As the Biden administration anticipates passing the Infrastructure Bill, some of its intended consequences bring cryptocurrency into focus. Here’s how. Among the funding strategies for the trillion-dollar spend, the bill provides for “digital assets”, with the Joint Committee on Taxation (responsible for tax insights on a range of issues) anticipating just under 28 billion USD in revenue will result from taxing digital assets over the next ten years.
What are digital assets?
..any digital representation of value which is recorded on a cryptographically secured distributed ledger or any similar technology as specified by the Secretary.
Whether inspired by economic need or opportunity, the reality is that this bill brings cryptocurrency into the regulatory fold. And that’s a significant milestone. At the least, it’s an official acknowledgement of cryptocurrency. But what happens in the world’s largest economy tends to reverberate profoundly outside it. This acknowledgement could be a precursor to more.
So Far
It would be presumptuous to speak with any certainty on what crypto normalcy would look and feel like. These are uncharted waters. But if we assume that the cryptoverse will not entirely displace the current financial system but rather plug into it, we can reasonably anticipate where frictions might present.
One such friction has been around the coin stability – or the lack thereof. Because stability is a key to why people trust the current financial system, extreme volatility (a feature of cryptocurrencies) sends the opposite message. As a result, anyone who is not keen on speculating has stayed away from it. That’s most people.
And the proponents of crypto have taken note, responding with stablecoins. These are coins with their values pegged to other assets like fiat currency or a commodity. If stablecoins become widespread, the cryptocurrency proposition changes entirely. People who want to transact, not speculate, will see themselves represented in this new ecosystem. The idea of stablecoins has garnered interest from key players in the fintech space.
Mastercard, for example, is clearly welcoming of stablecoins. In an article posted on their site earlier this year, the digital payments giant stated:
We are preparing right now for the future of crypto and payments, announcing that this year Mastercard will start supporting select cryptocurrencies directly on our network.
Another leading digital payments provider, VISA, has also shown much interest in stablecoins. The eagerness is evident in their digital currency white paper.
But all the interest, intent and innovation from fintech services providers fail to move the needle on coin adoption for one key reason: these solutions layer on top of the current financial system, the banking system. And the banks are not ready yet. This has a lot to do with the regulatory environment banks operate in, another source of friction that cryptocurrency has to navigate to gain mass adoption.
Banks provide safekeeping for deposits. They also extend loans up to a maximum fraction of deposits held, creating money in the process. For cryptocurrencies to gain widespread adoption, the regulatory framework needs to evolve to a point where coins are recognised as deposits. This would mean that banks can extend loans based on their combined holdings of cryptocurrencies and fiat currency. A massive leap indeed.
It will take some time, but the momentum is at its highest yet. Last year, the Office of the Controller of Currency, an independent bureau of the US Department of the Treasury that provides regulatory oversight in the banking sector, issued a statement allowing banks to hold cryptocurrencies for their customers, much like deposits. At the moment, US banks can only hold coins for their customers, nothing more. But they have no reason to do so just yet. Since these coins are not legal tender, banks cannot issue out loans backed (wholly or partly) by cryptocurrency.
So what would it take to make coins legal tender? For one, central banks would need to be on board with it. Unlike commercial banks, central banks have a public interest mandate. If they run with this idea, they would be interested in stable coins that allow the economy to run smoothly. They would also want to regulate the supply of these coins. In essence, these would be stablecoins backed by fiat currencies and controlled by the central banks. The idea is not without precedent. October 2020 saw the Bahamas launch the world’s first central-bank digital currency (CBDC). The conversation about sovereign digital currency has since taken on renewed fervour.
CBDCs will likely be the gateway into a new era in how we move value digitally.
Lingering Issues
The cryptoverse itself still needs to evolve before it can fully cater to real-world needs. There are issues around a fixed supply of coins. This is like having a situation where the central bank does not print new money and all the physical currency in circulation remained unchanged.
Another bottleneck is the transaction volume the system can handle, a small fraction compared to the current digital payments system.
Both of these limitations result from the computationally intensive process of validating/mining cryptocurrency transactions, a concern that has sparked debate on the climate implications of adopting coins.
Improvements are needed here as supply would have to scale with real-world needs sustainably.
A final, more elemental question mark has to do with the need for cryptocurrencies. The arguments for it centre on privacy and enabling peer-to-peer transactions without institutional interference. On privacy, the finance realm is one of several exposure sites. Solving it here would only partially reduce the individual’s overall risk. And on limiting institutional involvement, it’s interesting to note that institutions (central banks specifically) are proving to be the most significant players in making coin adoption the norm.
Summary
The cryptocurrency movement has come a long way since its debut. It introduced several ideas around how we engage with finance themes. Coins may indeed become the norm in a few years. Remarkably, if this happens, it won’t be for reasons that have made the highlight reel – outsized profits from speculative trading – but rather because institutions, the very establishment which the intervention was meant to exclude, have given it their approval. And that’s quite a turnaround.
