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Ava Labs x CBER Ep 13: Stablecoins and Digital Payments
29 Plays4 days ago
This episode covers the digitization of payments and the rise of stablecoins. We discuss China’s CBDC project, the success of USD stablecoins, and the barriers to broader stablecoin adoption. We also examine how stablecoins could reshape the modern payment infrastructure.
Guests: Lin William Cong (Cornell University), Simon Mayer (Carnegie Mellon University)
Paper: Strategic Digitization in Currency and Payment Competition
Recommended
Transcript
Introduction to Blockchain Podcast Series
00:00:06
Speaker
Hi everybody and welcome to Crafting the Crypto Economy. I am Silvia Sanchez from the Avalanche Policy Coalition and today we bring you a special podcast series in partnership with the Crypto and Blockchain Economic Research Forum, also known as the CBER Forum.
00:00:22
Speaker
This is season 3 of 5 new episodes featuring leading faculty from global universities exploring various elements in the blockchain ecosystem. From stablecoins to DAOs and so much more.
00:00:33
Speaker
These episodes are a bit longer from our usual ones since we will be getting deeper. But again, it's kind of challenging to fit in a whole research paper into just one hour. But don't worry, each episode will have its accompanying research paper posted on the website and episode description for further reading.
Moderator Introduction: Professors and Researchers
00:00:49
Speaker
Anyway, I'll hand it over to our moderators, Professors Fahad Saleh and Andreas Park. We hope you enjoy.
00:00:58
Speaker
Hello, everybody, and welcome to another edition of the Crafting the Crypto Economy podcast series, where my co-host Fahad Saleh and i interview researchers about their research papers.
00:01:09
Speaker
We're now in our third season, and we're very pleased with with our audience response far. um And today we'll be talking to Will Zong and Simon Meier. um Will is a professor at Cornell University. He also leads their digital finance lab.
00:01:26
Speaker
And he is a co-founder of the Cyber Forum, which is essentially the founder or the the sponsor of this podcast series. um His co-author on the paper is Simon Meyer from Carnegie Mellon University. As we know, this is a very tech-focused university. And we're very pleased to have you here to talk to you us about your recent paper.
Strategic Digitization in Currency and Payment
00:01:48
Speaker
um So first of all, let me say, as I understand it, the paper is accepted at the Journal of Financial Economics. For those in the audience who don't know, this is one of our top three finance journals and as a major accomplishment to to get a paper in there.
00:02:02
Speaker
um So congratulations on that, guys. And so the paper is titled Strategic Digitization in Currency and Payment Competition.
Global Digital Currency Developments: US Genius Act and CBDCs
00:02:10
Speaker
Now, unless you've been sleeping under a rock, you know that the US recently passed the Genius Act, which essentially is a federal framework to lay out the rules about stablecoins. And ah across the world, we've seen major developments in digital money, users of digital money,
00:02:26
Speaker
And you know we've seen very interesting developments, let's say, over the last ah five, six years in this space. We had the Libra shock that got our central banks moving and thinking about their own digital currency. We see ah new payment systems in, say, in Brazil, which have a phenomenal uptake. um We see the European Central Bank discussing the issuance of a digital euro.
00:02:51
Speaker
And, you know, the exact counterpart in the US where essentially there's strong hostility to a central bank digital currency.
Implications of Digital Money on Banking and Economics
00:02:58
Speaker
And here we have now a research paper which tries to, as I understand, it gives us a little bit of a flavor of how we should think about these different terms of digital money and and how we can understand um possibly even on ah on a global and currency level of how these interact and what this means for banking and the economies of these local countries.
00:03:22
Speaker
Okay, so I'm not giving ah my my big view over this, but I think it's best if we start with you. So Simon, maybe you could just give us a sense of what your paper does and what you find.
CBDC Development Drivers: Libra Shock and Big Tech
00:03:32
Speaker
Yeah, thanks so much, Andreas, for the kind introduction for the great overview of the paper. So yeah, you're summarizing it quite well. So our paper was essentially developed...
00:03:41
Speaker
against the backdrop of many countries pursuing CBDCs and indeed you mentioned Libra, which got essentially central banks going. So the Libra shock was essentially a shock where countries kind of faced the threat that um large big tech company would introduce a digital currency that could essentially compete with central bank provided digital money in facilitating transactions.
00:04:03
Speaker
And by the central bank provided money or like fiat money, we broadly mean essentially all kinds of fiat money that facilitate digital transaction. And that includes essentially the bank-centric payment system, move such as credit cards and bank deposits and how they interact and all kinds of applications that are layered on top of them.
CBDC Pilot Approaches: China and Canada
00:04:21
Speaker
Then we saw essentially, like I think 2022 and 2023, many countries pursuing something called central bank digital currency. And back then, no one really knew what this is really about. And it could be broadly understood as a digitization of the current bank-centric payment system.
00:04:38
Speaker
Now, countries have followed different
US Stablecoins and Geopolitical Strategies
00:04:40
Speaker
approaches. Some countries have launched pilots such as China and that' in Canada, where you're from, has like made early progress. The U.S. has always been a little bit cautious on the dimension. And the U.S. was always a bit special because currently digital payments are essentially provided mostly by these U.S. companies.
00:04:58
Speaker
The credit card companies play a very central role. They facilitate payments around the globe. So for the U.S., it was not very clear what a central bank digital currency would bring on top of that. Now, um countries have kind of a little bit abolished the approach to develop their own digital currencies.
00:05:16
Speaker
And now it has more shifted to toward, I would say, encouraging private sector innovation in the U.S. And you mentioned the Genius Act. which essentially encourages the issuance of stablecoins.
00:05:27
Speaker
Stablecoins also facilitate new payment solutions. And i think the hope a little bit in the US is that why are these stablecoins provided by the private sector, not by the public sector?
00:05:39
Speaker
The US dollar essentially is adopted worldwide or abroad as a means of payment, which has a lot of advantages from geopolitical angle.
00:05:50
Speaker
And also maybe helps monetize government debt because
Currency Strength in Digitized Payment Systems
00:05:53
Speaker
these stablecoins are by the Genius Act, backed by dollar assets, typically U.S. government debt. So there's like lots to it. And more generally, now we're entering a new era in this competition among digital payments and geopolitical motives are going to the forefront, I would say.
00:06:11
Speaker
Okay, so that's ah that's a very good overview. um Now, if I may ask, ah so I think in your paper, as I understand it correctly, um and this is what we do as economists, we try to find a, let's say, a stylized way of how we can capture a particular problem, right? So you have, as I understand it, essentially there's a is a range of the strength of a particular currency, right? So you have very strong or dominant currencies, as you say, that's the US dollar,
00:06:38
Speaker
um The Europeans like to think that the euro is also totally awesome. um And then you have maybe some really weak currencies and really weak countries like Zimbabwe, for instance, will probably be an example of an incredibly weak currency. And then you have the middling one. So that's like the Canadian dollar, if you think about it. Right.
00:06:56
Speaker
and So I think as I understand it, you have a bit of a, you have different reactions to the introduction of this digital type of money. um Maybe So can you maybe run us through the different types and how they would how they would react um and how they would you know work in this environment?
00:07:16
Speaker
Yeah, so no indeed ya the paper is mostly about dominance in a digital payment space. And there we view the US dollar as the dominant currency, not only because the US dollar is the reserve currency, but also because US-based payment systems facilitate transactions worldwide. That includes the credit card, um companies, but it also includes i think ACH, which is, in my understanding, also US-based. A lot of it goes through the US.
00:07:42
Speaker
So the US has kind of a dominant status was in facilitating digital payments. And this also, again, is related to the US dollar dominance um in terms of unit of account, so like trade is denominated, and so on.
Benefits for Well-Adopted Currencies in Payment Digitization
00:07:56
Speaker
Now, there's other currencies that are relatively well-adopted, yet not dominant, such as the euro or, for instance, the Chinese renminbi. So what the paper essentially says is like that for these type of countries that have these currencies, I would say in the middle ground, there's potentially the most to gain from digitizing the payment system, for instance, by launching CBDC or by undertaking other actions.
00:08:21
Speaker
And this is because you essentially gain a little bit of middle, you gain a little bit of ground in adoption that is taken away then from the US s dollar. So you decrease your reliance on US-based payment providers.
00:08:34
Speaker
And that seems to be pretty much in line with what the ah essentially European Central Bank or the EU always voices us the key reason for launching a digital euro. They want essentially strategic autonomy, payment autonomy.
00:08:47
Speaker
They would like to ah avoid the reliance on US-based payment providers. And so, in other words, they view is essentially the benefits that they would gain from launching a digital euro, which is nothing else than payment system, I would say. So, it's not like a different currency. It's just a payment system that makes it easier to, let's say, settle digital payments with the with the euro.
00:09:12
Speaker
But they view the key reason for launching such a payment system as the geopolitical motives, so gain payment autonomy. And this is essentially a bit in line with what our paper analyzes. It kind of like studies which countries have the most to gain from digitizing their payment systems. And we find that indeed these countries with these relatively well-adopted yet not dominant currencies such as the eurozone or essentially China.
00:09:40
Speaker
Whereas the US is essentially gaining relatively little of launching a CBDC and that's also reflected in their current approach. They don't pursue CBDC but instead they actually leverage what is already there, namely private sector innovations and they accelerate these private sector innovations with ah recent regulation and in light of our paper that seems to be the right thing to do So I think you ah if if if I can ask I think ah you made pretty clear there's sort of the upside of digit like digitizing the the payment system but could you also kind of make concrete maybe the cost side of that?
00:10:15
Speaker
ah The cost side of it I mean besides being there physical cost well you can um digitizing the payment system. So like, uh,
Challenges in Payment System Digitization: Brazil and India
00:10:23
Speaker
if you, let's say basically what I'm going to do is kind of how hard is this? Because, you know, ah but put differently, if it's costless, it seems like, you know, everybody would want to do it because in some sense you're upgrading your payment system.
00:10:35
Speaker
And so we're thinking practically, um, you know, across the, the different decisions, different countries have had to make, how hard is it really to sort of, um, to do this?
00:10:46
Speaker
Well, uh, how would view it. Well, first of all, it's hard probably for, public entities or the government to pursue such innovation alone. So this is typically best achieved in collaboration with the private sector.
00:10:59
Speaker
Some of this, I think, in the Digital Europe project, they indeed would like to follow this route. So the central bank should spearhead the efforts, but it should be essentially the technical solution should be developed by the private sector.
00:11:13
Speaker
So there's a lot of obstacles, like the the public entities cannot do it on their own. They need to rely on the private sector, which naturally creates some costs. And in addition to that, what we always see when something like this is developed and let's say a new payment system is launched and there's obviously legacy financial institutions such as banks or opposing it.
00:11:31
Speaker
That's not only to the case, by the way, for the introduction of a new payment system, CBDC or the like. It's also that was also the case, for instance, for this crypto-friendly regulation in the US, the Genius Act. There's a few provisions that essentially were blocked by, I think, that were included to ah to essentially satisfy the needs of the banks such as that stable coins or the payment stable coins are not allowed to pay direct interest to mitigate potential competition with bank deposits and any concerns associated with this.
00:12:01
Speaker
So I think there's a lot of like obstacles to overcome when you would like to change something, something like a payment system. And this is leading to either direct or indirect costs.
00:12:12
Speaker
So it's apparently not easy. Otherwise, more countries would have done it. Now, this cost is probably lower when the legacy payment system is less developed because there's less rents that you'd have to take away from someone. and And this naturally makes it easier to adopt such changes in countries like India or pras Brazil, where there was lots of non-digital payments.
00:12:33
Speaker
And we have seen that a successful launch of the payment systems of PIX and UPI, which have been incredibly well adopted and has been an incredible success. And um yeah, so like these are essentially prime examples of payment digitalizations, right?
00:12:50
Speaker
various NGC instant payment systems. They not only facilitate transactions that previously were not possible or previously were just conducted in paper money, but they're also actually taking a little bit away of bay off these payments that would be facilitated by credit card companies.
00:13:07
Speaker
So that's also something actually in the discussion. And it's like, ah again, a geopolitical topic that is essentially also, think, a little bit in these negotiations between Brazil and the U.S.
00:13:20
Speaker
Oh, we definitely want to talk about about that too, because I think this is a...
Economic Efficiency of Payment Systems
00:13:24
Speaker
I mean, i hear I have a particular pet peeve with but payments per se, right? um And it's not to do with Visa so much as...
00:13:31
Speaker
you know, the the real beneficiaries of the Visa system and the MasterCard system, it's actually not Visa, MasterCard. So yeah, they make some money off of it, but really the the bulk of the income that is created from that system actually goes to the, what's called issuing banks, so the card that issued the bank that issued the credit card and the acquiring banks, so that's the the bank of the merchant.
00:13:50
Speaker
And they are basically, you know, um taking a lot out of the out of the out of these payments and earn a lot of it. I think, So the rumor has it that about 30 to 40% of income from banks these days comes from payments, which if you think about it, that's, you know, in ah in a really, if this really was a competitive market, that shouldn't be the case, right? Because, you know payments is a commoditized service, right? And, and you know, you you should not be earning more on it than the risk-free rate, right? And so, but that's certainly not the case in reality.
00:14:21
Speaker
But let's set that a little bit aside. Yeah. um I want to just, just to understand this better, I want to talk, drill a little bit down and in terms of also how you, how you think in terms of your model and in terms of how the adoption and all um ah in terms of the, is is this an internal effect? um And this particular pertains to China.
00:14:41
Speaker
um So maybe we'll, I'm going to go to Will because Will wants to also say something here. So ah specifically, i mean, China does more than just have internal payments, which are facilitated largely by WeChat and Alipay, but also internationally they have built or they're working to build a system which allows ah digital payments across country lines, which for a country which has such strong trade connection as China may be very important to do.
00:15:07
Speaker
um So maybe Will, you can tell us a little bit about how you thought about this. Is this cross-border or internal or domestic?
Challenges in China's CBDC Implementation
00:15:15
Speaker
Go ahead. Sure, Andreas. um Well, I'm going to speak about China's CVDC experimentation and adoption.
00:15:26
Speaker
But before I do that, also want to add to what Simon was saying earlier about the cost, because it's very much related. um you know ah the First, I want to thank you for having us here, and I want to give credit to Simon for you know driving the paper. I think ah you know in the in the model, we actually capture several stylized patterns, and ah relating that to the cost part, ah we do have this cost of implementation. right
00:16:02
Speaker
Setting up CBDC means real investments, operational complexities that the central bank has to overcome. And um so so I think someone described that part very well.
00:16:17
Speaker
um That's a sort of immodal direct cost. um But if you look at the industry, especially empirically, um you you mentioned China. China has been exploring the CBDC for almost a decade. I think the committee was first set up in 2016, and the talk even started earlier, around 2014, 2015. The pilots ah programs revealed substantial costs associated with promoting the digital currency, ECNY.
00:16:56
Speaker
um used to be called DCEP, digital currency, electronic payment system. the distribution of the tokens if the CBDC is token-based and the integration costs to gain traction because there are already payment networks um in place.
00:17:14
Speaker
And also the bank payment rail was the dominant financial payment system and integrating the CBDC into that would represent a disruption.
00:17:26
Speaker
um But beyond these technical operational costs, I actually think there is an indirect reputational cost, both related to domestic issues and the international standing of the central bank or the currencies.
00:17:44
Speaker
um So I start started following the discussion for China's CBDC ah pretty much as soon as they started and also spent some time working as an advisor with Bank of Canada and through the conversations with the you know central bankers who've been working on these issues, they all mentioned something related to reputation.
00:18:10
Speaker
um So overall, there's a concern that you know if I'm the first one going in and this fails, it's not going to look good. ah Instead, if I take a defensive stance,
00:18:24
Speaker
where I do my research, I stand ready. If the whole world is moving in that direction, ah we can quickly react. um But I don't have to be the first one doing the experiment because the learning is public.
00:18:37
Speaker
The cost is private um you doing the experiment. So both central banks express that concern, and I wouldn't be surprised if that's ah common concern. But that's more internationally, right?
00:18:50
Speaker
Domestically, especially in the case of China's CBDC, um There's also a concern. Well, I guess it's not exclusive for China. In the U.S., there was that concern as well.
00:19:02
Speaker
You're going to disrupt the banking system. The established institutions wouldn't be as happy. Now, in China, there's an additional concern from companies such as Alipay or Tencent, which have already established very ah modern payment rails.
00:19:22
Speaker
um That's functioning. That's fully adopted. So how to integrate CBDC into that presents a domestic challenge. Of course, you know the central governments or central banks can can just make that a requirement for these companies.
00:19:39
Speaker
ah That's one way to go. So far, at least in the case of Chinese CBDC, the approach has been softer in the sense that you know it's one option with Alipay But with WeChat wallet, you could use ECNY, but you don't have to.
00:19:57
Speaker
But that makes it harder for the economy to adopt the and currency. And if you look at the numbers of adoption, ah Bank of Canada hasn't really started this. I think Canada of canada of has taken a more cautious approach.
00:20:17
Speaker
um I think it's absolute leader in terms of research on CBDC. There were projects like Project Jasper. I think, Andres, you're familiar with that. You've also contributed to the discussion.
00:20:30
Speaker
um but But I guess the conclusion is that there is no compelling case to roll it out right away. um So the focus has shifted to sort of upgrading the payment manufacture yeah infrastructure.
00:20:44
Speaker
That's what Simon was saying earlier. year but CBDC... or stablecoin, those are just one way to go. There are other ways to upgrade the payment system overall, um which could serve as an alternative. We can still debate the pros and cons of that. too But that's what Canada has decided to do. Recently, I guess Canada is paying closer attention to stablecoins.
00:21:09
Speaker
Now, China has ah made the attempt, this experiment with major-scale CVDC, ah pilot program. And the I remember when Simon and I started this project a couple years ago, before the Winter Olympics in 2022, for sure, because we remember seeing you know the big promotion program for ECNY back then.
00:21:37
Speaker
um But you know I look at the latest numbers in terms of adoption, I think It was around mid 2024. The total amount of ECNY transactions was about 6 trillion yuan plus.
00:21:56
Speaker
um it's It's getting some traction. There's big promotional effort, but overall adoption has been underwhelming. um And there there are there are several reasons why that's the case. And in a way, it's by design because the experiment was quite tentative. It's restricted to discretionary consumer um spending. You can't use ECNY to trade financial products.
00:22:21
Speaker
um And the existence of Alipay and WeChat Pay ah would present competition. And there's no regulation to sort of require these wallets to take ECNY.
00:22:38
Speaker
So for all these reasons, it's almost like a calculated, careful experimentation.
Reputational Risks in CBDC Policies
00:22:44
Speaker
We do see limited adoption. that that doesn't At least to me, it doesn't mean there's no potential path forward.
00:22:53
Speaker
But the experiment has revealed significant costs, right both reputational and direct operational costs. um I guess I already touched upon the case for ECNY quite a bit.
00:23:06
Speaker
Happy to expand more on that. Well, i mean I mean, you know, the payments as a whole is ah is a it a very interesting economic question, right? Because payments or money itself has huge externalities.
00:23:19
Speaker
um So a network effect, sorry, not externalities, it's really network effects that ah matter the most, right? um And so this is, I mean, this is where payments networks and payment rails are, can be a good thing and can be a bad thing, right? So if you look at, ah let's say WeChat and Alipay, they're not only payment rails, but they are very deeply embedded in the economy, right? You go to a store or you go to a restaurant, you know, there's a QR code on the table, you scan it, you order your food,
00:23:47
Speaker
ah the food comes to your table you never see a waiter really taking your order and they you know the payment is just being made with your app right so essentially like wechat pay and alit pay just capture an entire the entire uh let's say workflow of of a lot of commerce um and getting into that market for a cbdc means that they actually have to compete not just with a means of payment right where i basically select like you know you have your apple pay and you just select one of the different ways of payment but it's <unk> There's something much deeper in that.
00:24:17
Speaker
um and And I think this is very hard for ah government agency to actually come in and actually do anything, right? I mean, this is this has nothing to do with your paper or with your particular results, but I think this is just an intrinsic problem that one really has to think hard about.
00:24:33
Speaker
And I think this is also... um yeah Yeah, so i want ah I want to just one second. want to come to that too, what you want to say, Fahad. So the reputation risk is something which we actually have to talk about a little bit more, right? because So I see the Canadian version.
00:24:49
Speaker
And I think there could be a failure as both international and domestic, right? So there's with your own population, if you set up a digital payments means and it fails, right? as it doesn't gain a traction It doesn't gain any traction or there could be so many things that could go wrong. It could be open to fraud. It could you know be down all the time. There's so many things that can go wrong with it.
00:25:09
Speaker
that's That's a huge risk for central bank to take. And that goes way beyond a business risk that a firm has. right so I think maybe we should, Farhad, maybe you want to chime in on that a bit.
00:25:21
Speaker
ah Yeah, let me just ah add a little bit, because when you're talking about reputational risk, there's sort of different ways that could be interpreted, and I think it's worth clarifying. So one piece is, I think, what Andreas was alluding to, ah which is, for instance, if the project doesn't go particularly well, what are the implications sort of more broadly for um ah for the country relative to sort of other countries?
00:25:43
Speaker
ah But another piece of reputational risk that sometimes comes up is more of a micro reputational risk. I um i i guess what I'm alluding to here is that there's sort of there's elements of politics and so on, which is to say that if a country is to try to move in a particular direction and it fails, that can be a significant political problem for the people who advocated for it, even if it doesn't end up manifesting in a way that ah for instance, affects the country on the global stage. So when you talk about reputational risk, um could you expand a bit on ah you know what specifically you mean by that and to what extent the micro versus the macro of it matters?
00:26:23
Speaker
Absolutely. and and And this is sort of related to what Andreas was saying earlier. um for For Canada, the reputation of risk is a bit more just how the central bank or the system would would have to gain versus great that this is not quite working, all the operational costs going into that.
00:26:45
Speaker
So it sort of makes sense to explore more, you for example, the real-time rail system and all that. I think that's going to be launched next year. right There's discussion on that.
00:26:56
Speaker
ah the the I think it's called RTR. um for For most other countries... By the way, we've been promised it for ah least seven to eight years.
00:27:07
Speaker
Okay, yeah. So, fingers crossed. um But for most countries, it does depend on the the domestic situation. um i can I can use China as an example, and that's actually related to what our paper has to say, right?
00:27:21
Speaker
China has huge incentives to launch CBDC or to lead, for example, stablecoin development. But it's not, right? It's following... What the US is trying to do, you know passing bills in Hong Kong, trying to do more stablecoin, but still packed to US dollar.
00:27:38
Speaker
I mean, Hong Kong dollar is already packed to US dollar. So it's more of ah digitization, on-chain digitization, rather than you know a bigger innovation. um But the the the repetition of risk for ah domestic is really just, you know it's already functioning.
00:27:57
Speaker
The whole system is already functioning in terms of payment. Why adding new things? The risk really lies, you know, I just don't get it to work. So in that sense, it's similar to what Bank of Canada is facing as well.
00:28:11
Speaker
And for that, there is actually a safer route, which I've been advocating. Not that the central banks listen to me, but um I think it could work.
00:28:23
Speaker
ah Basically requiring WeChat, Alipay and all other digital payment networks to use eCNY as the sort of the fiat, the currency behind their wallets and achieve interoperability.
00:28:41
Speaker
Interoperability is still a challenge. So if you you look at India with the European system, right, everything is connected. Payment, you know, it's very convenient.
00:28:52
Speaker
China is sort of doing a higher, ah more richer version of that, but in somewhat segmented ah digital networks. So maybe ECNY is a way to unite that.
China's CBDC Strategy for International Trade
00:29:05
Speaker
um And at the same time, it allows you to introduce CBDC. Now, the question is still, you know, are there are other ways to achieve interoperability. Why do you do that?
00:29:15
Speaker
And that relates to the international reputation of risk, international objectives, ah which our paper also touches upon, right? Why China is strongly incentive to do this? Well, it's an opportunity to make decisions you know your fiat currency, your currency, more functional, more useful internationally, like to make it or bring it closer to an international global currency. you know Right now, euros, US dollars will be the dominant ones. Chinese yuan is rising, but but you know in terms of shares, it's still limited.
00:29:54
Speaker
So it's an opportunity for the Chinese central bank or China ah in general The ah risk over there is... Can I interrupt you for a second? Can I just ask, so how should I think about this? Just just conceptually, is this a question of the renminbi being used as a trade currency? So you trade, let's say, with Kenya, right? And you, as a Chinese firm, you can make your payments or receive payments in your domestic currency, so you don't have to go through the US dollar.
00:30:28
Speaker
So is that ah is that an FX savings approach? Or is this is this almost, I mean, you can also think about it as if you want an imperialist stance where you say, well, you know, I make my payments, let's say I'm a Chinese company and I buy something from Kenya and I can pay my domestic currency, then that could lead to, if you want currency displacement in smaller countries so that your currency becomes...
00:30:52
Speaker
not so much as a reserve currency, but there's literally currency displacement, which increases your global political ah reach. that maybe that's I mean, that's a bit of a loaded question, but I'm just trying to see if there's some of that too in there.
00:31:05
Speaker
Right. I would say it's a bit more of the former in two sense, right? In terms of institutional or, you know, just say for international trade and all that, having one more international currency as an option would be beneficial for smaller economies as well.
00:31:23
Speaker
Because ah we know these wouldn't be cleared in their domestic currency anyway. um so So I view this as currency competition presented to you know many countries around the world.
00:31:36
Speaker
Does it have an effect of making ECNY or RMB more dominant globally? Yes, it would have, but it's an endogenous choice. ah You don't have to clear it in ECNY, but now digitally, ah in terms of feasibility, doable.
00:31:52
Speaker
Another aspect of that... Can interrupt for one more second? So ah just just from the economist's head, right? So we kind of just need one numeraire though, right? In all of our general equilibrium models, we don't need multiple numeraires.
00:32:04
Speaker
um One is good enough, right? And if this is happens to be just the US dollar... um is Is that really such a bad thing if we think of global welfare as opposed to individual and incentives? so ah due to Due to network effect, of course, one single dominant currency globally would allow us right to have more network effects and so forth.
00:32:28
Speaker
um That's in an ideal situation. um But as we've seen in the trade war and all the tariff issues and all that, There are certain risks and uncertainties presented ah when there is just one option for most ah countries.
00:32:44
Speaker
um you know there In terms of market competition, I think it's not a bad thing to have some competition options. right um and just for retail users, you and me, all of us.
00:33:00
Speaker
There's also aspects of convenience. I've seen many um workers in in, you know, even in Canada, for example, immigrants or temporary workers there, they want to make international remittance. They want to send currencies into Canada or out of Canada um is not as convenient just in terms of the process and everything and the fees charged.
00:33:26
Speaker
So having some vehicle that allows you to do that would be useful. ah You either pick a private option, right? Even cryptocurrencies, which are not very stable or stable coins, which are stable, but, you know, it's essentially US dollars or, you know, having one more option.
00:33:45
Speaker
that would make them at least indulgences decide what to choose from. i agree with you you. In terms of welfare, that part is that strict. The network effect is at play. Let me just add one more comment related to the route to CBDC.
00:34:03
Speaker
At least for China, suggested that domestic sort of integration of payment networks. Another way is to find the private sector has created an ecosystem people have already adopted. It's hard to... and There's no particular reason to change their habits.
00:34:19
Speaker
They're already comfortable with, you know, ah ah PayPal or Alipay and all that. But what about the public sector? We'll have to take care of health care. We'll have to collect tax.
00:34:31
Speaker
In the case of China, we're trying to, ah you know, carry out the one belt, one road system, right? While trying to to work with multiple other countries.
00:34:42
Speaker
For all these things that have to be done by the public sector, maybe you can create an ecosystem around these public sector applications. There you can build an ecosystem with network effect that private sectors wouldn't be able to do, at least at the moment.
00:34:59
Speaker
so So that's that route that might make this work. Does it have to be CBDC? Maybe not. Maybe stablecoin can work as well. the the Sort of the second part of our paper is about how you know factors like public-private collaboration or a central bank working with payment firms or stablecoins or other payment technologies could potentially help us. Yeah, so this is actually something that I definitely wanted to get to um because everything in my head, all the valves go off and say,
00:35:29
Speaker
You know, we're talking about building something with which is based on on CBDCs and then we have the private sector build something. But in many ways, this is like, um and because of the network effects, everything screams to me ah always like,
00:35:44
Speaker
you know, interoperability is an issue. So, you know, when you have a CBDC payments network, it needs to tap into all kinds of other pieces of the financial architecture, right? If you think of, um you know, um the competition among different networks, you know, the rails that come from private sector versus something public, you always have to think of, could one be more successful than another?
00:36:06
Speaker
And here, yet, on the other hand, we have something like a completely open infrastructure, like a blockchain, that can move different assets around without any restrictions, without any need actually for any partnership of the private and public sector where you don't have to build something in principle because you could just use an existing protocol and an existing approach, which you could make essentially interoperable just by
Blockchain and Stablecoins: Alternatives and Challenges
00:36:33
Speaker
design.
00:36:33
Speaker
And it seems to me like such an obvious solution that a blockchain is just better for doing this and therefore a stable coin whatever you i mean stable coin is could be anything right so you could you could issue a cbdc on a blockchain too right so it's just a question of who does the act of creating the token right in a way um and even and you could even argue that even a cbdc is i mean listen this is how we do our canadian dollars how they're being backed essentially is always backed by ah by a corresponding government debt instrument, right even our you know the cash that we create and all that, the reserves that we have.
00:37:09
Speaker
So essentially, it's it's almost the same thing, right? it's just by a different name. So is this not obviously the the answer to all of this is if you enable the usage of of an open infrastructure, would that not solve all problems of reputation and so on?
00:37:26
Speaker
Happy to speak to that, but I'll i' let Sam. I mean, yeah, so you you're right. I mean, currently the payment system, let's go to the credit card companies, it's a payment system where essentially a large intermediary of a few large intermediaries settle all the payments.
00:37:42
Speaker
My understanding is blockchain on the one hand is like very appealing, on the other hand there's this obvious trilemma and there's some benefits to decentralization. So it's like very hard to achieve centralization speed and as a cost efficiency and security.
00:37:59
Speaker
The current payment system that is like essentially centered around these few intermediaries does pretty well in terms of security and speed. However, it's quite costly. So the obvious solution that you propose that it's all on a blockchain seems to be good, especially in terms of facilitating interoperability between, for instance, stablecoins, tokenized deposits, and so on.
00:38:20
Speaker
So, yeah, so, like, I think the private sector is working on that, like, at least in the U.S., there's a hard push towards these stablecoins and also very related to tokenized deposits. I don't, I have not seen yet how these will all be interoperable. So, like, this will be very much...
00:38:35
Speaker
ah interesting to see with what the private sector comes up there. But like, yeah, so interoperability is key. I just don't see currently how this may be achieved and like many different solutions are floated around. So happy to learn more about that.
00:38:48
Speaker
Fortunately, cannot comment on how currently this would be facilitated, especially when we have these different stable coins to sit on different blockchains sometimes and so on. ah So maybe I can hop in here because i think, so Simon, you you sort of alluded to, let's say technical hurdles like the this the scalability, Trimilema and so on. But it seems to me that a lot of that stuff is is being worked on and has made a lot of progress in in recent years to the point that, you know, debatably, depending on who you ask, it's it's it's not binding
00:39:20
Speaker
even today, and and certainly I think you know in a few years, it's it's unlikely to be to be binding. ah It seems to me kind of the the the more fundamental issue as to why um we haven't seen, ah for instance, stablecoins displacing more of the traditional payment systems is the sort of the network effect point, right which is to say that um You know, my parents don't really know what a stable coin is, and so they don't really use it. And, you know, if I go to Starbucks yeah downstairs, ah they also don't accept stable coins.
00:39:55
Speaker
um And so, you know, it's it is a system characterized by positive externalities. And given that it doesn't have a lot of mainstream adoption, despite all the discussion in policy circles and so on, despite the fact that the U.S. Congress did pass the the Genius Act, I don't think right now stable coins have anything close to mainstream adoption.
00:40:15
Speaker
And that then it's that that then sort of i yeah that then makes it so that it's not something that everybody's going to pick up and use, particularly in the developed world where most people are pretty happy with Google Pay and so on.
00:40:29
Speaker
um So it seems like one piece is just a simple sort of coordination thing, which is to say we're not currently coordinating on using a blockchain ledger for really anything in a mainstream context. And that's a disincentive for people who don't know anything about blockchain to start using it, ah particularly when they're relatively comfortable with their with their current payment systems.
00:40:51
Speaker
ah A second piece I would say is more, I think Simon, you even touched on this earlier, which is the sort of, ah let's call it political aspects, right? Like does does the banking system benefit from the proliferation of stable coins? And you you alluded to, for instance, the fact that the Genius Act has a,
00:41:10
Speaker
as a part where um stablecoin issuers cannot pay interest. And you ask, well, you know, ah who who is this good for? Well, the banks. um and and And so, you know, banks have lobbyists and and and they affect the sort of the political climate.
00:41:25
Speaker
and um and And that's, that's um I don't know if I described that as a friction, but I mean, there's a lot of political economy that would have to be overcome in order to sort of get to that world where ah let's say stablecoin adoption would be mainstream. so I guess, I suppose it's it's kind of a different thought experiment to say like, Hey, look, what is the optimal outcome? If we could all coordinate on a particular outcome versus what is the world we're in right now? And how do we transition into a different world? And is that even feasible given the politics um and and given what we are currently coordinating on as a payment system?
00:42:00
Speaker
um Will, do you want to comment on this? to Just sort of add to what what you've been saying. i agree with all of this.
00:42:11
Speaker
um To Andrea's question, right? Why a decentralized solution doesn't seem to be feasible, at least at the moment. um i think there are three major challenges.
00:42:23
Speaker
The first one is related to the the regulation and the existing system, right, that the CIFI-Tritify system that we have.
00:42:34
Speaker
Banks are not incentivized to promote this. Regulators are concerned but about capital control, about how this interacts with monetary policy. So Instantly displacing the traditional system, I think, is not realistic. It's going to take a long time.
00:42:52
Speaker
A more realistic approach, which is happening, which is encouraging, is an integration of ChitFi, CFi, and DeFi. True RWE, true the rise of stablecoin, which is taking some time, but it's progressing quite quickly.
00:43:08
Speaker
Of course, there's always the hype and overheat in the media discussion, but you know it's going in the right direction. So that's one challenge, which is being worked on. Second challenge, what Fahad has mentioned as well, the technical adoption challenge.
00:43:23
Speaker
um For ordinary folks, at least who are not you know crypto or blockchain savvy or enthusiasts, it's not so easy to use a digital wallet or a blockchain wallet.
00:43:36
Speaker
I actually have a recent study looking into crypto ATMs. We do find places where crypto ATMs were installed, which make it very easy for ordinary folks who are not into digitization to use it.
00:43:51
Speaker
Adoption does go up. even financial market participation beyond cryptocurrencies would go up. Of course, there are associated rise of you know ah financial fraud or or drug dealing or violence, right? There are pros and cons, but that's a technical challenge ah to adoption, which you know gradually maybe with education, with ah more user-friendly interface might work out.
00:44:15
Speaker
The third challenge is actually related to that interoperability that Simon actually touched upon. The truth is even for a on-chain system or blockchain based platform, there are many of them.
00:44:29
Speaker
They are not interoperable either at the moment. And that's where, you know, Oracle knows that um would bring information and value on-chain, off-chain across chains would be highly relevant.
00:44:43
Speaker
um But even that, I've been working with Shilin for a long time. um I think there are many challenges. For example, um there's you know We introduced this concept of Oracle Trilemma.
00:44:58
Speaker
right yeah In blockchain, we worry about decentralization, ah scaling, and security. But verification on blockchains are easy. The information is on-chain.
00:45:08
Speaker
You can easily verify the transaction. But if you're trying to bring information from outside a particular chain, a particular digital network, into that network, There are two levels of challenge, right?
00:45:21
Speaker
One is, is your information source reliable? It's not part of the digital network state variable, right? you You have to verify that. And even when they are reliable, they are noisy.
00:45:32
Speaker
How do you aggregate information? What what summary statistics do you use? that's That's actually not a technical challenge. It's an economic ah ah challenge, right?
00:45:43
Speaker
I think people working on pure prediction games, working on mechanism design, other economies, other knowledge will be very useful actually there, right? How we think about information economics, information aggregation to achieve interoperability.
00:45:59
Speaker
That is just being touched upon. I think there's, you know, a great great room for more discussion, but also a long way to go.
00:46:10
Speaker
Yeah, I mean, I fully agree with you. I mean, the the Oracle problem interoperability, I think this is this is almost a topic for a separate podcast as a whole. I would like to come back to though to to payments just generally and and also maybe maybe just make a little bit more of a push for the for the whole idea and maybe from some, let's say, blue sky type thinking, right?
00:46:30
Speaker
So, you know, early on you heard me rant about how payments is such a big source of income for financial institutions. And I think this is, what there we we have to think about it maybe from ah from a public policy and economic efficiency perspective.
Cost-Free Payments and Public Welfare Debate
00:46:44
Speaker
So if you if you if you take a step back, go to, let's say, back to the 70s, right? um what was the deal with banks, right? We go to banks and they help us do all these inconvenient things like payments, right? So, you know, how do you get paid? You get a check in the mail, right? And how do you pay somebody while you pay with a check?
00:47:01
Speaker
And you need to get your money somehow because, you know, how at the time you still had lot of cash payments and the bank has these has the cash available for you, which is really expensive and generally it's so, right? um and So arranging all of this was very difficult, cumbersome, required manual labor. You know, they had these huge floors full of people that had to just change ledger entries for payments as they were being made.
00:47:23
Speaker
But then the digital world came along and, you know, we have mainframe computers and, you know, a lot of payments moved in a digital form where you're really just shifting bits and bytes around. And so things got much, much easier from that perspective.
00:47:38
Speaker
And who were the beneficiaries of this? Well, we too, in some sense, because our payments got easier, we got a better service. But in terms of the the income that was created, this this is a phenomenal part of what banks make.
00:47:51
Speaker
And I think you can make a case from a public policy perspective, this is money that if there was really a genuine competitive market in payments, this should be closer to zero rather than to 30, 40% the income. So I think you can have a public policy objective where you can say payments should be almost free or should be provided at cost.
00:48:13
Speaker
And I think if you take that perspective, then you can ask the questions of, okay, so what kind of payments rail and arrangements and payments are would get us there. And so I should just say, you know, people who have the stability of banks in mind will the alarm bells, will go off and say, what happens if our banks of sudden become by far less profitable, da, da, da, da. But I think from a public policy perspective, this is something which is which just could be a goal where government can put a lot of money back into people's pockets at zero cost to the taxpayer, right, in terms of to the public sector.
00:48:45
Speaker
So, and I think if we think about that perspective, then we have to ask the questions of, Is there a way how we can, for instance, you know, we don't have to force the usage of a particular blockchain, but you could allow the usage of multiple ones and then see how that pans out.
00:49:02
Speaker
And then think of a way how we can make it so, so that we don't create another monolith. Like, you know, obviously Stripe wants to become the blockchain of everything. Like Bank of America wants to become the bank of all credit card payments or digital payments in the, what, 90s or so.
00:49:16
Speaker
ninety s or so So i I'm just trying to say, like, if we if we take the take a back step step back as economists, say what would we want the payments world to look like? And is that maybe also something that your paper has something to say about?
00:49:28
Speaker
That's a very tricky question. So like you mentioning, like maybe payments are too expensive, but of course the cost of payment shouldn't be zero because someone has to provide a good payment infrastructure. So that goes a little bit beyond the paper, but I would say... Let me just say this at cost, right? There's a difference between that. At cost, yeah. what is this optimal cost? mean, someone must have sufficient incentives to provide this good payment infrastructure. That's also of national interest. Yeah, any country would like to have or needs to have functioning payment infrastructure and...
00:49:57
Speaker
That actually should function without foreign aid. I mean, it should function autonomously in the worst case. Yeah, but this is again where the blockchain comes in. It's a neutral worldwide infrastructure. if it you know Maybe that's the solution. That's what i'm trying to say.
00:50:11
Speaker
That's the first best solution, I would almost say. Currently, I think we're moving towards a little bit more fragmented solutions, like a little bit like behind this digital euro project in Europe.
00:50:22
Speaker
Europe wants to have autonomous payment infrastructure. That's essentially encouraging here. That's essentially driving the entire debate about the digital euro. I think a little bit of debate might be driven a similar way in other parts of the world. And the US, on the other hand, would like to export their payment systems now via these stablecoin providers.
00:50:41
Speaker
So I don't know whether this first best solution is achievable here. So I want to ask a somewhat naive question from maybe the crypto native perspective. And that is, I think a lot of people in the crypto native community i have trouble believing that the current costs that we see for payment infrastructures are actually the level that we need to have a functioning payment infrastructure.
00:51:05
Speaker
um And so at a very naive level, the way one way to think about it is that when we talk about, for instance, tokens that are created on blockchains, um what we essentially have is ledger entries that correspond to balances. And when we want to transfer funds, all we're doing is we're changing numbers.
00:51:22
Speaker
um So maybe it said that I had 10 and Simon had zero and then to send him one, ah we just update my 10 to nine and his zero to one. And that takes some cost because you need some execution and it's being stored in thousands of nodes all across the world. But the truth is that that by itself is not all that expensive.
00:51:42
Speaker
um and ah And so there's there's sort of this question about, well, how much of the cost that we that we see in payment systems is owing to the actual costs that we need to ensure that they're properly functioning versus costs due to, on the one hand, legacy systems that are very inefficient in the first place and we have trouble transitioning off of them.
00:52:09
Speaker
And on the other hand, ah let's call it the political economy of incumbents trying to maintain their market position. Because i mean, one obvious way that this is done is essentially ah lobbying for a certain amount of ah legalese around i ah around the the payment infrastructure that then makes it actually very hard, for instance, for um for other players to enter the market ah because they need to also sort of be in line, not so much with the technology, but rather with the the sort of the legal aspects of it.
00:52:47
Speaker
Yeah, um absolutely, Fahad. um I think both your question and Andrea's earlier question point to a deeper issue for economists.
00:52:58
Speaker
right ah lets Let's forget about blockchain or on-chain economy for a second. um I think it has something to do with market concentration, market power. Why are there market power? Why are there dynamic market power that creates all these issues?
00:53:11
Speaker
um so So let let let me... ah First, you know to to respond to the question more specifically, ah let me first point out that creating a consensus on what has transpired in a market, in the economy, is actually not very cheap.
00:53:30
Speaker
you either do it in a centralized way, then we have to trust the centralized entity. Trust building, reputation building all take a lot of effort,
Blockchain's Role in Market Decentralization
00:53:39
Speaker
right? You want auditability, you want all these things.
00:53:42
Speaker
um If we do it in a decentralized way, we have to have duplication. We have to have a distributed database. Again, that part is not cheap per se.
00:53:54
Speaker
But suppose the technical side is soft, right? Suppose we make it cheap enough or at cost, ah What are the key frictions? Why traditional digital systems wouldn't work?
00:54:05
Speaker
Well, there are two. Actually, this is not related to this particular paper ah we have, ah but related to our other paper, which is titled Data Union and Regulation in the Data Economy.
00:54:18
Speaker
The two frictions with traditional systems, That leads to you know monopoly, antitrust issues, and all that. um And you know what why large firms like Google, Ometa, sued here and there and all that um involves number one, network effect.
00:54:36
Speaker
yeah Infrastructure provider, once they build network in effect, free entry is gone. Entrant can't freely disrupt the system due to a network effect.
00:54:47
Speaker
The second effect is data. ah you know We call it data reinforcement effect. Once you have data, you improve your product, you get more users, more users generate more data, you further improve your product, you are ahead of your competitors.
00:55:02
Speaker
Again, free entry can't solve that problem, right? A new entrant wouldn't have the data accumulated. and And the two interact. For all these reasons, yeah Internet-based systems do run into the issue of market power concentration monopoly.
00:55:18
Speaker
Now, blockchain or, you know, on-chain economy distributed ledgers do provide a potential solution. But the challenge there is it's it's a technical possibility. We solved the technical feasibility issue.
00:55:33
Speaker
But is that an economic reality? So far, the designs of the protocols are are not leading us to more decentralized setup. but you know we We look at, for example, the income distribution, the wealth distribution, the transaction distribution in the Ethereum ecosystem, right including all the ERC-20 tokens and all that.
00:55:57
Speaker
It's actually just as concentrated as our off-chain economy, real economy, in some way. It doesn't mean it can be more ah it can be less concentrated. It's a design question.
00:56:09
Speaker
But that part is actually an economic design question, not so much of a technical challenge. And that part is very much lacking in the industry, in the sector.
00:56:21
Speaker
I think there's a lot of focus on the technical solutions. But do we have an economic design that allows people to provide the incentives at the same time ah prevent you know the the monopolization using network, using data accumulated. In our paper, we we propose something like data union that's a bit more decentralized.
00:56:47
Speaker
It can be implemented through a decentralized autonomous organization. um But that's just one design. I think a lot more work and debate should go into this.
00:56:58
Speaker
So I think I agree with pretty much everything you said there, actually. um But I think what it then boils down to in part is um how easy it is for an entrant to enter and not at be at a disadvantage, for instance, due to positive externalities and things like that.
00:57:19
Speaker
and And I wonder very much then, kind of one of whether one of the big limitations for ah blockchain as it stands currently is precisely the fact that for most of the users, what's actually going on is very opaque.
00:57:37
Speaker
um And so part of what I'm getting at, for instance, is so let's take the examples that like ah you mentioned lots of concentration, which is true, right? So if you look at stablecoin market, for instance, right, there is um really two major players, or even within that, I would say, you know, USDT is is significantly larger than even the second biggest stable in terms of its its ah it's float.
00:57:59
Speaker
um And so you could imagine a world where, um owing to this concentration, there's the ability to extract rents from the issuer. But at the same time, if we lived in a world where people were sort of savvy enough to basically, on the merchant side, let's say flip,
00:58:14
Speaker
from USTT to a newly issued stable, right? That then sort of makes it difficult for Tether to extract rents, right? But the truth of the matter is, this kind of goes back to something we were talking about earlier, which is that you know Most people interacting with these systems don't really understand them very well. And so they're basically just doing things as they are being as they're being sort of put in front of them. And so a big thing that I think we do see sort of in the blockchain environment as a matter of practice, separate as a matter of theory, is that like distributional channels matter a lot.
00:58:53
Speaker
um Because you know one thing that that I frequently ah say to people in sort of the DeFi space is that they're not even at Netscape Navigator 1.0, by which I mean that you know you could say similar things about the complexity of the internet.
00:59:08
Speaker
um But the point is, we have a very nice wrapper from which we interact with it. um And if you think about digital wallets, I don't even think they're at the level, again, as I said, of Netscape Navigator 1.0, which I guess is the first sort of widely used web browser back in the 90s.
00:59:24
Speaker
And so i i I think I fully agree with you know everything that that you were just saying. But I do wonder whether the solution to that might not be something like,
00:59:36
Speaker
um something like ah making ah blockchain more accessible to a mainstream audience. So for instance, they can react to incumbents extracting grants in a way that would be corrective.
00:59:52
Speaker
And ah as as a sidebar, um Andreas is referencing Mosaic to me. And I'd like to point out Netscape Navigator actually was the privatized version of the Mosaic web browser.
01:00:03
Speaker
So i I sort of consider those things the same thing. um But you know Simon, Will, could you maybe a reaction to to the point about ah you know is it is it is Is it so much a ah fundamental and limitation with regard to the economics or the technology um that we're talking about here? Or or do you think like this this point about the difficulty of the current user base of properly understanding what's going on and reacting, for instance, to incumbents extracting rents, whether that's not an issue? and and And so maybe, again, part of the point is to to have a user interface
01:00:41
Speaker
that is that is a much easier for people to to react to, which I don't think we have right now.
Generative AI's Impact on Blockchain Accessibility
01:00:47
Speaker
Absolutely. Right. Earlier on, we were talking about, you know, three barriers, ah interoperability, the regulatory side, very incumbent side, and then the adoption side.
01:00:56
Speaker
i I think the first two we've talked a lot about, but the adoption part, just making it easier for people to use it and making it more transparent, ah is ah there there is limited work.
01:01:10
Speaker
So that's the bad piece of news. The good piece of news, which I personally i am fully um convinced, is um actually related to AI, with generative AI.
01:01:25
Speaker
um So think about it. It's not only for users, right, just making a transaction on-chain. It's actually for developers, for regulators. um If you have to code up a stress test in the DeFi system, that's a daunting task.
01:01:40
Speaker
right You have to hire a consulting firm. Do you trust the consulting firm? Are they doing a proper job? right As an individual, let's say a crypto investor, um I have a strategy. How do I back test my strategy?
01:01:52
Speaker
How do I think about scenario analysis? It's all very challenging to do on top of you know just using it for basic transactions. Now, crypto ATMs solve some problems.
01:02:04
Speaker
But I think and Gen AI is promising in sense that now even for coding, you don't need to know coding. You can use natural language.
01:02:15
Speaker
In computer science or in the AI field, it's called visualization. You can visualize your model. You can visualize your data without the technical know-hows.
01:02:27
Speaker
um I think that's a very promising route. That's something that can allow people to use the on-chain economy or tap into the on-chain economy a lot easier. Let's say I'm trying to to figure out which stablecoin I use.
01:02:41
Speaker
I have an LIM on the side. I can ask them if they can provide me reliable, accurate information. That's a lot easier. i want to open wallet. I don't know how to do it. My AI agent is opening it for me.
01:02:51
Speaker
Of course, this passes the responsibility to the AI side, um but I think there's a lot of progress in that direction as well. that That's sort of my quick reaction to this.
01:03:03
Speaker
Yeah, I think we need more Apple and less Linux in a way, right? In terms of user user interface, right? um And I think lot of people in there in the blockchain space, the ones that are developing and and are really into it, they just have a Linux mindset to it. Like, if you can't do it, you're not worthy of ah using our tools, right?
01:03:21
Speaker
um But can I... So I want to um maybe go back a little bit more to what your paper is doing and what it
Stablecoin Proliferation and National Currency Sovereignty
01:03:30
Speaker
hopefully can tell me. And I'm not going to go from my Canadian perspective again, because I think this is probably a useful thought experiment for you.
01:03:38
Speaker
So imagine a world in which, um let's say within the next three years or so, there's proliferation of stablecoins. And we have, let's say, let's go beyond the technical limitations at the moment that we see and that, you know, lack of user for interface. And just to say, I can use stablecoin payments just as easy as I can use a bank payment. Actually, no, no, no, sorry.
01:03:58
Speaker
ah Go a step back. Actually easier, right? So the way it's it's supposed to be, right? Where just like what the Europeans do, i have an account number, I send funds to that. Now, um As Canadians, ah Canadian firms have a lot of interactions with the U.S. s And let's suppose our trade war will end and we will have the the usual, the minimus transfers across borders.
01:04:19
Speaker
So that, and this is where it gets important, Canadian firms get paid in the U.S. dollar. I'm sorry.
01:04:26
Speaker
Because that that's a reality, right? So that where where Canadians, ah where U.S. customers want to pay, could be business customers, but could also be private customers, money will flow to Canadian firms.
01:04:38
Speaker
Now, Canada doesn't have stablecoins. Canada doesn't have a blockchain interaction currently with the banking sector. So what do firms do? Well, they have their money, right, in in US dollar stablecoins.
01:04:49
Speaker
How will they use it? They could make, you know, put pay international suppliers. Okay, fine. Or they couldn't actually pay domestic suppliers this way. Now, what that does is for a country like Canada, it creates essentially currency displacement, which is one of the things that we're really concerned about.
01:05:07
Speaker
So, So i'm I'm bringing this up because I think this is a concrete case where actually your model and your approach becomes relevant, right? So what what what does your paper then tell me about what is the reaction of Canada? What does our banks have to do? What you say that our central bank has to do? What do they have to encourage?
01:05:24
Speaker
but how do we how do we How do we make sure that the Canadian dollar stays relevant? Yeah, that's like a very important point. You're highlighting the pitfall of it and like the advantage the US essentially has also originating from stablecoins and which as you say are primarily US dominated. yeah So like the US dollar denominated as Fahad mentioned, there's two major stablecoins USDT or Tether and USDC associated with Circle Internet Group.
01:05:52
Speaker
And these dominate essentially the stablecoin market. And with the rise of these stablecoins and their growing adoption potential in payments, we would also see something that we could refer to as digital dollarization, namely that The dollar is adopted in digital transactions worldwide, in particular in Canada.
01:06:10
Speaker
but And domestic is the important part, right? and like They could have domestic displacement, right? Yes, then also in domestic, that it first starts with international transactions between U.S. firms and Canadian firms and then spills over to potentially domestic transactions.
01:06:25
Speaker
potentially making even the US dollar the, I would say, unit of account, undermining what the central bank can do in Canada and so on, all kinds of effects Canada would like to avoid.
01:06:36
Speaker
Our model would say, well, this creates a motive to introduce a digital payment system in Canada that kind of reinforces the ah essentially role of the Canadian dollar in these payments.
01:06:51
Speaker
How to do that in a technical way that's like a very challenging um essentially a very challenging undertaking. And I think ah maybe I see the parallels, I draw the parallels to Europe where I'm from.
01:07:03
Speaker
That's essentially precisely the motivation again behind the digital euro. They're referencing currently the credit card companies that process a lot of retail transactions and digital payments in Europe.
01:07:16
Speaker
This effect would become much more severe had stable if stablecoins were adopted for these retail digital payments. And this is essentially like ah creating a motive for introducing the digital payment system, an own digital payment system, potentially in the form of CBDC.
01:07:33
Speaker
Now, you mentioning some technical difficulties or some economic difficulties might arise. For instance, the Canadian supplier might be paid in the US dollar stablecoin. What does it do with this US dollar stablecoin?
01:07:47
Speaker
Now, this I don't know ah what the sign would essentially now preclude that it starts circulating the ah US dollar stablecoins into the Canadian economy.
01:07:59
Speaker
But essentially our paper would simply say, yeah, the Canadian government or the central bank would have to do something, introduce a digital payment system that essentially upholds the adoption of the Canadian dollar in these digital transactions domestically.
01:08:14
Speaker
So that's what our paper would say. like very intuitive for the reasons yeah that you have highlighted. Now, how that works in practice, what design or technical design to follow, that's yet another question we potentially she cannot address in this short amount of time and also don't address in the paper in that detail.
01:08:31
Speaker
So can I actually ask, I mean, so now I'm going to be revealing that my economics training is really um lacking in some dimensions, and particularly when it comes to macro and monetary policy. And so,
01:08:42
Speaker
you know If I'm not completely mistaken, then the the key way how monetary policy by ah governments work these days, or by central banks work, is through the payment system. right So you have balances that have to settle overnight, and you know you have to basically close positions, open positions, and close positions overnight by taking by doing borrowing and lending against and know with the central bank, or with or at least you have to have all positions that have to be closed by by some form of borrowing and lending.
01:09:09
Speaker
When you have a 24-hour system, let's say a stablecoin base or the like, and imagine a world in which you would have the entire capital market would run on some form of 24-hour system, would there still be this mechanism available so that there would be monetary policy from interest rates? Yeah, it's a good question. So I think it's not the 24-hour thing, whether we can settle transactions 24 hours or only like 16 hours a day. That's not the key problem, but let's say the dollar, these stablecoins are widely adopted as means of payment, then the prevailing interest rate in Canada would be the one essentially in the US or something similar would be directly related. that obviously that constrains the Canadian central bank's ability to change the interest rate via monetary policy. I think that would be one of the key channels.
01:09:59
Speaker
And so you're saying by by adopting, because going back to your paper, right? I mean, we're talking about a technological solution so that you in order to actually have, make sure that the Canadian dollar is used, we We need to have a technological solution.
Technology Solutions for Currency Control amid Stablecoin Competition
01:10:11
Speaker
but but so but But then having a technological solution which sort of like contraacts that, let's say another stablecoin solution, a domestic stablecoin solution, that by itself you're saying has no impact on on the monetary policy in a negative way, right? It just restores monetary policy or is this... How do we think about that? So what I mean by the solution, maybe let's say you would have a Canadian... Like this is maybe not the best solution, but what I could imagine is like essentially...
01:10:36
Speaker
you would have a stable coin denominate in Canadian dollars and you would kind of enforce, maybe that's a little bit financial repression, but you would essentially force the conversion of these US dollar stable coins in this Canadian stable coin to make transactions in Canada.
01:10:53
Speaker
So this way you would essentially prevent the US dollar stablecoin from being adopted too much, ah yet you would enable inter interoperability and you would essentially boost the adoption of your own Canadian dollar stablecoin. That might not be the best solution, but I would envision something like that would work in this context.
01:11:09
Speaker
And this Canadian dollar stablecoin could be a form of CBDC, but probably it's better to roll it off via the private sector. Yeah, um if I may just add that. two remarks right on top of what Sema has said.
01:11:24
Speaker
I mean, for lower frequency monetary policies, right, in terms of central banks adjusting interest rates or controlling the supply, right, to affect investment borrowing and all that, I think um It's going to be affected, but we also know a lot about it.
01:11:41
Speaker
I think there's a lot of study on potential effects CBDC, even stablecoin on monetary side. And I haven't seen a paper yet. I would conjecture you' a stablecoin would require one-for-one collateralization with the actual fiat,
01:11:59
Speaker
ah CBDC and stablecoins are going to be equivalent in terms of monetary effect. Of course, they are not equivalent. The issuer has default rates and the collateral is not ah you know either M0 or M1 and all that.
01:12:12
Speaker
um But for higher frequency um so domain. ah what What you mentioned is very valid and this is actually ah general issue associated with digitization.
01:12:24
Speaker
We just have more algorithms, more bots that are running 24-7 that react a lot faster than humans can possibly come up with solutions. So either we you know make enough contingent plans in terms of writing out the smart contract, contingent outcomes and all that, or at some point central banks just have to be able to manage certain bots or algorithms or yeah agents to help deal with higher frequency policymaking.
01:12:57
Speaker
um That is barely explored. That means there's more to innovate about two studies from both an economic research perspective and industry innovation perspective. Yeah, i mean, that would be a ah real technological challenge, right, by the sound of it. So considering what central banks are fundamentally, which is lawyers and economists, that's ah it's going to be really interesting.
01:13:23
Speaker
The economist part can help. ah The legal side ah presumably also helps, but you can add some AI agents to help as well. So ah I want to ask ah a question sort of on a different dimension of of what we've just been discussing, which is, so if you imagine a world where, let's say, for instance, a bunch of merchants in Canada decide that they're going to accept US dollar stable coins, and maybe they don't really care that much that you know they're taking on FX risk, because in any case, they're now going to like immediately dump it into, let's say, a risky asset that they're going to leave on their balance sheet or something like that. So essentially, you know they're managing some capital.
01:14:03
Speaker
They're not going to leave it in USDC. they're They're going to frictionlessly move it into something else anyway. And this sort of relates a bit to kind of the i the the idea that you know if you make things sufficiently frictionless, um where where I can immediately flip from one asset into another asset, it doesn't make that much of a difference if I if i accept in, say, USDC versus something else.
01:14:24
Speaker
um What exactly is the is the ability of the Canadian government to respond to that? um ah Meaning that, you know, I think Andreas was was highlighting the problems that would arise if essentially another country loses control over its own monetary policy because people start using a different...
01:14:47
Speaker
a different fiat essentially within its own borders. but so So I'm not asking this from the perspective of like the economic welfare implications. Part of what I'm getting at is like if you if we talk about the world decades ago, the reason this doesn't really make any sense for the merchants involved is that like what are they going to do with the US dollars? you know i live I live in Manitoba,
01:15:07
Speaker
And I have, um and I have, ah you know, and and now i'm going to have a bunch of US dollars and nobody is going to let me buy anything from the grocery store from it. And if I wanted to actually go and invest it into some other asset, I would have trouble doing that.
01:15:21
Speaker
But the truth of the matter is like today, literally today, somebody in Manitoba could take USDC and immediately swap it into a liquid risky asset, like let's say either.
01:15:32
Speaker
um I'm not saying that's ideal, but the point is that that that feasibility didn't exist 20 years ago and didn't even exist five years ago. um And so what is the sort of, and like this is really, I suppose, more of a legal question, um I think, I don't know.
01:15:47
Speaker
um But what is the ability of the sovereign to respond to that kind of behavior? mean, that can involve ah yeah that can involve like classic capital controls and financial repression. i mean, this is ah clearly a possibility, not so desirable, I would imagine.
01:16:04
Speaker
um and what people can can i just Can I just quickly interject? It also seems to me like the difficulty of implementing a financially repressive policy is a lot harder today in the in in this context that we're describing today.
01:16:17
Speaker
um Like, okay, obviously you can say like, I will outlaw you from holding USDC in in a Canadian province, but, you know, we're talking about people doing potentially peer-to-peer transactions over their phones, like through a digital wallet or something like that. Like, I ah guess I'm asking like, is that even, is the traditional forms of financial repression, is the enforcement of it?
01:16:39
Speaker
economically feasible or cost-effective? I mean, typically it's like, I don't mean an outright ban or anything. like I mean, just you're forcing your banking sector to hold whatever government securities and so on, it and then it trickles kind of the way back ah to the payment to the payment and something like that.
01:16:56
Speaker
So that might work. And what we would essentially also advocate, maybe a potentially technical solution that makes it sufficiently unattractive to completely adopt ah foreign currency in digital transactions.
01:17:06
Speaker
Let's say that could involve like, indeed, you have this Canadian stable coin that can settle transactions domestically and you're facilitating good interoperability and convertibility and so on. I don't know how how to achieve that technologically and how to design the system that way, but I would imagine there exists such a technical solution that could be implemented by a country like Canada. I mean, not every country has the capabilities potentially.
01:17:30
Speaker
Not every country has the institutions to do that, but I would imagine Canada does have. Right. And just ah to paraphrase what Simon was saying, and there's the policy side that the government can work on in terms of encouraging or making certain regulations.
01:17:48
Speaker
Not too excessive, but coordinating a bit. There's also the market side. That's what I think Simon was referring to as technical, right? Technical innovations that make this easier. It could come from the government, the central bank. It could also from come from just the private sector. For example, if someone comes up with you know something like Libra or DEM, a basket of currencies that are stable, or some basket of treasuries and the ah financial products.
01:18:22
Speaker
If that's functional, that that's a competitive force against foreign currency denominated stable currencies or stable coins. That could work. It might take some time depending on the regulation.
01:18:36
Speaker
but If the regulation forbids that, everything has to be packed to US dollar with this collateral requirement, then you sort of tie your hands into that space. But if you allow a bit more room for innovation, maybe competition will, market will solve it.
01:18:51
Speaker
problem you suddenly we So maybe I have a one last question that I actually like to take a temperature on and, and that's, um, your general view on some of the things that we see emerging now in the stable coin space. Um, most prominently the, you know, the approach is by so Stripe and by circle with a tempo and arc blockchain, um, where they basically have a blockchain, which is, has a native asset, which is a stable coin.
01:19:19
Speaker
And, um, I mean, obviously these systems are set up as ah as a way to you know have faster payments and be more high um have higher throughput and so on and so forth. um I don't want to put you know words in your mouth, but you know to me, and I think one of the biggest threats actually of this entire development is because there's so much advantage to scale in finance ah that we will see like one one firm to rule them all, right? So we move from a world where we have different silos and different options to one where possibly, you know, a lot could be dominated by a single by a single entity, which...
01:19:56
Speaker
I think it's probably a scary prospect, but I want to hear your opinion on if this is a natural outcome, how you think this will play out and maybe what also ah a paul policy as response from a government should be with this prospect in mind.
Stablecoin Market Competition and Dominance
01:20:09
Speaker
Yeah. So like we see this growing competition currently in the stablecoin market and like, uh, Many traditional payment companies, you mentioned Stripe, but also the banks, they were developing their own payment solutions and their own stablecoin solutions. There's also the term of tokenized deposits floating around, which is also a little bit similar to stablecoins, admittedly.
01:20:29
Speaker
And we have obviously the stablecoin market dominated by Zanji 2 companies, Tether and Circle. Now, I don't quite see it that they that that the market will converge to a monopoly. I rather take the opposite approach that maybe over time people realize that stablecoin provision might not all be that challenging and maybe the profits might not be all that large, especially if you set up a stablecoin under the genius act. So people are citing that Tether is very profitable, but what we shouldn't forget, Tether is also profitable because they
01:21:01
Speaker
experienced a large windfall on their reserve assets, some bitcoins and some gold, which last year did pretty well and led Tether to have earnings from about $12 billion and a dividend period of $10 billion. dollars So I don't know whether the stablecoin issuance is so profitable if you just do it by government, and short-term government debt, especially if the interest rate is going down and so on.
01:21:24
Speaker
So I don't quite see it that maybe this market is so profitable. And I also don't see it converging to like a single provided... dominating everything. I think there will be interoperability and traditional payment firms will provide their own stablecoin based solutions. It could be a very frequented market with interoperable solutions and there is no single entity capturing the entire market. That's how I see That's my guess. But it could be the other way around as well.
01:21:50
Speaker
i mean, future will show. I don't know. Happy to be here. I'd like to hear Will's view on this or too. So the one thing I want to one have to be careful about, which is, yes, I think you're right. The stablecoin business at some point will not be very profitable, especially once they start paying actually interest on stablecoin holdings. right um I do think, though, that the the key part about what Stripe and what Circle are trying to do is not so much to make more money on stablecoins, but actually to be the infrastructure provider.
01:22:20
Speaker
And I think that is this is how you actually get the rents, right? Because if you're the only one the only game in town and because of the network effects, again, with money money has network effects, right? So then I think this is how you get them.
01:22:31
Speaker
This is how they get you. yeah well What do you think? yeah I'd like to put this deal in that framework of you know market side and the regulatory side.
01:22:43
Speaker
I still think it's going to be quite effective. Just let the invisible hands do their work. um Basically, one stripe is problematic, one circle is problematic, but if there are many circles, many tethers, many stripes, um competition would help in terms of reducing reducing this.
01:23:07
Speaker
but But again, we go back to the same challenge, right? Network effect, the data accumulation. And that's where regulatory side can be helpful, right requiring them to be transparent, to be open blockchains.
01:23:21
Speaker
right That would encourage entrants to come in. But in the end, I do think, at least as economists, I think you would agree with me. um fully decentralized system or fully centralized system are likely to be the optimal solution.
01:23:39
Speaker
The solution tend to be interior. So if we can combine some good elements, right, from regulation, from rating systems, from reputation building with a fully decentralized, you know, protocol or service provision entrant set up.
01:23:58
Speaker
Maybe that's going to work better. And overall, I think that's where we are heading into. If you think about how For example, stablecoins are essentially ah bringing you know connecting the Web3 community and traditional finance community, right?
01:24:18
Speaker
And the rw a is moving traditional assets on-chain. It's just a form of digitization in that sense. but They're not replacing... one another. They they are sort of getting integrated. um There's got to be a mix of you know centralized elements and decentralized elements.
01:24:37
Speaker
ah And if we understand the economics, if we can make suggestions on the design, that would be very helpful. And again, I don't think it's a technical issue.
01:24:49
Speaker
It's an economic question. How do we combine these elements to provide the right incentives? I think this is a very good way maybe to conclude our podcast. um Simon and Will, thank you so much for your insights. I hope our audience finds this equally useful as I. I always come out of these podcasts having learned a great deal.
Conclusion and Additional Resources
01:25:08
Speaker
So thank you for this. And again, congratulations on getting your paper into the JFE.
01:25:15
Speaker
We hope you enjoyed this podcast. Thank you for listening. As a reminder, you can find additional materials on OwlExplains.com and can stay updated by following us on social media. That's all for today.