Even if you are a sceptic about digital currencies, you may still be using one before long – millions already are, and nearly all governments are planning an official digital currency. This article outlines the reasons for this inexorable rise
What is a currency? Essentially, it is a medium of exchange. Early trade was in the form of barter: You may exchange wheat for goats, for example. With the rise of ancient civilisations there was the development of metal coins, which were a widely recognised medium of exchange and as such possessed value and they became widely used. The fall of the Roman Empire as a political entity in the fifth century was linked to the gradual debasement of its coins in preceding centuries and the ultimate collapse in its value.
In 1971, when the dollar was taken off the gold standard by the Nixon administration, the world’s currencies became unmoored from tangible assets. They consequently became fiat currencies, fiat being the Latin for ‘let it be done’, and they are issued by a national central bank. With the spread of computerisation from the 1960s onwards, more and more transactions have involved no paper or coins. In more recent years autonomous digital currencies have been established, designed to enable transactions directly from device to device, without an intermediary such as a bank.
The differences between digital currencies and conventional currencies are less than one may think. More than 90% of financial transactions now take place electronically. It would be a strange request if you were to go into a branch of your bank and ask to see the pile of cash, or equivalent in gold, that represent the $x,000 in your savings account. You take it on trust that you can use the balance you see on your online account to purchase goods and services, and that the bank’s system will arrange this. A digital wallet, showing your account balance of digital currency on a smartphone, is similar. At a technological level, the unit of a digital currency is coding, typically a distributed ledger operated by the provider.
There are three types of digital currency: Cryptocurrencies such as Bitcoin, which are unregulated and which have attracted widespread publicity owing to the degree of speculation and in some cases fraud associated with their use, but which appear to be growing in use. The second category is a stablecoin, which is a form of digital currency pegged to a currency, commodity or financial instrument. The third category is a digital currency set up and controlled by a central bank, typically linked to the national currency at parity. Three nations – the Bahamas, Nigeria and Jamaica – have fully set up a digital currency, but in total 134 countries, representing 98% of global GDP, are exploring the option, according to the Atlantic Council.
SMS-based digital financial transactions, such as the M-PESA system popular in much of sub-Saharan Africa, are already widely used by people with a mobile phone but no bank account.
The main difference between digital currencies and digital transactions involving conventional currencies is that banks are not involved. So if the provider of goods or services accepts the digital currency, you can purchase directly from them. The transactions are in real-time – including for international transactions; the system operates 24/7, and there is no monitoring by a bank or government institution. This, of course, has plus sides and downsides. Cross-border payments are quicker, although the banking system is moving towards real-time transactions. There are no transaction fees, it is less bureaucratic than setting up a bank account, there are benefits for low-income people who are unbanked. When migrant workers remit money home, they face transaction fees of around 6.25%, according to the World Bank, whereas a digital currency money transfer costs nothing.
But of course the secrecy and lack of regulation means that unofficial digital currencies are used for illegal purposes, including by drug gangs and terrorist organisations. In Qatar, the use of cryptocurrencies or stablecoins is banned for this reason. Another problem with digital currencies is that there will not be an insurance scheme in the event of a security breach and theft from a wallet; with a conventional bank, your savings are typically guaranteed in the event of the bank suffering a cyber-attack.
It is likely, perhaps inevitable, that digital currencies will become an integrated part of the financial ecosystem. The speed and convenience of digital world extends to money, but as ever with new technology, there are risks as well as advantages, and a corresponding need for a regulatory response.
The author is a Qatari banker, with many years of experience in the banking sector in senior positions.
