Covid-19 Special: Economic Affairs

Covid-19 has made crypto hot again

Central banks are also warming to digital currencies

If you had bought a bitcoin on March 17, when Covid-19 was roiling financial markets, you would have more than doubled your money by July 27, when the value of bitcoin soared past US$10,000. Some other crypto assets such as Ethereum, Ripple and Monero have also been on a tear.

Stock markets have shot up as well, but their performance pales compared to the best performing crypto assets. Covid-19 has made crypto hot again.

Once the preserve of speculators and investment mavericks, crypto assets are moving higher up the radar screens of commercial banks, hedge funds and other institutional investors. In May, star fund manager Paul Tudor Jones revealed that he has been investing in bitcoin, which made many mainstream investors sit up.

But perhaps most interesting of all, some of the world's central banks are warming to the world of crypto. While they have always watched the space with interest, the Covid-19 pandemic has created a greater sense of urgency for them to act.

In its June Annual Economic Report, the Bank for International Settlements (BIS) - the so-called "central banks of central banks" - had a chapter on central banks and payments in the digital era. It points to a greater willingness on the part of these institutions to not only embrace digital currencies, but also become more active participants.

Notably, the report points out that the balance of opinion among central bankers is shifting in favour of launching central bank digital currencies (CBDCs) at the retail level - that is, for the general public, something which they viewed with scepticism until as recently as last year. There are many motivations for this.

One is the growing proliferation of private digital currencies such as bitcoin and others. There is also a proposal by Facebook to launch a digital currency called Libra - a so-called "stablecoin", which would not be hugely volatile because it would be pegged to major fiat currencies such as the US dollar and the euro.

These alternatives could threaten the hegemony of national currencies, which might, for example, find it hard to compete with Libra if it were extended to Facebook's 2.6 billion users worldwide.

Despite running into regulatory roadblocks and being abandoned by many of the companies that had originally signed up as Facebook's partners in the venture, Libra was a wake-up call for central banks.

The second motivation for some central banks to consider launching digital currencies is the dominance of the US dollar, which accounts for more than 60 per cent of bank reserves and more than 70 per cent of all transactions.

The "weaponisation" of the US dollar by the United States, for example, by restricting its use for cross-border transactions by countries under US sanctions, such as Iran and Venezuela, has galvanised some central banks to develop digital currencies that would enable their countries to work around such sanctions. This was almost certainly a major motivation for China to launch its own digital yuan in April.

Covid-19 as a catalyst

And then came Covid-19, which has forced many central banks to seriously reconsider their opposition to retail CBDCs.


As Dr Hyun Song Shin, the economic adviser to the BIS and its head of research, has pointed out, the pandemic has accelerated contactless payments as well as remote payments for online transactions, and the use of cash has fallen - all of which has strengthened the case for a digital payments system.

Financial inclusion is another issue. Governments, especially in advanced economies, have launched huge budgetary support packages in response to Covid-19, but have not always been able to efficiently reach the people most affected.

While there have been some direct transfers to bank accounts and e-wallets, many people around the world still do not have bank accounts and even if they do, they have often had to wait for cheques to arrive by post, which has been slow during the pandemic.

With online payments becoming more common, their costs have also come under the spotlight. Charges for the use of credit cards, bank fees and foreign exchange fees in the case of cross-border transfers are affecting consumers and merchants alike.

This is a problem that proponents of private crypto assets have long complained about. As Mr Marcus Lim, co-founder and chief executive of Singapore-based digital asset exchange Zipmex said in an interview with The Straits Times: "If you want to transfer money cross-border, it should be instant. You shouldn't have to go through the Swift network, which is more than 40 years old. There shouldn't be all these middlemen taking commissions, gouging consumers with fees and charges. That's unacceptable in this digital age."

Options for CBDCs

But what shape retail CBDCs will take is still being debated.

There are basically two options. One is direct, whereby consumers and businesses would have individual accounts with the central bank. For example, you would have an account with the Monetary Authority of Singapore (MAS) through which you can make and receive payments. The MAS would maintain a ledger in which credits and debits are recorded. This would lead to faster, efficient payments with real-time settlement, in which commercial banks would not have to be involved and no cash would be needed.

The move towards CBDCs will have to be accompanied by proper regulation. Once that is in place, there will be greater interest in the use and trading of digital assets, as more institutional players come in.

More assets will be "tokenised" - that is, made tradable in digital form, including illiquid assets such as real estate and fine art. At some stage, there will be a tipping point after which digital assets will experience what Zipmex CEO Marcus Lim calls "hockey stick growth".

But this option would run the risk of disintermediating the banks, which might lose deposits - the main source of their funding. Yet, they would still need to make loans, which central banks cannot do. Nor are central banks equipped to carry out know-your-customer and anti-money-laundering processes, which are essentials in the banking business.

The other option is one where the MAS would create a digital currency that would have the same value as the normal currency, but would distribute it via the banks and payment providers, which would enable these players to continue offering financial services.

If the digital currency is non-interest bearing - it would only be a means of payment - banks would still be able to collect deposits.

Through an app, consumers would be able to switch some of their cash holdings to digital cash, which could be stored in an e-wallet on their phones that is linked to their bank account, and then use their phones to pay online or in stores. They need never use credit cards or physical cash to pay and the need for merchants to store and handle cash would drastically decline.

CBDCs would not necessarily have to go through a blockchain - certainly not one of a decentralised nature like bitcoin - because central banks generally command the trust of their citizens; they would not need decentralised blockchain technology to foster trust.

However, the proponents of bitcoin and other private crypto assets argue that the centralisation of any payment ledger runs the risk of being hacked - both banks and companies have been hacked in the past. Even central banks have been hacked, including the European Central Bank.

"But bitcoin is unhackable," says Zipmex's Mr Lim. "In its 11 years of existence, it's never been hacked. You can't reverse a transaction on the blockchain."

He concedes that the decentralised blockchain on which bitcoin depends is slow in processing transactions. But he believes this technical problem will be sorted out, which will accelerate adoption.

The other infrastructure needed for digital payments to become mainstream - such as companies and consumers creating digital wallets - also has a long way to go.

The digital payments ecosystem is about where the Internet was in the mid-1990s, when most companies didn't even have websites, which are now a must-have. Comprehensive regulation of digital assets and clear guidelines on how players can operate are also needed.

The move towards CBDCs will have to be accompanied by proper regulation. Once that is in place, there will be greater interest in the use and trading of digital assets, as more institutional players come in.

More assets will be "tokenised" - that is, made tradable in digital form, including illiquid assets such as real estate and fine art. At some stage, there will be a tipping point after which digital assets will experience what Mr Lim calls "hockey stick growth".

Crypto investors on a roll

But meanwhile, enjoying handsome returns, investors in crypto assets have the wind at their back. Bitcoin funds are being launched. Hedge funds are investing in cryptos. Broking firms such as TD Ameritrade have started to offer their retail customers digital assets, including bitcoin futures, and are funding crypto exchanges.

Covid-19 and the policy response to it have accelerated such trends.

For crypto investors, the sight of central banks flooding their economies with liquidity and governments running up record fiscal deficits calls for some insurance against the debasement of fiat currencies that might follow - a view shared by gold investors.

The way crypto investors see it, as the supply of bitcoin is limited, its value has grown as a form of insurance in a world of unlimited quantitative easing (the printing of money without limit) that we are now in.

Whether the payment system of the future will be dominated by CBDCs, private crypto assets, or some combination of the two is not clear - both have their advantages and disadvantages. But what looks certain is that Covid-19 has brought forward the expiration date on physical cash.

A version of this article appeared in the print edition of The Straits Times on July 29, 2020, with the headline 'Covid-19 has made crypto hot again'. Subscribe