Charting the evolution of programmable money

Despite intense opposition from some commercial banks, interest in digital currencies hasn’t waned

Free market money?

In 1976, Friedrich Hayek, a Nobel Prize winning economist, postulated that great economic benefit, including the elimination of inflation, would result if governments were to relax controls over the issuance of currency. In Hayek’s view, when a central currency issuer uses the money supply to achieve a particular end—such as the regulation of interest rates—it actually hurts the price mechanism equilibrium in the long term. This, in turn, can provoke significant currency fluctuations, the opposite of what good monetary policy seeks to achieve. His stated belief was that the application of “free-market” principles to the issuance of currencies would help reduce or eliminate these fluctuations.

Now, more than 40 years later, we see his assertion playing out in cryptocurrencies, initial coin offerings (ICOs) and stable coins. While some banks and regulators still have some reservations, there is no contesting that these new financial instruments show great promise, even in their infancy.

Bitcoin and banks

Programmable money is real money represented in digital form, also known as tokens. This digital currency is tracked with corresponding electronic ledgers, most popularly blockchains, enabling a transactional record that is publicly and securely shared. This ledger should preferably be based on open source software to promote sound governance, and to keep the programming interfaces equally available to banks and other participants.

The most famous digital currency—Bitcoin—thrilled its backers as it soared to near USD 20,000 in December of 2017. And just as quickly, its volatile nature had it crumble to USD 3,000 just a year later.

The advent of Bitcoin was met with extreme skepticism by banks. And for many of them, the volatility and steep slide validated that skepticism. Most banks see cryptocurrencies as a risk to their clients, and a potential threat to their business model. As much as 40 percent of banking revenue in aggregate is derived from payments and other fees, which is already being eroded by non-bank financial services firms and Fintechs. So, banks’ reaction to digital currency isn’t unexpected. Nonetheless, the idea behind cryptocurrencies remains a hot topic.

Central banks’ growing interest in programmable money

Despite the intense opposition from some commercial banks, central banks’ interest in digital currencies hasn’t waned; in fact, it is still emerging. Understanding that they may need to regulate some cryptocurrencies, central banks have been quietly but actively evaluating their merits and experimenting with their own version, called central bank digital currencies (CBDCs). In 2019, the Bank for International Settlements published a survey on central banks and CBDCs showing that while 85 percent of central banks say they are unlikely to issue a CBDC within the next three years, about a quarter of the central banks said they already have the authority to issue a CBDC or will soon have it. And a full 70 percent acknowledge they are studying the issue.

Around the world, central banks remain vested in both sides of the discussion. Moreover, there is significant interest in establishing a middle ground to create marketplace equilibrium and stability. JP Morgan Chase’s February 2019 announcement of JPM Coin, a digital token that will be used to instantly settle payments between the bank’s clients, only confirms that interest.

Economic theory

The very idea of blending digital value storage and value transmission is giving rise to a new generation of financial networks for businesses, entrepreneurs, and application

developers of all sizes and industries. Even the prospect of the ability to redesign supply chains, redefine business relationships, and transact in real time—anytime, anywhere in the world—is reason for commercial banks and central banks to stay engaged. Whether it’s a defensive measure or exploitation of an emerging banking paradigm, only time will tell.

If the advent of cryptocurrencies represented the “de-nationalization” of money, then the promise of CBDCs and stable coins represent the “re-nationalization” of new programmable money.

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Meet the authors

Jesse Lund

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, Vice President, Global Blockchain Market Development, IBM Financial Services Sector

Jed McCaleb

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, Stellar Cofounder and Chief Technical Officer

Mike Kennedy

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, President, OFX North America

Nicholas Drury, Global Banking and Financial Markets Leader, IBM Institute for Business Value

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