When French bank BNP wanted to do business with Sudan, and the Sudanese only had US dollars to pay, the US claimed that extraterritoriality of their laws applied and sued [as Sudan was under a US embargo]. BNP was fined $ 9 billion. You may call this economic war. Using your own currency for foreign trades is always an advantage. You avoid exchange fees and need not to hedge against exchange rates. And still: when Japan buys oil from Saudi Arabia; well, here is a hint; neither yen nor riyal are involved. Again, US$ remains king. When Euro was established in the early 2000s, Germany insisted that its Bundesbank principles apply unilaterally. So Europe adopted a strong currency with low inflation, well suited for competitive export-oriented nations. However, Southern European countries accustomed to repaying their debt through inflation could no longer do so (while still being asked for high-risk premium). This led to Greece’s bankruptcy and the weakening of Spain and Italy while Germany obviously kept its outstanding external trade balance. source More than ever, currency is a powerful tool for a country to use in its own interest. And obviously it is always the most influential countries that do so. #4 Governments sometimes use money controls to keep a hand on the population So-called legal tender forces citizens to accept and use the state-issued currency. Some countries restrain their citizens as individuals to invest abroad for more or less legitimate reasons, by forbidding the use of their currency outside of their home country. , the monetary system today is a techno-socio-economical patchwork, the result of centuries of history, failures, and fixes. This leaves the door wide open for the manipulations of central bankers wizards, while we are in an environment where powerful nations unfairly use their currency to advance their own interests and control their population. In summary Oh yes, and for your records: once the ink had dried on Nixon’s decree, the US just kept the gold it was sitting on — with Goldfinger lurking at it. From movie “Goldfinger”, Opus #3 of James Bond series III. Alternatives on the way to Bitcoin Research on alternative monetary systems had been going on for a long time, identifying some more or less successful solutions, especially after 1971 as post-Bretton-Woods legally-imposed floating system raised questions. Successive economists, academics, and activists have been constantly advocating for what we could generally describe as “a competitive, decentralized, market-based monetary system that could optimally generate a means of exchange with sufficient supply and reasonably stable value”. was one such champion. Renowned Austrian economist and philosopher, he proposed a system in ‘ ’ (1976) and (1978) where banks would freely issue their own irredeemable banknotes (i.e. without any collateral). According to him, the money supply would be self-regulated by the virtuous mechanisms of competition. Communities would not have to depend on a single currency issuer, and private banks would have to maintain the value of their currency not to risk bankruptcy. Friedrich Hayek free banking Choice in Currency Denationalisation of Money These alternative monetary systems remain somewhat provocative to governments, and indeed they were seldom tested in the real economy. But interestingly enough in the US, the economic period from 1837 to 1864 is known as the . Then, ‘Free Banks’ were allowed to issue their own banknotes. Free Banking Era Two dollars banknote from the Bank of De Soto In contrast to Hayek’s system, such banknotes were strictly a promise to be redeemed against some assets (gold or treasury bonds). Therefore, ‘Free Banks’ were legally required to hold one dollar of government bonds as collateral for each emitted dollars. But there was a problem: state bonds could also be bought on a secondary market, at a different price than their face value — in general at a lower price, better reflecting the US state’s financial health. Do you see it coming? source So… What had to happen, happened! When the compulsory collateral for the privately-emitted paper money plummeted, banks in effect lost their ability to redeem their notes. And, basically, whenever an economic downturn came about, ‘Free Bank’ note users brutally learned that their money was worthless. They lost faith in the system and went queuing at the ‘Free Bank’ desks to get back hard assets. And, as there were close to nothing in the vaults to give back, this led to bankruptcy and the altogether end of the free banking era… More recently, in the 1980s, activists saw the emergence of the Internet as a new way to create a global monetary system without government influence. Several initiatives emerged. In 1985, David Lee Chaum proposed a cryptographic currency in his article “ ” including most of the technical basis that lead to Bitcoin. security without identification; transaction systems to make Big Brother obsolete The company Gold & Silver Reserve created in 1996, a digital currency backed by gold, but was forced to halt operations in 2009 due to legal issues. The company pleaded guilty to “operation of an unlicensed money transmitting business” and “conspiracy to engage in money laundering”. Challenging the monetary system is not so easy… e-gold Paralelly in 1992–2001, Cypherpunk, an activist movement, emerged promoting social and political change through the use of cryptography. The movement was composed of hackers, and privacy proponents like Timothy May, the author of and Nick Szabo who developed untill 2005 the idea of a digital currency called , which was decentralized and based on the concept of a limited available resource. Overall, cryptography gained momentum as the best way to escape from government or Big Companies influence and controls; all the ingredients were there for a breakthrough. The Crypto Anarchist Manifesto Bit Gold Cypherpunks main members The rest of the story you know well. In 2009, Satoshi Nakamoto created the first viable ‘ ’ called Bitcoin. On 11 February 2009, a post announcing the first implementation of the Bitcoin concept. He expresses an analysis of the current system’s deficiencies similar to that of Cypherpunk and defends the same values of individual freedom, free market, through establishment of a neutral and global currency. Peer-to-Peer Electronic Cash System he published “The root problem with conventional currency is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve.” Satoshi pretending to the Satoshi who created Bitcoin And here we are; Bitcoin has met huge enthusiasm ever since, from geeks at first, to general public in 2017, and followed by the launch of a whole bunch of other cryptocurrencies. Now, a lot of debate about cryptocurrencies and especially Bitcoin has been sparked, about their technology, their legitimacy, their future, etc. Tempers even have been flaring, especially following 2017’s ever escalating hype.The best example is Jamie Dimon, CEO of JPMorgan, who called bitcoin a “fraud” and said that he would fire any employee trading bitcoin for being stupid. He added: “The currency isn’t going to work. You can’t have a business where people can invent a currency out of thin air and think that people who are buying it are really smart.” The crypto community didn’t take long to react to Dimon Today, the running fight against controls is being waged by the cypher-community within blockchains on the anonymity ground. Research and implementation of Zero Knowledge protocols is the very expression of this continuing battle — and KYC impositions and critics of Monero/ZCash is the response by regulators. The main point to make in this paragraph was to show how cryptocurrencies have been developed for the very purpose of offering an alternative to the current monetary system. And my opinion is, it’s the most interesting idea proposed for a long time! IV. Pros and cons for crypto monetary systems Some think that if cryptocurrencies manage to be widely accepted, the current value of fiat money could be easily transferred to these new tokens. Indeed, their introduction not only creates systems that qualify as monetary systems, but further opens up unprecedented possibilities. First, DLTs provide a system suitable for peer-to-peer transfer of assets, which means that it perfectly supports direct payment from one individual to another, with the same user experience already accessible to WeChat transfers users in China. This is practical not only for face-to-face interactions, but also at a distance, regardless of national borders. Second, smartcontracting on DLTs opens the era of programmable value transfer. The idea to attach a state-machine to the distributed ledger of transaction entries has been the genius of Vitalik Buterin founding Ethereum. You end-up having the equivalent of a distributed computer that deterministically updates states depending on the transactions and on messages passed on the blockchain. This allows to code, then execute logics directly within the blockchain, automatically enforcing payments as outcome of contracts between parties, depending on criteria. DLTs thereby open what is touted with reason as layer powering the “Internet of money”. Third, again, no official authority has control over the protocol. In particular, the pattern of emission (inflation) of coins is fixed in the code with no human intervention possible, thus avoiding any risk of tampering. Everyone is equal according to the system. source Fourth, a public distributed ledger system is auditable by construction and by default, in view of everyone. Or if desired, exchanges can also be anonymized. Technology allows you to choose transparency-inspectability or anonymity-untraceability, and there will certainly be room for both ways to handle value transfers. Furthermore, tokens on DLTs can be designed as fungible or non-fungible . [a crypto-asset is fungible if two tokens are undistinguishable one from the other; it is non-fungible otherwise, if all coins have for instance a serial number] In short, cryptocurrencies are candidates to open up a new monetary era. However, crypto monetary systems don’t come without their concerns and limitations. We are going later to dig into the great new possibilities opened by DLTs, but let us take first a look at what issues bitcoin & co face as difficulties. #1 Lack of legitimacy Cryptocurrencies have a legitimacy issue, at least for the time being. Why would we all agree that Bitcoin should be the world’s dominant money and not BitcoinCash, which has nearly the same characteristics? Why not the Ether? In fact, there are so many; how would we choose among them? Criteria could be chosen on speed, scalability, energy consumption, safety. For now, the cryptocurrencies that tend to retain most of the enthusiasm are the one with the widest initial adoption. Also, if you want to picture a replacement the Singapore Dollar + Russian Ruble + Brazilian Real + etc. by a single cryptocurrency convention, you better want to determine how the initial distribution is to be done in a fair manner across the planet. On the contrary, accepting Bitcoin as a standard would mean that the early miners/speculators would already own most wealth. Finally concerning legitimacy, pure cryptocurrencies hardly have any underlying asset from which to derive their value (just like fiat), and this explains at least partially their high price volatility. #2 Technical limits Crypto monetary systems face technical bottlenecks, currently being researched. Any entity who gets more than 50% of stakes in a blockchain network can literally control the network ( ). . Today, cryptocurrency mining tends to centralize dramatically and the regrouping of minors regularly leading to pools of ~10% of hashing powers. Effective decentralization: 51% attack [ A paper by Cornell University researchers shows even that an economic attack can be launched by an entity having as little as 25% of the stakes] Researchers are actively working on the development of quantum computers; one of the last releases is Google’s operating with 72 qubits Bristelcone The cryptography used by today’s DLTs will not be resilient enough if computing power expansion continues following Moore’s law. Safety of cryptography used for signatures in Bitcoin and Ethereum is based on the fact that no algorithm is today known to solve the discrete logarithm problem in a reasonable amount of time for large numbers. But new algorithms calculable with quantum computers can threaten this safety: they could generate a private key from a public key “in reasonable time”. Cryptography used by DLTs protocols will need to evolve to remain relevant by then. Cryptographic vulnerability: DLTs have the : out of scalability, decentralization, and security only two properties can be achieved. Indeed if you want to increase the number of transactions per second, you compromise decentralization as fewer validators are able to keep pace and participate in the network to make it secure. So far, , blockchain systems chose security and decentralization over scalability. As a result, when visa can handle up to , bitcoin can only handle a maximum of , and other more performing blockchains manage to reach higher rates only by compromising on decentralization (using variations of Proof of Stake or Authority). Scalability: Scalability Trilemma as they are essential 47000 tx/s 10tx/s As its name says, on public blockchain networks, all information is public. Privacy was originally ensured by mathematical pseudonyms, but this kind security today is not sufficient, and it has become simple to through analysis. The FBI says that they are happy when offenders use bitcoin, as it makes their work much easier. Privacy: re-identify pseudonyms It depends which referential you choose; some could claim that fiat currencies are very volatile when quoted in cryptocurrencies. But the fact is that a monetary system based on public blockchain could not work well with so huge and fast variation in the prices of consumer goods. It needs to stabilize before being of any use — period. Price volatility: source For sure, the growing crypto community is actively working on solving the technical issues, for instance with , privacy with , . The development of the web also did not happen in one day — but there is much work on crypto’s plate. 2nd layer scalability solutions ZK Snarks post quantum cryptography #3 Governance issues Cryptocurrencies protocols are just that; protocols, with members (nodes) running compatible clients. The crypto community can decide outright to amend the outstanding protocol to update features. But they need to agree all to update simultaneously, otherwise this can result in a fork, and a “hard” one causes incompatibility with the participants that would not implement the change. If a fork occurs, the community and the currency splits in two, which we will all agree, would be sort of a mess in a monetary system! Just remember the difficult discussions on Ethereum following the The DAO hack that lead the hard fork of . ethereum classic So to say the least, duplication of tokens on two resulting chains must be prevented for a DLT-based currency to be serious; in other words, developers need to coordinate properly. But this is not the only issue. By nature, there are subset of individuals who are involved in the consensus mechanism, be they stakers or miners; these people are likely to behave according to their interests, for instance maximizing their reward, that may not be primarily centered in making the currency system fair or stable. Users and main holders of the currency may as well want to influence the decisions in their sens, probably to limit the inflation (i.e. amount of money created for each new block). So, for a public blockchain handled by a community to be suitable as a reliable currency, a working governance is a real matter. So here we have a bit of a nice paradox! The main purpose of the cypherpunks was to create something that could be independent from any control authority, but somehow the protocol implemented can hardly be good enough that it will stay unchanged forever, and so it needs some efficient mechanisms to decide how and when it needs to evolve. Today, despite the image of equality that they convey, cryptocurrencies are not neutral at all, they are a rather unstable and tricky self-regulated environment. The message here is that if cryptocurrencies are to play a central role in the monetary system, they may become too important to leave them up to their crypto-anarchist fathers. V. Concretely forward looking — 3 open orientations set to disrupt our monetary system So now, on the one hand, we have a legacy monetary system that is far from optimal. On the other hand, we have distributed ledger technologies that seem to be suited to support the imagination of alternative systems, even if they are not yet totally mature and even if we can expect that their governance will be touchy. From there, let us try to picture where some of the currently wide open paths could lead. I hereby choose to develop 3 ideas, not to prevent further tracks. #1 Potential generalization of tokenized assets as means of payment One novelty is the ease and efficiency with which blockchain allows to tokenize anything. You can . And these tokens then have properties hardly imaginable for traditional assets of our current monetary system: by design the ledger will from then on keep registering an always provable record of all ownership transfers (except if you decide to use anonymous protocol). represent any object or commodity virtually by a token on a distributed ledger If you desire to, this token-object can be fractioned and co-owned by several people, with still a built-in notary registering ownership much more easily versus waiting months before your official notary agrees to take from you a several percent fee to record in books what you want to do… . You could pay for your coffee with a fraction of a Google stock, trade some Air France loyalty program miles for a suburban train ticket, get rewarded in fractions of beer for collecting used glass bottles, or sell a book you just finished reading for a tiny fraction of the ownership of David Bowie’s first guitar. The possibilities are endless You could consider this as prehistorical swaps making their great comeback! Indeed, as long as we can invent a system / process to evaluate properly what assets are worth (probably expressed in a couple of unifying reference assets), any part of the patrimony of a person or a company could potentially be represented into pieces and traded, which makes possibilities truly infinite. So some sort of supporting framework would be needed for sure such as unified identification system for assets, convenient way to agree on the valuation by parties referring to it, sufficient liquidity in the regarded asset markets, and an environment to involve an intermediary for example if you have a coin A and you counterpart wants coin B. #2 Managing central bank fiat money on distributed ledgers We saw that today’s monetary system has some serious flaws. After what we pictured above, my most avid readers may start claiming that they knew it all along; the current monetary system is like a zombie that will collapse by itself, weak in face of the beautiful efficient competition coming in to seize its place. But . My advice; stop dreaming. It all just cannot go so easily. Because as you understand, . They have just too much to lose to let it all go so easily. no there is way too much at stake for states in general Furthermore, I hear some saying that the “world’s monetary system is in fact not working that poorly. ” True, it somehow manages to make our economies go through expansions and downturns more or less successfully. Purposely adapting the money supply so that financing gets easier when economic confidence is weak and raising interest rates when it goes better is a questionable way to prevent and deal with crisis, but it is a way nonetheless. At least there is someone piloting the plane — obviously no one knows what would have happened in 2008–2011 without this “quantitative easing. ” It somehow worked, if you consider that nobody has been denied access to their savings during the downturn. [Well, yes, except in Cyprus… !] bankers taking responsibilities Central So moving to a yet-to-be-designed, totally new, decentralized money management system, whatever it may be, would remove the sort of safety that the central bank ‘pilot’ provides. Actually, rather than declaring our current system obsolete, why not use DLT to make it more efficient? Indeed, the idea of crypto currencies pegged to fiat currencies, some sort of “crypto-dollars”, is gaining momentum. Such tokens would be a continuation of the conventional fiat currency with a new way of handling it. It would be just equivalent to the paper and coins issued up to now, and the two homogeneous means of payment could both just circulate in parallel. These ‘digital’ dollars could be even more appreciated by companies and individuals as they would be virtually impossible to counterfeit. So far, there is some confusion for which entity should create them. While some people suggest that , others envision that private just as it is the case today. central banks would be responsible for the emission financial institutions could emit them Crypto fiat emission would be substantially different whether central banks or commercial banks take responsibility for it. As we saw earlier, right now only about 10% of the money that we use day-to-day is central-bank-emitted whereas most of the exchanges are conducted with money demultiplied by commercial banks. We all tend to forget that the money we see in our bank account is not dollars or euros, but merely an accounting entry that in some ways is denominated in our bank’s own currency, that we agree to use as long as it is exchangeable for central bank money. In usual situations, we can at any time withdraw this money, but keep in mind that every bank has roughly only 10% of their client’s money in central bank currencies (cash & deposits at the central bank). (Greece) When everyone tries to withdraw its money at the same time Thus, similarly to the current system, crypto fiat tokens minted by private banks would be essentially different than ones created by central banks, and an appropriate system needs to be invented if the principle of private emission of currency supply is to be translated to a blockchain based currency system. To begin with, let’s consider what would be the implication of a crypto fiat currency for a central bank. Starting to imagine it all, there would first be the need to set-up a blockchain. This blockchain could for instance be a private one, with block validations probably performed in Proof of Authority (unilaterally) by the central bank itself. OK, one to-do item checked off. Then what? Well, the question of who would have account on this central-bank operated blockchain immediately arises. It could be limited to banks and Non-Bank Financial Institutions (NBFIs), or it could be extended more broadly to directly non-financial firms and households. If access is limited to banks and NBFIs, central bank crypto fiat tokens would be just that; central bank fiat money accessible to the same entities today and used in the same way. It would be just lighter than cash, rapidly exchangeable, secure, and they would probably be quickly used as the preferred means to store value and ease interbank transfers, allowing global transfers to be practically instantaneous and free of charge. This concept even goes beyond what offers so far, crypto fiat tokens would directly fiat, and so banks could trust them totally. Ripple be But then next question is; why not open up for individuals and non-financial companies central bank accounts on the very same blockchain. This is actually not a new idea, blockchain or not; and the reason for this to be prevented till today is precisely to preserve the role of commercial financial institutions to compete to offer the best debt emission services to the population, way more efficient than if it were deemed a public service ensured by the central banks. However, DLTs opens up if we all had a central bank blockchain account, with central bank money in it: new possibilities We would all have access to the same core payment system that directly handles our cash with no intermediary. This would inflate the part of the wealth detained directly by individuals without default-prone banks serving as intermediaries. Which could in turn stabilize the overall monetary system and make it more robust. This could one day really happen! Further, some argue that this would make a fairer distribution of currency created by central banks seriously possible. The most straightforward, yet ‘fun’ implementable feature could be the infamous ‘ ’. Indeed, one of the issues in the last crisis has been that money lent to banks hardly cascaded in the real economy. If central bankers now had the possibility to credit every citizen’s account directly, then they could directly inject liquidities in the pocket of those who more desperately need to consume it, and thereby make it possible to counter the effect of a financial crisis on the clueless population. Extrapolating, we would even touch universal income logics (even if here we definitely deviate into a more political debate!). helicopter money Maybe you can then turn your umbrella upside down? Of course, managing individuals’ accounts on a blockchain would raise a number of challenges: The privacy and right for anonymity would be a main concern: imagine an authoritarian regime able to use this… The management of the cryptographic accounts is another concern. Would everyone feel qualified to manage their account keys? What if you get robbed or hacked? More probably, while some people would decide to manage their crypto account on their own (in the same way that some people today store their money in vaults), the majority of crypto banking accounts would be managed by specialized financial firms. The bank of tomorrow, storing their client private keys Let’s now consider how crypto fiat currency could be emitted by private banks You know what? This is already happening! Nothing forbids it, and private initiatives are already being started on the matter. , a Goldman Sachs-backed startup announced a new cryptocurrency homogeneous with the US dollar. According to their CEO; “There are a number of banks who are excited about it and will support it”. Circle If Goldman Sachs creates its own crypto dollars and succeeds, it is likely that other banks will also want a piece of the cake and follow in creating their own crypto dollar. Gasp! Wait, but then it’s the 1830s Free Banking, reloaded! Herr Doktor Professor Friedrich Hayek had seen it all coming! As Hayek explained, in such a competitive environment, there would be an incentive for currency issuers to maintain the value of their currency. However, there would also be an important incentive for trusted issuers to create more crypto dollars than the dollars that they own, and as banks already do that with the current system, I don’t see why they would not continue. The real question is, at the end, if there are several crypto dollars from various banks, will they be of equal worth? They should, as today we don’t make any difference in value between dollars that we see on a banking account coming from HSBC versus Wells Fargo. What a mess, otherwise! So in the future we would probably not make any distinction between two crypto dollars managed on separate blockchain by two trusted banks. They will engineer a system so that it is just their accounting that changes support for DLT. In such a situation, nothing changes much with respect to now; and there would still be times of financial crisis, when we would see the difference between banks who hold central bank money in reserve and those who don’t. Another possibility that could be researched would be for all private banks within a jurisdiction to sort of syndicate and share a common distributed ledger on which they would issue money — all of it would be the same fungible token. The system would be powered by smart-contracts allowing for participants to issue money (through debt creation) proportionally to the deposits of the participating financial institution on the central bank ledger. Well, the idea has yet to be developed, but at least shows the potential that blockchains open up for money issuance management! #3 Specific case of precious metal collateralized tokens We talked about tokenization. So, in particular, any precious metal can be represented and exchanged as a (crypto) currency. With blockchain, we have a way to handle gold, silver, or any other traditional valuable commodity in a divisible, fungible, and easy manner. Gold, Copper, Oil barrel, and Cocoa beans, are about to be exchangeable on trading platforms or directly in peer to peer situations between a buyer and a seller, just as any crypto tokens. If one such backed asset is generalized, then it would be of prime interest for people to use as a value unit, including in smart-contracts, rather than using pure cryptocurrencies (that have no collateral and for the moment are volatile), and rather than tokenized fiat currencies that in fact are not really backed by anything other than confidence in public and private financial institutions. Namely, you get it. There is a strong case for a comeback of gold in daily exchanges as part of a modern monetary system. Not a gold standard as it used to be, but a tokenized gold whose value keeps fluctuating with respect to everything else. Sure, this is actually tricky to do and ultimately somehow contradicts the idea of disintermediation-decentralization that many in the crypto sphere cherish. In fact, to do it, some sort of ‘house of trust’ will need to buy the gold and store it (safely! very safely!) before issuing the tokens to whomever will want to use them. This house or these houses would also need to deliver the gold metal to whomever will want to exit the system while destroying the associated tokens. This business could be launched as a private initiative, by an audited bank (if some countries restrain this sort of initiative, then it could be built freely in a crypto-friendly nation, be peer to peer, and still be easily used worldwide). Many initiatives already are venturing into tokenizing gold: OneGram is an initiative with gold held in a vault in the Dubai free airport zone. ZenGold is a similar project with metal stored in Shanghai. Digix looks like the project most committed to bringing gold back as a common exchange medium, with direct equivalence between one gram of gold and the token. So if the usage is still far from mainstream, we can say that the value proposal is almost ready: blockchain solves the issue of liquidity and divisibility of precious metals as payment methods in daily life. The thing is, gold and other precious metals have the potential to stand very specifically in the crowd of collateralized tokens, with the following advantages: Gold has a truly international value. Besides, rules/regulations already exist worldwide for gold and other commodity exchanges. Gold also conveys trust, as it has had long term acceptance and a traditional presence that can be relied upon throughout time. Gold and Silver have industrial and ornamental/jewelry uses that originate or add to the intrinsic value associated to it. It is a free open liquid market where no government has the control, so technically virtually no monetary inflation has to be feared, and virtually no manipulation of the money supply by any central bank is in question. Gold is free floating only since 1971 Conclusion Usage of cryptocurrencies to exchange and store value is already a reality. The amount of wealth represented on blockchain tokens (total coin market caps…) has increased exponentially since Bitcoin was born, and peer to peer transfers of such money increase steadily in volume year after year. Clearly, volatility is high and it is still complex to find a counterpart to sell what you need where you need it, but it looks evident that, in coins-friendly jurisdictions, usage of blockchain money is going to be generalized. Legacy monetary systems, while criticizable, have a reasons to work in the way they do work. They are deeply anchored and one could bet that most states will never by themselves loosen the grip on monetary controls. In parallel, in order for distributed ledger coins to earn their potential space in the monetary system, they will first need to solve technical issues and prove that their governance can hold water: a good deal of time will probably still pass before we all pay bread routinely in the morning with Monero or pieces of Toyota shares. But in the end, I like to imagine that the further future might be a combination of all the possibilities highlighted in this paper. Legacy state-run currencies may hold in a DLT format; collateral-free bitcoin and litecoin may gain a long term recognition as store of value for the sake of their safety and distributed character; one optimized blockchain token yet to be designed may win the race and be the widest recognized and used one; while a number or other asset-collateralized tokens will be exchanged more or less liquidly; and tokenized precious metals will certainly come back in the game as well. We shall see! Thomas & Alexandre Many thanks to Kevin, Endy, Christophe, Jiulin for their peer review.

How Distributed Ledger Technologies are set to disrupt the world’s monetary system

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