The threat and the promise of digital money

Cryptocurrencies look overhyped, the new payment platforms useful and Libra worrying

Martin Wolf

Digital Currency Shredder
© James Ferguson

What is the future of money in a digital age? This was the subject of an event at the Peterson Institute for International Economics last week.

This seminar was the intellectual high point of my time at the annual meetings of the IMF and World Bank in Washington. The first answer to that big question is: “It is complicated.” The second is: “It is really important” — especially since Facebook’s Libra project.

This new idea has forced policymakers to think hard — and rightly so. Money is too important to be left to the private sector alone. Like the law, it is a foundational public good. The state has always had oversight over money and must continue to do so. Lael Brainard, a governor of the US Federal Reserve, made clear that it will, in an excellent speech at the event. But the Fed is not the only regulator to be thinking about these new players in the monetary system.

How should they do so? In the panel I moderated, Hyun Song Shin of the Bank for International Settlements made a distinction between the “architecture” of the monetary system and the “technology” that enables it. Today’s monetary system offers an example. The bulk of the money we use is the byproduct of lending by private institutions (banks).

Accordingly, our money mostly consists of the transferable debts of banks to account holders. A century ago, the accounts were on paper. Now, they are on electronic registers. But the architecture has not changed.

Chart showing Bitcoin is too volatile to be a reliable store of value

So, is what we are now seeing a change in the architecture or merely in the technology? To answer this question, it is useful to recall the three functions of money: unit of account, store of value and means of payment. Today, the unit of account is established by the state, but the store of value and payments systems are mostly provided by banks. In this context, consider three forms of digital money: cryptocurrencies; established digital payment systems, such as Alibaba’s Alipay; and Facebook’s Libra.

Cryptocurrencies offer new units of account, stores of value and means of payment. Thus, they also offer a new architecture for creation and use of money. But it is a lousy architecture. As Ms Brainard put it in her speech: “Early iterations of cryptocurrencies have exhibited extreme volatility, limited throughput capacity, unpredictable transaction costs, limited or no governance, and limited transparency.” They are an anarchistic fantasy.

barchart showing Bitcoin is not taking off as a means of payment

The new payment systems are, however, both real and large. According to Ms Brainard, “in China, consumers and businesses participate in two mobile networks, Alipay and WeChat Pay, which by some accounts handled more than $37tn in mobile payments last year”. At the very least, these systems transfer retail payments to new players. But, as an important paper by Markus Brunnermeier and Harold James (both of Princeton) and Jean-Pierre Landau (of Sciences Po), argues, digital payment systems also potentially create rival ecosystems, with payments linked to data networks, with banking and asset management as subordinate functions.

Flow chart showing How payment platforms could change banking

Yet, while these systems change how retail payments are made, their implications for the monetary system must be kept in proportion. These providers use bank or central bank deposits as stores of value.

Moreover, the payments balances of Alipay and WeChat only amount to about 2 per cent of bank deposits in China. Above all, wholesale payments dwarf retail payments. Given intraday fluctuations and scale, wholesale markets depend on intraday credit from the central bank.

They cannot operate on a “cash in advance” basis.

Libra, however, promises a new global payment system supported by a “stablecoin” backed in a non-transparent manner by assets denominated in national currencies. This raises a host of issues: money laundering; financing of crime and terrorism; consumer protection; the effect on monetary policy and stability; impact on the banking system; and effectiveness of global regulation. “Move fast and break things” is the last motto the world needs in finance. Moreover, Facebook has not proved itself worthy of trust, to put it mildly.

stack bar chart showing wholesale payments as a percentage of annual GDP dwarf retail payments

Where does this leave governments, central banks and regulators? Watchful, one hopes. But they also need to recognise new opportunities for faster and cheaper payments, particularly cross-border, and greater financial inclusion.

So far, however, cryptocurrencies are overhyped, the new payment platforms useful and Libra worrying.

Yet, in this new digital world, central banks also need to ask themselves whether and how to create their own digital money. This should not just be to replace increasingly outmoded paper cash (now a 1,000-year-old technology), but also to compete with commercial bank deposits. Just as the internet has ended up as more of a source of enhanced government control than one of greater freedom, as libertarians hoped two decades ago, so the revolution in digital money might allow the central bank to replace the liabilities of private banks with its own. In this way, the seignorage from money creation, now enjoyed by private banking, would be transferred back to taxpayers. The Fed does not intend to pursue this path. But Sweden is thinking of doing so, as Stefan Ingves, governor of the Riksbank, stated at the Peterson Institute seminar. Others may follow.

chart showing Intra-day Fed lending is vital for wholesale payments

Some of the new ideas may prove far less revolutionary than many hoped. Some may be rejected outright. But others look far more valuable, especially that of central bank digital currency.

That could transform today’s monetary systems, which might turn out to be a really good thing. Let digital technologies fuel experimentation, cautiously.

Google Claims a Quantum Breakthrough That Could Change Computing

By Cade Metz

Google’s quantum computer. The company said in a paper published on Wednesday that the machine needed only a few minutes to perform a task that would take a supercomputer at least 10,000 years.CreditGoogle

SANTA BARBARA, Calif. — Google said on Wednesday that it had achieved a long-sought breakthrough called “quantum supremacy,” which could allow new kinds of computers to do calculations at speeds that are inconceivable with today’s technology.

The Silicon Valley giant’s research lab in Santa Barbara, Calif., reached a milestone that scientists had been working toward since the 1980s: Its quantum computer performed a task that isn’t possible with traditional computers, according to a paper published in the science journal Nature.

A quantum machine could one day drive big advances in areas like artificial intelligence and make even the most powerful supercomputers look like toys. The Google device did in 3 minutes 20 seconds a mathematical calculation that supercomputers could not complete in under 10,000 years, the company said in its paper.

Scientists likened Google’s announcement to the Wright brothers’ first plane flight in 1903 — proof that something is really possible even though it may be years before it can fulfill its potential.

“The original Wright flyer was not a useful airplane,” said Scott Aaronson, a computer scientist at the University of Texas at Austin who reviewed Google’s paper before publication. “But it was designed to prove a point. And it proved the point.”

Still, some researchers cautioned against getting too excited about Google’s achievement since so much more work needs to be done before quantum computers can migrate out of the research lab. Right now, a single quantum machine costs millions of dollars to build.

Many of the tech industry’s biggest names, including Microsoft, Intel and IBM as well as Google, are jockeying for a position in quantum computing. And venture capitalists have invested more than $450 million into start-ups exploring the technology, according to a recent study.

China is spending $400 million on a national quantum lab and has filed almost twice as many quantum patents as the United States in recent years. The Trump administration followed suit this year with its own National Quantum Initiative, promising to spend $1.2 billion on quantum research, including computers.
A quantum machine, the result of more than a century’s worth of research into a type of physics called quantum mechanics, operates in a completely different manner from regular computers. It relies on the mind-bending ways some objects act at the subatomic level or when exposed to extreme cold, like the metal chilled to nearly 460 degrees below zero inside Google’s machine.

One day, researchers believe, these devices could power advances in artificial intelligence or easily overwhelm the encryption that protects computers vital to national security. Because of that, the governments of the United States and China consider quantum computing a national security priority.

[Quantum computing, one of the “jazziest and most mysterious concepts” in science, has struggled to come of age.]

But first, scientists must prove such a machine can become more than a project that hints at what could eventually be possible.

Traditional computers perform calculations by processing “bits” of information, with each bit holding either a 1 or a 0. That has been the case for decades.

Understanding how a quantum computer is different requires a philosophical leap: accepting the notion that a single object can behave like two separate objects at the same time when it is either extremely small or extremely cold.

By harnessing that odd behavior, scientists can instead build a quantum bit, or qubit, which stores a combination of 1 and 0. Two qubits can hold four values at once. And as the number of qubits grows, a quantum computer becomes exponentially more powerful.

Scientists first described the idea in the 1980s, but qubits are fragile. Stringing even a few together can involve years of work. For the past several decades, labs in academia, industry and government have worked on quantum computing through a wide variety of techniques, including systems built around particles of light or electromagnetic fields that trap tiny charged particles.

About 20 years ago, researchers in Japan pioneered “superconducting qubits,” for which certain metals are chilled to extremely low temperatures.

This method has shown particular promise, sparking projects at IBM, Google and Intel. Their machines look nothing like a regular computer. They are large cylinders of metal and twisted wires that are dropped into stainless steel refrigerators. You send information to the machine, as you would to a traditional computer chip, and receive calculations in return.

“We have built a new kind of computer based on some of the unusual capabilities of quantum mechanics,” said John Martinis, who oversaw the team that managed the hardware for Google’s quantum supremacy experiment. Noting the computational power, he added, “We are now at the stage of trying to make use of that power.”

Google’s paper became a bit of an internet mystery after it was published and then quickly unpublished online in late September. That brief appearance was enough to raise the hackles of researchers at competing companies who believe the Silicon Valley giant is inflating its accomplishment.

On Monday, IBM fired a pre-emptive shot with a blog post disputing Google’s claim that its quantum calculation could not be performed by a traditional computer. The calculation, IBM argued, could theoretically be run on a current computer in less than two and a half days — not 10,000 years.

“This is not about final and absolute dominance over classical computers,” said Dario Gil, who heads the IBM research lab in Yorktown Heights, N.Y., where the company is building its own quantum computers.

Other researchers dismissed the milestone because the calculation was notably esoteric. It generated random numbers using a quantum experiment that can’t necessarily be applied to other things.

Though IBM disputed that Google had really accomplished all that much, Dr. Gil argued that quantum computers were indeed getting closer to reality. “By 2020, we will be able to use them for commercial and scientific advantage,” he said.

Like much of the cutting-edge work being done in corporate research labs, Google’s quantum effort has its roots in academia. In 2014, Google hired a team of physicists who had spent the previous several years working on quantum computing at the University of California, Santa Barbara.

As its paper was published, Google responded to IBM’s claims that its quantum calculation could be performed on a classical computer. “We’ve already peeled away from classical computers, onto a totally different trajectory,” a Google spokesman said in a statement. “We welcome proposals to advance simulation techniques, though it’s crucial to test them on an actual supercomputer, as we have.”

The calculation performed by Google’s machine is a way of showing that a complex quantum system can be reliable. The company also believes the random numbers it generates could have practical uses.

As the machines get better over time, they could help improve cryptography, or even aid in the creation of new medicines or materials, said Daniel Lidar, a professor at the University of Southern California who specializes in quantum computing.

“This would be a big deal,” he said. “It has applications in many different places.”

Dr. Lidar said he expected that other scientists would try to disprove Google’s claims. But some see a broader benefit to all researchers working on this near-mythical device.

“Google’s result is a major achievement not just for Google but also for the broader scientific community,” said Chad Rigetti, who worked on IBM’s quantum computing project and now runs his own start-up. (Mr. Rigetti’s wife is an editor for the Opinion section of The New York Times.)

“It is just a short amount of time now before we have commercially relevant problems that quantum machines can solve,” he said.

How a Weaponized Dollar Could Backfire

United States foreign policy under President Donald Trump continues to run counter to America’s traditional post-war objectives. Should the US carelessly relinquish leadership of the global multilateral order, the dollar might eventually lose its own long-standing primacy.

Jeffrey Frankel


CAMBRIDGE – The language of international monetary policy has turned militaristic. The phrase “currency war” has now been popular for a decade, and the United States government’s more recent “weaponization” of the dollar is generating controversy. But ironically, a martial approach could end up threatening the US currency’s global dominance.

This is a good time to gauge the relative strengths of the dollar and rival international currencies (meaning currencies that are used outside their home countries). In September, the Bank for International Settlements released its triennial survey of turnover in global foreign-exchange markets.

The International Monetary Fund’s statistics on central-bank holdings of foreign-exchange reserves have become much more reliable since China began reporting its holdings. And the SWIFT payments system issues monthly data on the use of major currencies in international transactions.

The bottom line is that the US dollar remains in first place by a wide margin, followed by the euro, the yen, and the pound sterling. Some 47% of global payments currently are in dollars, compared to 31% in euros. Furthermore, 88% of foreign-exchange trading involves the dollar, almost three times the euro’s share (32%). And central banks hold 62% of their reserves in dollars, compared to just 20% in euros. The dollar also dominates on other measures of currency use in trade and finance.

As for China, the renminbi is still in eighth place in terms of foreign-exchange market turnover.

But it rose in August to fifth place in SWIFT payments, and, after leapfrogging the Canadian and Australian dollars, ranks fifth in central banks’ foreign-exchange reserves.

Predictions early in this decade that the renminbi might challenge the dollar for the number one spot by 2020 clearly will not be borne out. True, China’s currency fulfills two of the three necessary conditions to be a leading international currency, namely economic size and the ability to keep its value. But it still has not met the third: deep, open, and liquid financial markets.

Although the dollar’s share of foreign-exchange reserves and trading has trended downward, particularly since the turn of the century, the decline has been slow and gradual. Moreover, the euro’s share of reserves has fallen more rapidly (since 2007) than that of the dollar. Despite years of US fiscal and current-account deficits, and the country’s rising debt-to-GDP ratio, the dollar remains ensconced as the number one global currency – presumably owing to the lack of a good alternative.

Descriptions of exchange-rate policies have become increasingly extreme. If we took the three militaristic terms in vogue at face value, we might infer that a country with sufficient financial power first weaponizes its own currency, and then launches a speculative attack against that of a rival. If that elicits retaliation, a currency war has broken out.

However, such an interpretation would be nonsense, because these three military terms are inconsistent with each other in a currency context. To see why, let’s consider them in reverse order: first currency wars, then attacks, and weaponization last.

When Brazilian government ministers popularized the phrase “currency war” in 2010-2011, they were accusing the US and other countries of pursuing competitive depreciation. G7 finance ministers and central-bank governors subsequently pledged in 2013 not to target exchange rates, which was understood to include officials either “talking down their currencies” or pursuing monetary stimulus in a deliberate or explicit effort to depreciate them.

The one major country to have violated this 2013 agreement is not China, but the US. President Donald Trump has repeatedly engaged in “verbal intervention” to talk down the dollar. More worryingly, he has crudely pressured the US Federal Reserve to lower interest rates with the explicit objective of depreciating the currency.

By contrast, international relations specialists typically associate the exercise of geopolitical power with a strong currency. This is why some highlight the danger that China could “attack” America by dumping its vast stockpile of US treasury securities, thereby driving down the dollar and driving up the US government’s borrowing costs. That would work to appreciate the renminbi and thus would be the opposite of competitive depreciation.

More broadly, when a country runs chronic budget and current-account deficits, it undermines its geopolitical power – as the United Kingdom showed in the course of the twentieth century.

The US inherited the UK’s “exorbitant privilege”: it can finance its deficits easily because other countries want to hold the world’s leading international currency.

Finally, the “weaponization” of the dollar generally refers to the US government’s exploitation of the currency’s global dominance in order to extend the extraterritorial reach of US law and policy. The most salient example is the Trump administration’s enforcement of economic sanctions against Iran in an attempt to shut the country out of the international banking system, and in particular SWIFT.

Even before Iran agreed to halt its nuclear weapons program under the 2015 nuclear deal, Europeans occasionally grumbled about US extraterritoriality, suspecting that the US might be quicker to impose large penalties on European banks than on their American peers for violating sanctions. But, because Trump abrogated a treaty that Iran was not violating, enforcing US sanctions via SWIFT is a real abuse of the exorbitant privilege. Arguably, it can no longer be justified in the name of a global public good.

Faced with US sanctions, Russia shifted its reserves out of dollars in 2018 and is selling its oil in non-dollar currencies. Likewise, Europe or China may succeed in developing alternative payment mechanisms that would allow Iran to sell some of its oil. That might in turn undermine the dollar’s role in the long run.

More generally, US foreign policy under Trump continues to run counter to America’s traditional post-war objectives. The prospect might seem a distant one, but should the US carelessly relinquish leadership of the global multilateral order, the dollar might eventually lose its own long-standing primacy.

Jeffrey Frankel, Professor of Capital Formation and Growth at Harvard University, previously served as a member of President Bill Clinton’s Council of Economic Advisers. He is a research associate at the US National Bureau of Economic Research, where he is a member of the Business Cycle Dating Committee, the official US arbiter of recession and recovery.

Chinese Concepts of A2/AD

How have Chinese anti-access/area denial capabilities changed over time?

By Jacek Bartosiak

Chinese conceptualization of its anti-access/area denial, or A2/AD, capabilities can be traced back to the 1990s, a time when the post-Cold War international system was being formed and new conflicts and crises emerged that attracted the attention of Chinese strategists and planners.

The collapse of the Soviet Union removed the key security question for China that had been emanating from Eurasia. It also threatened to undermine the implicit U.S.-China alliance, rooted in the geopolitics of Richard Nixon and Henry Kissinger’s time.

Alarm Bells Ring in Beijing

The defeat of Saddam Hussein in 1991 – particularly the manner in which the seemingly formidable Iraqi army was routed – rang alarm bells in Beijing. The Chinese saw that, in the new world order, the Americans were able to unilaterally (or with a coalition of the willing) conduct military operations against an enemy with considerable military forces far away from the continental U.S.

The conflict revealed the United States’ military dominance in all combat domains. It demonstrated that new technologies would play a decisive role in future conflicts. The Chinese believed, therefore, that they needed to prepare for “local wars under high-technology conditions.”

This coincided with the emergence in the U.S. of a concept called Revolution in Military Affairs propagated by the Pentagon’s Office of Net Assessment and foreign policy strategist Andrew Marshall.

In March 1996, after months of rising tensions, China launched several unarmed ballistic missiles into the waters off the coast of Taiwan.

This was a show of force aimed at Taipei, where a debate was raging over the question of independence.

The United States responded by sending two aircraft carrier battle groups into the Taiwan Strait.

This crisis was resolved peacefully, but ever since, the Americans and the Chinese have had to consider the possibility of armed conflict in the littoral waters of the Western Pacific.

(click to enlarge)

The crisis motivated the Chinese to work on a set of operational tasks, the purpose of which would be to prevent American power projection around Taiwan and across the littorals of the Western Pacific.

Decisions made in China on military procurement, research and development have reflected this objective ever since.

Preparations for War

The war in Kosovo in 1999 only validated China’s fears relating to America’s military power, and a few years later, the Americans made further advances in military technology in Iraq.

These two conflicts cemented the conviction among Chinese analysts that peace and growth in international affairs were far from guaranteed.

China was then forced to start preparations for war with the United States. At the turn of the century, military theorists and planners reached a consensus on what a Chinese operational concept ought to look like.

It seemed as if the Americans were on the way to developing what Soviet military theorists had dubbed the reconnaissance-strike complex, or RSC, in the early 1980s.

To counter these capabilities, the Chinese would have to develop their own RSC, only with Chinese characteristics.

RSC was designed to locate the enemy, its weapons systems and other martial assets and enablers and to neutralize them by using non-kinetic weapons (cyber-attacks and electromagnetic impulse) as well as long-range precision kinetic strikes. RSC would paralyze the enemy and prevent any further strikes being launched.

The Chinese believed they would have to face an opponent that was better armed but that technology would not play a decisive role. Indeed, the Chinese thought that they would be aided by “geopolitical, diplomatic advantages, geography and logistical conditions,” according to Chinese military publications.

The Chinese also understood that the Americans would have to try to project power over the vast Pacific Ocean, which would time-consuming and expensive and be fundamentally dependent on access to allied bases and ports in the region.

Even with the support of allies, the United States’ forces would be operating with enormously extended lines of communication and logistics.

According to the Chinese, some contentious issues such as Taiwan would not be as essential to U.S. security as they would be to China’s. This was deemed the American weakness to exploit.

The assessment of military capabilities, technological trends, geographical constants and geopolitical conditions led to four operational demands that were set for China’s People’s Liberation Army: information and informatic dominance resulting from a victory in a modern scouting battle (battle for situational awareness); the achievement of precise strike capabilities, including those aimed at the enemy’s situational awareness systems; strengthening its own defensive capabilities; and developing pre-emptive strike capabilities.

Without mentioning the A2/AD concept, Chinese military literature since then has described operations and tactics that closely resemble A2/AD. The phrase used by the Chinese instead of A2/AD is Active Strategic Counterattacks on Exterior Lines.

The thinking behind ASCEL was laid out in a 2001 article by Gen. Peng Guangqian, an experienced theoretician at China’s Academy of Military Science, and was incorporated that same year into “Knowledge of Military Strategy,” the Academy of Military Science’s guiding handbook.

ASCEL suggests that China’s objective will be to strike “pre-emptively, deep and hard” at the oncoming enemy. Chinese strategists claim that the first shot in a war is not the same at the political-strategic level as it is at the tactical. Once its sovereignty has been violated – which could involve political support for separatists and other “secessionists” – a country is entitled to a pre-emptive strike at a tactical level.

ASCEL dictates that China would try to launch a pre-emptive strike at the greatest possible distance, rather than waiting passively for the Americans to strike from their sanctuaries. In the age of modern scouting battle, the Chinese must establish a defensive line or perimeter as far away as possible.

The targets are the enemy’s combat systems but also bases and other assets necessary for the enemy to conduct operations and sustain logistics. Although China has not publicly indicated what is to be understood as “exterior lines,” other sources suggest that they refer to the first island chain in the Western Pacific.

(click to enlarge)

Chinese military expenditures were allotted primarily in accordance with principles corresponding to the ASCEL concept.

For example, China is said to have had 100 military and observation satellites tracking enemy targets. At the same time, new kinds of unmanned aerial vehicles and radars monitoring space over the horizon are entering service at a rapid pace.

Together, these elements enable all data to be linked into one combat situational awareness picture, facilitating the conduct of a modern scouting battle and the targeting and even destruction of locations at very long range.

Over the past decade, much progress has been made in this last field, and new capabilities permit commanders to make decisions in real or near real time and shorten the time needed to carry them out, which is an immeasurably vital element of A2/AD.

Along with long-distance recognition capabilities, China also has the ability to destroy bases belonging to the United States and its allies as far as northeastern Japan and even the island of Guam. In case of a U.S. attack,

China also has significant defensive capabilities in the form of disrupting the enemy’s systems, combatting the United States’ military and observation satellites, cyberwarfare, electromagnetic countermeasures and kinetic defense against aircraft and missiles trying to penetrate China’s air defenses.

To this end, China has modernized its air defense system by introducing its own airborne warning and control system and creating an integrated air defense system.

According to recent reports, devices have been developed that have the capability, under certain conditions, to detect even stealth aircraft. At the same time, realizing that some aircraft and missiles will penetrate air defenses,

China has made huge outlays on passive defensive resources, such as underground bunkers, caves and underground tunnels for command centers to disperse the most valuable combat and observation systems.

Key U.S. Challenges

All of this combines to pose four connected operational challenges for the United States.

First, the dynamic development of Chinese A2/AD capabilities significantly raises the level of risk to American power projection in the Asian littorals; aircraft carriers could be sunk and bases in the region destroyed. Second, that China has such A2/AD capabilities in itself raises doubts among U.S. allies about the credibility of American guarantees, which might undermine the durability of their alliance with the United States.

A credible military strategy, based on the concept of operational capabilities through which the strategy can be implemented, is essential for reassuring allies and deterring the opponent.

America’s allies are already considering whether bases in the region are capable of surviving a Chinese attack and whether the United States is prepared to come to their aid in the event of a conflict with China.

A negative answer to these questions may lead to a reassessment of the policies of these countries and a possible reorientation to a more pro-Chinese stance. In a strategic sense, Beijing, by strengthening its A2/AD capabilities, is already creating a divergence of interests (known as decoupling) between the United States and its allies.

The third challenge is that the United States has found itself on the wrong side of a costly confrontation. China has achieved its goals, eliminating America’s power projection capabilities with the use of relatively inexpensive systems, while the United States attempts to maintain those capabilities at much a higher cost, trying at the same time to cut expenditures and find a more competitive method.

It is possible that China's asymmetrical plan could make the U.S., in the long term, fail to find a solution to the problem, which might compel the United States to “surrender” the Western Pacific because of its inability to finance the maintenance of the balance of power structure.

The fourth challenge is that the Chinese development and effectiveness of A2/AD capabilities has continued to increase, as proved by maneuvers and exercises already carried out by the Chinese.

The sense of power among the leaders in Beijing is growing. This could evolve into an armed conflict as a result of a misjudgement of a developing situation, a misperception of the intentions, capabilities, interests and viewpoint of the opponent, or an accident.

Ultimately, developments over the past couple of years may signal that Chinese A2/AD could inflict real pain on U.S. contingency plans for the Western Pacific.