Stability to volatility: Money's digital evolution is revolutionary, not a war

PETER Thiel, cofounder of Paypal, didn't actually use the word "war" in his Bitcoin 2022 keynote address, though he did tear up some US$100 bills and stoked an us-vs-them framing of global finance, naming enemies ranging from Warren Buffet to ESG (environmental, social and corporate governance).

His managing director at Thiel Capital, Eric Weinstein, however, did use the "war" word in a tweet covering his boss's address, urging "revolutionary youth" to "understand their enemies & return fire".

But Bitcoin, and cryptocurrency in general, isn't about upending everything to induce chaos, much less the fog of war. It's really about moving to a more sound economy that incentivises productivity and fairness. The real goal of an Internet-native currency, governed by a pre-programmed monetary policy and fixed supply rather than political manoeuvring, has always been stability.

The future of money is digital

Despite Bitcoin's much-hyped volatility, the future of money is steadfastly digital.

Just ask Eswar Prasad, a senior fellow at The Brookings Institution, Cornell University's Professor of Trade Policy, and author of The Future of Money. This is not a plug for his book, but it is for his thesis about digitalisation, which is reshaping finance from peer-to-peer payments to central bank capital flows. It isn't about "if", it's about "how" and what the financial world might look like on the other side of this evolution.

So there's no need for a platform war. Whether you like Bitcoin or not, or Ethereum or Central Bank Digital Currencies (CBDCs), the contest is already decided. Money's future is digital.

The challenge ahead is about finding stability during the transformation, because the purpose of blockchain as a technology is ultimately to make financial intermediation, and therefore banks, obsolete.

That may sound like Thiel's "enemies" parlance but this evolution isn't violent. There are many incumbents that new technologies have made obsolete and usually, the world is better for it. The steam engine comes to mind, the telegraph or iron lungs. Each was revolutionary in their time; now they're ancient. Cash is not far behind.

Yet, as full of promise and potential as a decentralised financial system may be, it's admittedly still nascent.

What decentralised finance (DeFi) offers is automation that replaces dependence on people with more open, labour-efficient, interoperable, transparent and cost-efficient ways of transacting, allocating capital, or managing markets. These create confidence without predicating it on established trust between counter parties.

In a nutshell, DeFi is just digital protocols and instruction sets. Determinant yet flexible, they direct and store assets; and most importantly, curb dependence on intermediaries to set how, when, and where assets can be released or who owns them.

In the ideal, DeFi can do for the global financial system what the Internet has already done for commerce.

Take stock trading for example. Some 30 years ago, individuals needed a broker to place trades for them (and then charge them for the service). Online trading has enabled fast, zero-fee trading for average consumers, which has helped add market participants and make the pie bigger and therefore arguably more inclusive (there's obviously a long way to go yet with inclusion but this is the tip of the digitalisation iceberg).

Application Programming Interfaces (APIs) are another digital example of how financial systems can be extracted from bankers, enabling payments and other services to be embedded in a vast array of non-financial venues.

The direction towards more automated and equitable financial services is inevitable. But, of course, we're not quite there yet. There's a lot of change and adoption yet to come.

Stablecoins represent a bridge

Backed by other assets, stablecoins share many of digital currency's features. The difference is their value typically rests on traditional reserves rather than the economics of a blockchain. That makes them less volatile and easier to trade or transact. In practice, stablecoins are a way to park money in the digital world without exposure to its greater speculation.

Common stablecoins have a 1-to-1 peg to the US dollar. Their recognisable value trades easily across borders or exchanges. Think of stablecoins as a halfway house between financial systems.

But keep in mind that while stablecoins aren't subject to crypto's volatility, they do suffer the same inflation and money-supply manipulations that all fiat currency must.

Stablecoins, from companies such as Circle and Tether, have helped bring interest and capability to crypto markets. But these offerings are highly centralised as compared to native cryptocurrencies like Bitcoin or Ethereum. Rather than a decentralised application, it's a company that maintains the asset balance, which can be problematic. Tether, for one, has received fines from the US Commodities Futures Trading Commission for auditing issues.

Expect to see more experiments in this space as inflation and geopolitical forces threaten to crimp state currency values, and regulatory pressures start to hone in on such custody-based stablecoins.

Alternative assets, such as gold or even other cryptocurrencies are likely to play a more prominent role in this evolution. Algorithmically stabilised coins are the next iteration where pegs are hardcoded into smart contracts that manage supply, creating more coins or burning them off as market conditions change. As stablecoins gain use and acceptance, they should naturally evolve into these more decentralised versions.

And in time, the need for a stablecoin bridge between financial systems will fade. CBDCs, for example, may take over that conversion role. But as long as there are real-world values to represent (gold, silver, wheat, real estate, art, antiques, etc) there will be a place for a stablecoin-type asset.

Evolution not war

Money is evolving and that takes time. And experiments.

Thiel may be right to incite the youth to embrace new ways to build finance but the ultimate goal should be better stability, not a war of disruption.

There is no need to name enemies because money's evolution is as natural as it is revolutionary. With digitalisation, the question isn't "if" to include money; the question is how best to shape it to promote freedom, progress and resilience.

The writer is head of research and strategy at AAX