Digital Renminbi: A Fiat Coin to Make M0 Great Again

  Dovey Wan is a partner at primitive Ventures, a crypto asset investment fund.

  Contrary to what many think, China does not oppose blockchain technology.

  Rather, it takes issue with bitcoin and other privately issued cryptocurrencies, which it fears may facilitate financial fraud and capital flight. The people’s Bank of China (pBOC) has, in fact, had an initiative for issuing a blockchain-based digital renminbi (RMB) since 2014. The project has already generated 71 patents and has initiated a trial operation for an interbank digital check and billing platform.

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  If successful, this digital RMB project could expand the central bank’s influence over both the domestic and international economy. It has broad implications for the geopolitics of money and for the future of private cryptocurrencies such as bitcoin. To understand the pBOC’s motives, we must first distinguish between the digitalization of fiat currency and digital fiat currency. They are not the same thing. Each has a very different impact on the money supply and on the power balance between central banks and commercial banks.

  The digitization of currency, which stems from the advent of electronic payment/clearance and mature interbank IT systems, allows commercial banks to more efficiently and independently generate the credit flows that expand broad

  money supply, or M2. By contrast, digital fiat currency, enabled by blockchain technology, affects the base currency measure known as M0.

  Traditionally, central banks directly control base money creation/destruction but have only indirect power over the broader, credit flow-driven monetary supply. Now, with digital fiat currency, they have the potential to bypass commercial banks and regain control of currency creation/supply end to end, thereby structurally centralizing their power in policymaking.

  The pBOC’s interest in this solution comes as highly advanced digital payment systems like Alipay and WeChat have created a cashless and cardless economy. This is a form of currency digitalization, built upon a network of commercial bank accounts, operating at the M2 level of money supply.

  By contrast, a digital RMB would be integrated into M0, thus restoring control and influence to the pBOC. As the Vice president of pBOC Fan Yifei put it in a public interview: “With the help of technology innovation, we can gradually transit into issuance and circulation of digital RMB and impose effective supervision of in the private sector.”

  High M2 supply and massive shadow banking

  From 2007 to 2017, China’s M2 supply grew from 40 trillion RMB to 170 trillion RMB ($25.5 trillion), with an average annual growth rate of 15%, far outpacing the 10 percent nominal GDp growth rate over the same period. This massive expansion is largely due to the excessive issuance of commercial bank loans, primarily for real estate development, local governments’ infrastructure projects, and state-owned enterprises.

  It has led to a highly leveraged banking system and left a huge debt risk hanging over the Chinese economy.

  What’s more, the measurement of M2 underestimates the real currency growth rate in China due to shadow banking. High-yield “wealth management products” and structural deposits offered by banks, as well as internet financing such as p2p lending, make up a separate financial industry that’s worth 70 trillion RMB.

  Wealth management products alone have grown from a 0.5 trillion RMB industry in 2007 to a whopping 30 trillion in 2017. These are not counted as M2 and are often hard to track due to their being hidden from bank balance sheets, making it even harder for the pBOC to manage the Chinese economic cycle. Current attempts to address the problem largely consist of more stringent reporting and regulation, but this merely chases behind the problem rather than stamping it out.

  To get ahead of it requires a new financial system altogether. That’s what’s intended with the Digital RMB, a project that’s conceived of as a means of reasserting monetary control in the interests of financial stability.

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