Pilots of China’s new electronic renminbi are now underway, but a University of Chicago Booth economist predicts it could take years for the central bank digital currency (CBDC) to reach the stage where it could be exported to countries doing business with China.
“After the pilot stage, I would imagine maybe [2 to 5] years … once we get to the stage where it is running smoothly it’s so logical to just export it to some other south Asia, east Asia countries, whoever is using RMB — they’re going to be very happy to accept the settlement on the DCEP,” said He Zhiguo, Fuji Bank and Heller professor of finance at the University of Chicago Booth School of Business.
China’s new CBDC, called “digital currency electronic payment” (DCEP), is a system that could be internationalized through the nation’s Belt and Road Initiative — which is Beijing’s global development strategy involving numerous countries in and around Asia.
- “On the monetary policy side, the easiest thing you could do [with a CBDC] is to introduce a negative interest rate. That’s a huge thing.”
- “[From China’s DCEP] white paper, it does indeed say that once we have the real time money movement that they could use certain AI or machine learning technology to detect fraud immediately.”
- “Real time detecting fraud is different from getting to the point where I know everything that a citizen is doing… it was not clear at all that whether they get to the extremely micro level, knowing what everybody is doing. To be honest, that’s very, very costly.”
- “DCEP helps internationalization of the RMB…. It is just better technology.”
- “Once you have a pandemic, you really want to dispense liquidity or money into people who really need it the most, then it’s much, much more efficient to dispense the money directly to the people. So DCEP could do that.”
“These One Belt One Road countries who were receiving some help or assistance from Beijing, their contract or their payment is denominated in RMB,” He said. “Whenever you use RMB you need to go through that centralized settlement system. So there’s no doubt that [they’re] going to use it.”
The DCEP is also a tool for the People’s Bank of China (PBOC), the country’s central bank, to help control M0, or money in circulation. By digitizing coins and physical cash and incentivizing the use of the DCEP on mobile apps tied to the PBOC, it could give China greater leverage over interest rates to spur spending or to curb the outflow of cash from the country.
“Once you have the CBDC that everybody is stuck with, then the central bank’s tool box gets enlarged to such a great extent,” said He. “I do think on the one hand that a greater tool box enjoyed by a central bank is a great blessing. On the other hand, if the central bank makes some mistake, that’s also something worth looking at.”
See related article: Inside China’s vision to globalize its currency
China set consumption as an important goal in modernizing its economy in its 13th Five Year Plan targeting development until 2020. The DCEP fits into the Chinese government’s efforts to shift its economy’s reliance on traditional manufacturing sectors and spur urbanization.
“The consumption multiplier is so important part of the GDP, and this is a lever that the Chinese government would like to use,” said He, adding that the use of DCEP to apply negative interest rates to spur consumer spending might not take place until the digital currency is commonly used throughout the country.
Competing against the U.S. dollar?
China’s DCEP pilot launch could be see seen as a response to Facebook’s cryptocurrency project Libra, which recently pivoted to relying on a basket of fiat currencies. But China’s attempt to disrupt potential challengers like Libra may also include traditional financial systems such as Swift or Fedwire, which are U.S.-led systems.
If successful, DCEP could leapfrog those systems as a way to achieve greater RMB internationalization. However, China’s strict capital controls and restrictions on money outflows could be obstacles to its goal for internationalization.
“Regarding whether DCEP helps internationalization of the RMB, yes it is definitely true. As I explained, it is just better technology,” said He. “In the current situation, which is I don’t expect to see immediate lifting, which is basically heavy capital control imposed by PBOC, then there’s not a current discussion on whether the RMB is competing against the dollar.”
Experts agree that the RMB, digital or not, currently is not on the same playing field as the U.S. dollar, so it is not in a position to compete as a global safe asset. However, China’s reason for launching DCEP is to set up greater technological advantages for the RMB, which could help it compete against the dollar over time.
“Part of the DCEP vision is [the Belt and Road], chipping away at the dollar’s status as the de facto global reserve currency,” said Changpeng Zhao, founder and CEO of Binance in an interview with Decrypt.
China’s support of blockchain technology and innovation through the DCEP could also help give it a leg up over competition internationally.
“One way to keep [an] advantage is to bring in this digital currency for the PBOC …the fact that we have DCEP means that [China] keeps the RMB internationalization in the game at least for the next five years,” He said. “If we lose that game, then there’s no way we [can] talk about internationalization.”
“I understand that there’s a lot of people saying, ‘OK, so [DCEP] means is a really, really important step for disrupting the USD dominated system,’ I would say it has that potential, but I think it’s still far from that,” He said.
Angie Lau: Welcome to Word on the Block, the series that takes a deeper dive into the world of blockchain and emerging technologies AI 5g and IoT all at the intersection of business, geopolitics, economy and social impact. It’s what we cover right here on Forkast.News. I’m Editor-in-Chief and your host, Angie Lau.
Well, China’s ramping up big time, about to launch the world’s first central bank backed digital currency using blockchain and cryptocurrency technology in a very centralized fashion. It’s called DCEP, which stands for digital currency, electronic payment, and it could disrupt the global monetary system as we know it. Or maybe it might be a lot of digital blockchain based ado about nothing.
From our perspective at Forkast News, though, there’s a real chance of disruption against current geopolitical tensions between the U.S. and China. So let’s dig a little deeper here. And welcome back to the show professor He Zhiguo, he’s a Chinese economist and Fuji Bank and Heller professor of finance at the University of Chicago Booth School of Business. Professor He, welcome back it’s great to talk to you again.
He Zhiguo: It’s great to have this opportunity to talk about this fantastic topic again.
Lau: Thank you. Well last time we spoke, I think it was back in August of 2019 and the world learned that China was intensifying efforts to launch some sort of blockchain-based RMB digital currency. Now, it could have been a direct response to Facebook’s Libra project when it was announced or could have been a coincidence. Regardless, the race is on. So where are we now? Are we in the final stretch of this race to see the world’s first central bank backed digital currency?
He: Well, I would say it is indeed a race, whatever it is, at least to the players it is perceived that’s a very important race. There’s a lot of discussion on whether those things indeed become a very, very big game changer or not. But at least the People’s Bank of China viewed the launch of the Libra as a very important challenger, and that therefore they would like to expedite it. We also already know that Libra faces a bigger challenges from regulators, etc. and I really think that they need to be regulated.
For the PBOC, I don’t know if that’s intentional, in choosing the timing around the biggest pandemic that we’ve ever seen in the world for centuries. But the launch, I wouldn’t say the real launch, but the pilot stage of the DCEP is quite real. Some of my friends were using it, and it seems that this is a very important step for us to come back and try to see what it really is.
Lau: We’re hearing about the first trials as well in pilot areas that include Suzhou, Xiong’an, Chengdu and Shenzhen. As your friends are reporting back to you and I’m sure as an economist, you’re super interested in understanding the dynamics and the details and the functionality of DCEP, tell us how it’s being used. Tell us how people are using it in these trials.
He: So I personally would like to use it myself, but I couldn’t because of the travel bans, etc. But I do have a friend using it. It exactly matches my understanding of the older mechanism of the DCEP, basically, that anybody who has a bank account at the Agricultural Bank of China — that seems to be the important partner of the PBOC. If you have the account there, which I do have, and friends also have it, then you can convert some of the RMB in your bank account, let’s say one hundred yuan, into a hundred yuan DCEP and automatically you have a wallet on your phone, this is on the ABC Agricultural Bank of China app.
Then you basically create another wallet, a DCEP wallet and you transfer a hundred yuan from your traditional account to that wallet and then you can use it to pay the stuff to pay for services. For instance in Shenzhen, Xiong’an, Chengdu, Suzhou, you just go — I heard about it, KFC, it seems like. I love KFC, to be honest. So just go there and pay with it. Now, what I want to say is that it’s not something in a super high tech from the user’s perspective. I really want to emphasize that point. Beijing also knows that they don’t want it to disrupt the normal business. They want a minimal disruption. However, if you think that this is just the same thing as a Tencent or Alipay that’s just completely mistaken. It’s so different when you open up the black box and try to see what’s really going on behind the scenes.
Lau: Well, absolutely right. In terms of the ability of PBoC to control the levers of China’s economy at such a micro level to the point of personal transactions, daily transactions. What is the true power that allows a central bank to be able to have those eyes and ears on the day-to-day transactions and functions of currency?
He: Your question is a little bit subtle. Could it have a lot of meanings? One is at the macro-level. You mentioned micro, but I think that when we say control of the monetary supply, etc., it’s a very macro level. At the macro level, I wouldn’t think that [because] at this point it is just a pilot. But I do think that once it gets to the pilot stage afterwards that there’s a lot of things they can do in terms of the control, the M0 or money supply. It’s just much easier.
And as I remember, I talked about it in the show last August that the whole point, that the biggest advantage once you get to the CBDC, just forget about these privacy are the money laundering. That’s a different issue, it’s not a monetary policy. But on the monetary policy side, the easiest thing you could do is to introduce a negative interest rate. That’s a huge thing, you see around the world, it gets headlines every single time Trump saying that the U.S. should have a negative interest rate. So this is something that with the help of the central bank digital currency, that becomes easy.
OK, so that’s a macro side, the micro side of that you were saying, that Beijing or the PBOC can in some way control personal transactions with eyes and ears that watch [those] transactions. That part has a little bit of the technology details that actually I’m eager to know, but I don’t think there’s an answer from what I see from the two sources that typically get. One is a public news reports, these are white papers, and sometimes I talk to the people who are working on those issues. I often get conflicting answers on this issue, whether the PBOC would like to trace — tracing in the very very detailed sense — in the sense that then this single digit, single piece of money goes from a where to where.
If you think about it, the ideal that you see from the white paper of the Chinese DCEP is just the saying that a digital cash is a sequence of encrypted numbers that’s very hard to replicate. OK, so that’s just a number, so that there’s a way to verify that data. [It’s a way to verify that] you have it, and if you give it to me, that’s a very long sequence of valid numbers that everybody will accept as legit money. That view does not support the idea that the PBOC is trying to keep track of it.
However, from the white paper, it does indeed say that once we have the real time money movement that they could use certain AI or machine learning technology to detect fraud immediately. So, for instance, whenever you are in some big gambling thing, real time, you’re going to see big money move around back and forth, so there’s something wrong with that.
So I’m just I’m making some analogies saying that real-time detecting fraud is that different from getting to the point where I know everything that a citizen is doing, from what I know from the white paper, it was not clear at all whether they get to the extremely micro level, knowing what everybody is doing. To be honest, that’s very, very costly. Very, very costly.
And to get back to the point of whether each person’s wallet has an account, how do you assign some name to the account, etc., there’s a lot of uncertainty there for us to figure it out. To be honest, I don’t think that the PBOC knows exactly 100% what they want it to do.
Lau: Again, it’s the trial, the technology may or may not be there yet. Of course, it took years for the PBOC to even just get to this point. There’s a road ahead to be sure. I want to get back to the macroeconomic levers that the DCEP allows PBoC to do. You talk about negative interest rates and this is a real dilemma for central banks around the world. How do you create mechanisms that allow your economy to either speed up or slow down to a level of comfort for your citizens?
Obviously, in a global pandemic is a really, really tough job right now. In America alone, 36 million people are now unemployed. The numbers are just growing. So we get back to the negative interest rates, could DCEP for example allow the PBOC to put an expiration date of you holding your DCEP so that the value goes down the longer you hold it? I mean, could we look at something like that? How would it actually look like in real life if they were to try to encourage, in real time people, to spend their money?
He: I think you’re a central banker. This is indeed what’s going on. You are a great candidate. You immediately get the point of negative interest rates. It’s a very simple idea. Negative interest rates basically force or push or incentivize — whatever you call it — somebody to spend money to buy goods. Buying goods is very good for the economy. Nowadays, if you look at the Chinese stimulus plan, there’s one important part, it’s called a consumption coupon that a lot of local governments are pushing up. Why do they want to do it?
The consumption multiplier is so important part of the GDP. And this is a lever that the Chinese government would like to use. At this point, I don’t think that at the pilot stage that a negative interest rate can be implemented just because it’s at a pilot stage so many people are still holding cash or still holding deposits, all these things. And the threat of cash being withdrawn from all the households, from the commercial banks imposed such a great limit on how much that central bank can do something like what you said.
In the end, once you have the CBDC that everybody is stuck with, then the central bank’s tool box gets enlarged to such a great extent that they could use it. That’s the reality. And I do think on the one hand that a greater tool box enjoyed by a central bank is a great blessing. On the other hand, if the central bank makes some mistake, that’s also something worth looking at.
Lau: Well, DCEP is intended to replace at some point the monetary base. So the monetary base, essentially all the physical representations of the fiat either in the RMB coins or paper money and intended to replace the M0 level of the monetary base. So if that is the intent domestically and these trials, let’s say the bugs are worked out, at which point do we see this exported to an international global market? And is this a route to internationalizing the RMB?
He: Yes, good question. There’s no hiding from the PBOC or Beijing saying that RMB, internationalization is one important goal. Relentless effort has been done in the past a decade. And as an economist or politician, whatever, the goal, it’s just a fair game. There’s nothing evil about it. Look at the U.S., which is enjoying so much of this exorbitant privilege the USD has. So it’s just a fair game. And China wants to do that.
The DCEP is something called infrastructure. It’s a financial infrastructure investment. It’s super important to have a quick, efficient, real-time settlement system. Think about a Fedwire. It’s not great. To be honest, it’s still old technology. But just because everybody uses it, it’s fine. And you have Chips here. And Swift is basically a messaging system, not even a settlement system. So it’s just all these different things.
DCEP, once it is developed and all these banks are using it, private parties are using it, everybody holds accounts or not. And once you have all these great underlying computers — I’m not an expert at computer science. But I can imagine that it’s a system where you can make sure that all of these settlements, which means that I owe you that money, you owe me that money, and imagine those things [moving] back and forth zillions or billions of times. You can do it in a super quick way without any mistake. And once you have an error or flaw, you can reverse it. This is the great, great technology that was so hard to do in the old system.
Now, if we indeed get that after the pilot stage, I would imagine maybe two or three, four, five years. I don’t know, I’m not confident about that. Once we get to the stage where it is running smoothly — we can define what we mean by smoothly — it’s so, so logical to just export it to some other south Asia, east Asia countries, whoever is using RMB, they’re going to be very happy to accept the settlement on the DCEP.
These One Belt One Road countries who were receiving some help or assistance from Beijing, their contract or their payment is denominated in RMB. Whenever you use RMB you need to go through that centralized settlement system. So there’s no doubt that we’re going to use it. I understand that there’s a lot of people saying, OK, so that means that it is a really, really important step for disrupting the USD dominated system. I would say it has that potential, but I think it’s still far from that. And I can elaborate on why that’s the case, but that’s just positing.
Lau: Well, we could posit based on current realities. But what you’re saying is extraordinarily interesting that if China innovates a new technology driven new system of settlements that replaces Swift or replaces Fedwire, as you’ve said, which are both U.S.-led systems, that is dominated by obviously the U.S. dollar and U.S. interests in a international global economic marketplace.
If China, through technological innovation, potentially challenges or even replaces that system, that is one route to internationalization, potentially. But the other real truth of the matter is that you can’t get to real internationalization of the RMD based on the current restrictions that China places on its capital accounts. It’s got capital controls, it’s got very clear mandates. Domestically, there is no real liberalization of its capital accounts. By that measure, it’s going to be really tough to internationalize the RMB right now.
He: I 100% agree with you. Regarding this issue, one is that whether DCEP helps internationalization of the RMB, yes it is definitely true. As I explained, it is just better technology. Think about if you have experience using WeChat. The fact that I can use reach out to pay any amount and it is super fast, convenient is going to help. And that clearly was what was going on with WeChat stealing a big market share from Alibaba. So the same idea applies there.
However, when I use WeChat, I know that the money stays put in WeChat, it’s still one yuan. So one yuan put into WeChat is going to stay there. For RMB, it’s different because whoever is holding RMB, there is something called … will move around. And if you think that it’s going to tank and you want to get out, you’ll have to find some people for you to sell so that you convert it back to dollars.
In the current situation, which is I don’t expect to see immediate lifting, which is basically heavy capital control imposed by PBOC, then there’s not a current discussion on whether the RMB is competing against the dollar. Just because they are in a totally different leveling playing field in terms of the competition as a global safe asset. And you might wonder then why the PBOC is trying to do the technological side of it. Now, you can optimize the order of the internationalization of the RMB.
There are two reasons why China thinks this is the right timing to push the DCEP. The first is that China has always, always thought that the technology of blockchain for easier settlement, all these things, an electronic society, electronic and digital economy — they always thought that this is a leapfrog. So they would like to utilize it. And one way to keep the advantage is to bring in this digital currency for the PBOC, because that’s one way to really establish that advantage.
The second point is basically that is the very reason that China would like to keep ahead of Libra, because Libra could be believed as a dollar based payment system, which is like a central bank digital currency. The fact that we have DCEP therefore, means that they keep the RMB internationalization in the game or in the race, at least for the next five years. Otherwise, if we lose that game, then there’s no way we talk about internationalization.
Lau: You’re based in Chicago. You’re seeing what’s happening in the United States right now. The stimulus dollars that are being injected into the economy. Even the process of transacting it to people and getting it into the hands of average Americans. There’s been talk of the digital dollar project in some form or fashion in Congress. What if a U.S. CBDC such as a digital dollar is released? How would that influence China’s DCEP ambitions? Is something that China is paying attention to?
He: Great question. So I think one advantage of DCEP really gets to the important details that the property of DCEP, at least developed by China, is a so-called independent account. So most of the money that you imagine is associated with an account. And oftentimes it’s a bank account. You think about it, you have money — what does it mean? It means that you have a number in some account recognized by someone else.
The DCEP itself is different. Cash is different. Cash means that you own that piece of paper that nobody can fake. The DCEP is basically something you own, you know the sequence of the number and this is stored somewhere and everybody can check whether that sequence of a number makes sense. So in that sense, then you immediately see that you don’t need a bank to dispense these money.
So that’s exactly the digital dollar that is the current debate. But once you have a pandemic, you really want to dispense liquidity or money into people who really need it the most, then it’s much, much more efficient to dispense the money directly to the people. So DCEP could do that. But I doubt that the U.S. digital dollar is something that’s in their plan because you could do something totally different. The DCEP developed by China has this design from the beginning. I heard of many, many other CBDC designs that are still associated with banks. So as long as it’s associated with banking, then you still get to the same problem.
Lau: That’s a great point. And we also know that China started this initiative of more than half a decade ago. So it’s got a couple of years under its belt developing this. I think the concept is still very new to congress right now in the United States. Before I wrap it up, from the point of view as an economist with a macro view, we’re really talking still about a technology-driven centralized system. This is centralized, while blockchain enabled, it is still very much centralized. And in the levers of control of government and central banks, how does this contrast with true decentralization?
We recently had an interview with Tim Draper, a longtime Silicon Valley, legendary investor, who, when asked about what he thinks about the U.S. digital dollar or China’s DCEP, said it will bomb because it’s still tied to fiat in politics, which are unstable. In a decentralized ecosystem where no one is in control and it’s truly democratic in the purest sense, because everybody’s personal interests are tied to a decentralized system. Is there going to be at some point in the future of real debate between centralized systems and decentralized systems? And will people be allowed to choose?
He: That question is so big that I can only offer my own views and I think my own views are representative of many economists that I talk to. I really want to emphasize the key difference between the monetary system to be very decentralized, you think about the CBDC so it’s like a bitcoin type of thing, transfer, etc., versus there’s a lot of other applications where decentralization becomes key.
The best example is I also think that blockchain has a huge benefit on that industry, which is the supply chain and international trade where different parties that get involved will keep some copy so that prevents somebody excluding [data]. So in a way that decentralization brings equality, stability, brings efficiency in a way that nobody is getting everything. And so that everybody would like to participate in a very self interested system, which is like a market system.
That is something that is in a way in direct contrast to a monetary system where you need a central lender. This is the so-called central bank. So for an economist actually we separate out the running of the monetary system from the other kind of business system. So I was talking about international trade, supply chain, etc. The monetary system is a very different kind of thing. And we still think whenever we get to the monetary system, full decentralization probably will not work.
So with that said, I just would like to say that China’s agenda is saying ‘let me control the currency’ so as to avoid all these confusions like people speculating on coins, etc., all these things. But let the individual private sectors try their best to develop the blockchain technology where this trade, finance, this international collaboration, etc., can take place, but don’t worry about the payment.
You can see this type of logic in the current new infrastructure investment that launched as a response from Beijing to the pandemic. So that’s part of the big investment projects that there are now. It’s clearly said that with the help of the DCEP that now we can get another round of infrastructure investment on blockchain, 5g, all serving that same purpose. I actually think that’s the right way to do it.
Hopefully the monetary independence that the other speaker was talking about is not a big pullback for the Chinese economy. I totally understand what he was saying, that it’s just unstable. Well, what if the central bank made a huge mistake, that kind of logic. Well, I think the U.S. will make some big mistakes too and perhaps he is trying to say the U.S. is also not good on this front.
Lau: I think these are unprecedented times. And the jury is out, as they say. And the way that we started off this conversation was to characterize this as a race. And I truly think it’s only just begun. Professor He, thank you so much for joining us. Truly a professor, I learned so much during the course of this conversation, as I hope you did, too, to our wonderful audience who’s joined us here. Professor He thank you.
He: Thank you again.
Lau: And thank you, everyone, for joining us on this latest episode of Word on the Block. I’m your Editor-in-Chief Forkast.News, and your host Angie Lau. Until the next time.