In its latest report, the IMF has included an article entitled “Monetary Policy in the Digital Age” in which Dong He, deputy director of the Monetary and Capital Markets Department, discusses if monetary policy can survive the decentralisation of the banking system.
Not a new thing
He says that the question of whether banking will eventually become obsolete is as old as the internet itself, but never before has it seemed so pertinent. The IMF does not consider cryptocurrency to be a threat – yet.
Central banks must defend themselves against cryptocurrency, the report says, by carrying out ‘effective monetary policies.”
There are three things that fiat currency can offer that Bitcoin can’t – protection against structural deflation, the ability to act as a lender of last resort, and the “smooth the business cycle” in the event of unexpected shocks to the system. In short, the guiding hand of a central command.
But, he notes, this could come in time. Bitcoin could become less volatile simply through long use establishing institutional trust, and artificial intelligence could smooth those shocks.
These, in tandem with the intrinsic advantages of digital money (that it is cheaper and easier to send long distances), mean that He considers a changing of the guard to be a very real possibility.
He argues that by rendering intermediaries irrelevant, cryptocurrency could bring the world back to a commodity-based economy, replacing the credit-based economy to which we have become accustomed (“…we may move full circle back to where we were in the Renaissance!”).
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A more important question to the IMF though is if central banks could lose the ability to control the national economy. He says yes. Central banks set their policies by setting interest rates in relation to the country’s money reserves, of which it is the monopoly supplier. A cryptocurrency-based economy would mean that this monopoly is lost, and a bank may find itself needing to sell/buy large amounts of cryptocurrency to regain control.
He uses ‘dollarization’ as an example, referring to the process by which foreign money supercedes the national currency in a developing country. When this happens, the central bank’s policies become disconnected from the real economy, and thus irrelevant.
What should they do?
He argues that they first thing that central banks should do is “strive to make fiat currencies better and more stable units of account.”
The second thing is to regulate cryptocurrency to “prevent… any unfair competitive advantage crypto assets may derive from lighter regulation.”
Lastly, these banks could try to make their money more user-friendly, making it digital, and perhaps even issuing tokens of their own. “Such central bank digital currency could be exchanged, peer to peer in a decentralized manner, much as crypto assets are,” writes He.
Some would argue that He may have missed the point here. However, his words echo those of Christine Lagarde, Managing Director of the IMF, who said in a speech at the Bank of England last year: “The best response by central banks is to continue running effective monetary policy, while being open to fresh ideas and new demands, as economies evolve.”
The IMF was created in December 1945 as part of the Bretton Woods agreement. Its function is to maintain international economic stability by providing advice and by issuing loans. It has 189 member states and controls a fund of $668 billion. It is headquartered in Washington D.C.