China’s Digital Currency
VeradiVerdict - Issue #50
China will soon launch a digital currency (informally called DC/EP) supplied by its central bank and distributed through several major Chinese institutions including huge banks and tech companies, like Alibaba.
Though dubbed a “cryptocurrency,” many have doubts whether DC/EP truly is a cryptocurrency. Its release through the government and established institutions prevent it from being truly decentralized. Many also suspect the Chinese government will use the digital currency as a means to aggregate financial data about its population since it has purview over all the transactions, unlike the pseudonymity traditionally afforded with crypto.
DC/EP seems intended for widespread commercial use; Chinese banking executives clarify that the currency can and will be circulated as easily as cash. A future global release is also in the works in hopes of creating more avenues for more financial transactions between China and the rest of the world.
China’s centralized currency differs in many key ways from popular cryptocurrencies like BTC and ETH, but ultimately, its launch will reveal some key information about the feasibility of widespread adoption of digital currencies in industrializing nations. It may not have all the boxes checked, but it still represents a major step towards a digital model for finances.
What’s up with crypto in China?
Last week, news released stating that the People’s Republic of China intends to launch a government-backed cryptocurrency through the country’s central bank. At launch, the cryptocurrency will be issued to seven major Chinese financial institutions: the Industrial and Commercial Bank of China, the Bank of China, the Agricultural Bank of China, Alibaba, Tencent, and Union Pay; the government hopes to use these financial institutions as a vector to release the currency to the Chinese population.
Sources have briefly named the Chinese digital currency as DC/EP (digital currency/electronic payments). The news of DC/EP aptly coincides with ongoing trade tensions between China and U.S. that have drastically devalued China’s fiat currency, the renminbi (the Chinese Yuan), and right before China’s largest retail day––Singles Day on November 11.
What really is DC/EP?
Many crypto experts have notable doubts that China’s DC/EP is not truly a cryptocurrency––but rather a digital currency launching with the intention of stabilizing and appreciating China’s renminbi.
Cryptocurrency is literally defined as a digital asset that uses cryptography to power financial transactions, but since the onset of Bitcoin in 2010 and the growing market of cryptocurrencies, particularly in the West, it’s gained some other key defining characteristics. Critics of China’s “cryptocurrency” note how DC/EP fails to meet these requirements.
First, cryptocurrencies are generally decentralized. The currency itself is not released from one central organization but is rather processed on top of a protocol that is orchestrated by an organization. For example, with Ethereum, the Ethereum Foundation itself does not issue ETH or any value preserved in ETH, but rather supports the technological infrastructure necessary to allow individual users to hold and trade ETH.
China’s DC/EP protocol is being launched by China’s central bank––and being distributed through major established financial institutions in the country. These institutions not only have control over the infrastructure for the distribution and trade of DC/EP but are the agents that release the currency to the public. The supply of the currency is also not algorithmically controlled, as it is with Bitcoin, but rather under complete control of China’s central bank.
DC/EP is fundamentally centralized and tied to China’s government.
Second, cryptocurrency transactions are tracked pseudonymously and privately; one of the key values of blockchain protocols is that they aggressively encrypt user information to ensure that privacy is almost-perfectly maintained, and users have total control over their assets and public knowledge of their assets. China’s DC/EP is processed on a network fundamentally tied to the government, the central bank, and the financial institutions that distribute the currency. All these agents have access to the entire transaction history of DC/EP units, meaning that privacy is not maintained the same way for DC/EP as it is on more canonical cryptocurrencies like BTC or ETH.
Ultimately, the debate on whether China’s DC/EP is a true cryptocurrency is highly debatable. It is entirely digital and presumably runs on a protocol that depends on strong cryptographic encryption, but its centralized nature prevents it from fitting into the model with which most experts and enthusiasts view cryptocurrency. DC/EP is more of an analog for China’s renminbi than a decentralized financial system designed to give users more agency over assets and information. Many argue that the digital, not physical presence, of DC/EP is the only factor that truly qualifies the currency as a cryptocurrency.
Why go crypto?
Mu Changchun, head of the Paying Division at the People’s Bank of China, offered a public explanation for China’s intentions behind DC/EP at the China Finance 40 Forum. Digital currency is no new concept to China, especially in the wake of its rapid industrialization and technology growth; much of Chinese renminbi is stored digitally in accounts held by both Chinese nationals and banks. Mu clarified that DC/EP is not designed to replace the digital renminbi in these established accounts; rather, it’s more of a fast-moving, accessible vehicle to replace physical units of China’s currency that are still in market circulation.
By design, DC/EP seems intended for widespread commercial and retail use. Because DC/EP is centrally maintained, China’s protocol can handle 300,000 transactions per second––300-fold as much as Facebook’s digital currency in-development, Libra. Mu hopes that DC/EP can and will be circulated as easy as fiat; it’s created for mainstream users for day-to-day payments, not niche crypto communities.
China also eventually plans to release DC/EP globally, with hopes that it provides an additional channel for international trade with China. Global confidence in Chinese currency, however, has not been promising––particularly in recent months; US-Chinese trade tensions have driven the Chinese renminbi to its lowest value ever at 6.93 renminbi per USD in early August. Poor global confidence in China’s money market might throw a wrench in future Chinese globalist trade agendas with DC/EP.
China has been both an Asian and a global leader in blockchain infrastructures and cryptocurrencies; east Asia is one of the hottest markets for crypto innovation and trading. It’s no surprise that a widespread launch of a digital currency might occur in China before any other Western nation or financial superpower. China is also no stranger to digital finances––WePay (by WeChat) and AliPay (by Alibaba) are both mobile payments platforms with huge user bases in China.
Other key factors are at play, too. Namely, the centralized nature of DC/EP makes it significantly easier to launch, as it fits right into China’s standing financial system. DC/EP is supplied by the central bank and distributed through existing financial institutions––a model fairly parallel to how they regulate fiat currency, too. In the US, decentralized cryptocurrencies face resistance from the US Government and large banks which are not designed handle a decentralized financial infrastructure. Centralization reduces the barriers for widespread adoption, making it exceedingly easier for the Chinese government to orchestrate a successful launch and integrate it with existing institutions.
Many also theorize that DC/EP signals more aggressive Chinese surveillance of financial transactions. A centralized digital currency can literally be tracked to highly specific accounts, users, and payments. Some suspect that widespread adoption of DC/EP provides an added incentive for the Chinese government to spy on the people’s transactions and aggregate more financial data. Ironically, many of these suspicions parallel concerns raised with Facebook’s Libra; Facebook is notorious for aggressively harvesting user data, and Libra may be little more than a vehicle to aggregate financial information.
Ultimately, China’s new digital currency is not a cryptocurrency in the way that it’s conventionally conceived. DC/EP is a centralized currency issued in digital form, not a decentralized financial asset designed to uphold user ownership and privacy over their finances.
Still, the eventual launch of DC/EP and the financial aftermath might reveal some key signals about digital and decentralized currencies, particularly in East Asia; if China is able to successfully drive widespread adoption of DC/EP, it might serve as an effective starting model for other institutions and governments looking to move towards a more digital financial system. Issues with the protocol’s centralization might also drive key developments in decentralized infrastructures for finances.
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Hi, I’m Paul Veradittakit, a Partner at Pantera Capital, one of the oldest and largest institutional investors focused on investing into blockchain companies and cryptocurrencies. The firm invests in equity, pre-sales/IEO rounds, and cryptocurrencies on the secondary markets. I focus on early-stage investments and share my thoughts on what’s going on in the industry in this weekly newsletter.
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