By Wilson Chua
If you were to ask Dr. Agustin Carstens, General Manager for Bank of International Settlement, he would argue a “Yes”. He would tell you that cryptocurrencies cannot yet replace sovereign money. Note: The Bank of International Settlements is the Central banks’ bank.
CNBC quotes him as “savaging bitcoin as a combination of a bubble, a Ponzi scheme and an environmental disaster”. He pretty much made the same case at the LKY School of Public Administration last Nov 15, 2018. Dr Carsten gave 10 reasons and of these, I share two.
Cryptocurrencies are not scalable
Imagine that all non-cash transactions in three countries were done using cryptocurrency instead of money. And further assume that each of these digital transaction use up just 250 bytes. The graph below shows the rapid growth in the hypothetical size of the digital ledgers.
Imagine cryptocurrencies replaced money for all non-cash transactions in just three countries. And further assume that each of these digital transaction used up 250 bytes. The graph below shows the rapid growth in the size of the digital ledgers. China in Red, US in Blue and the Euro in Yellow.
As the ledger sizes grows, it becomes more costly to maintain. To slow down the rate of growth, Cryptocurrencies limit the number of transactions at any given time.
Cryptocurrencies become congested
These transaction limits unfortunately also cause congestions - as shown in the graph below. It was experienced in late 2017.
Congestions in turn, show that cryptocurrencies do not scale like sovereign money. Cryptocurrency in its present state is thus not yet ready for prime time.
Counter arguments to the presentation
Faced with these graphs, the audience raised two cases. These cases seem to show that cryptocurrencies are better than sovereign cash.
One is in international payments. While it takes SWIFT system as long as 3 days to affect a transfer, bitcoin and its ilk can do this much faster. The other case has to do with hyperinflation. In countries like Zimbabwe and Venezuela bitcoin proves much better than ‘sovereign money’.
Cryptocurrencies are improving
Dr. Carsten’s anchors his analysis on “proof of work” to update digital ledgers. Cryptocurrencies rely on an ecosystem of ‘miners’ to maintain these ledgers. The cost of updating these digital ledgers come at a high computational cost. The mathematical computation uses up a lot of electricity. Hence it is not environmentally friendly. These tasks are called the “proof of work”.
Yet, that method may not be in use forever. Thanks to Jilbert Mejia, who raised the alternative called “Proof of Stake”. “Proof of Stake” method has major advantages over “Proof of Work”. It can process more transactions and uses less computational power. See Proof of Stake explainer video here.
Block time in Ethereum's Proof-of-Stake system called Casper is targeting four seconds. Vlad Zamfir of the Ethereum Foundation believes the block time will end up being much lower (sub-second)”. It also might be one reason why JP Morgan had to re-architect the Ethereum Foundation.
Future Path of Cryptocurrencies?
Loyalcoin's Patrick Palacios shares the use of "Proof of Importance". This is an even newer generation mechanism. According to experts, "Proof of Importance" uses Proof of Stake as a fallback mechanism. And Mr. Palacios argues “As long as there are people trading it then it has value. Total value of crypto is $182B.”
Experts believe that cryptocurrencies based on Proof of Stake will win out over those using Proof of Work. Once this happens, the major limitation hampering widespread use of cryptocurrencies raised by Dr Carsten will be moot and academic.
But central banks need not be threatened. In fact, some Central banks have begun to explore digital currencies. Singapore’s MAS (Monetary Authority) has actually conducted Project Ubin to test out digital currencies. In its phase 1, the SG dollar is tokenized for use in interbank transactions. The IMF also came out in support of Central Bank issued Digital currencies. IMF Chair Christine Lagard noted the benefits of cryptocurrency payments "immediate, safe, cheap and potentially semi-autonomous.”
So, my view is that cryptocurrencies might not be as doomed as Dr. Carsten argues it to be.