Have Virtual Currencies Virtually Arrived?

By Craig Colgan

The hopes of some and the fears of others surrounding much greater acceptance and overall presence for virtual currency just got much more real. What seemed an interesting but distant and even indulgent notion a decade ago is racing to reality.

Hear what bankers need to know about virtual currencies on an ABA webinar recording. Listen now.
As central banks join research firms, global conferences and financial pundits in churning out commentaries, surveys, discussions, papers and pilot studies on the topic, major change is brewing. In April, China’s central bank launched “internal trials” for a digital version of China’s national currency, the yuan. This project would be the first major global currency to fully digitize. The central bank of Sweden began testing toward implementation of its central bank digital currency for its e-krona earlier in 2020.

Federal Reserve Governor Lael Brainard told a conference in February that the Fed is “conducting research and experimentation related to distributed ledger technologies and their potential use case for digital currencies, including the potential for a CBDC.” Facebook’s intentions to develop its own digital currency called Libra may have nudged the Fed’s thinking on the issue.

Supporters of digital currencies point to fluctuation and risk with the current dollar-dominant system, and are driving acceptance of a digital currency backed by multiple nations, or even multiple currencies, competing with the dollar.

They point to benefits that go beyond faster and cheaper money transfers across borders. A survey by the International Monetary Fund found that central banks are looking at benefits including lower costs, more efficient monetary policy, blunting competition from private exchanges such as bitcoin and others, and offering a risk-free payment network to the public.

Recent data show that operators of the vast majority of global businesses believe blockchain solutions are broadly scalable and will achieve mainstream adoption, says John Roth, a former inspector general for Department of Homeland Security, and currently chief compliance officer at Bittrex. The blockchain concept and its distributed ledger make up the data-moving structure behind virtual currencies.

During a recent ABA webinar on the state of virtual currencies, Roth noted that the China and Facebook plans have changed the game. “This is serious business,” he says. “This is more than people trading bitcoin back and forth.”

Roth points to a report by Deutsche Bank from January noting that digital currencies, while only a decade old, have already been shown to have “the potential to radically change payments, banking, central banking and the balance of economic power … We believe a new digital currency could become mainstream within the next two years.” The Chinese and Facebook initiatives could make digital currencies available to more than 1.5 billion Chinese citizens and 2.5 billion Facebook users, more than half of the world’s population. Today, just under half of in-store purchases in China are made via a digital wallet, way above the levels in developed markets. The report anticipates use of 200 million “blockchain wallets” by 2030.

Risk factors

The report points to what remains a frustrating reality for its supporters: While seamless digital payments seem business as usual throughout much of the world, relatively few people have bought and sold cryptocurrencies. They are largely seen as a supplementary means of financial transactions rather than as necessary or advantageous substitutes for mainstream payment methods. “Constant friction between fintech innovation and regulatory efforts is likely to be an ongoing concern,” the report adds.

Federal Reserve Chairman Jerome Powell, in congressional testimony last year, said Libra raised “many serious concerns regarding privacy, money laundering, consumer protection, and financial stability.”

Meanwhile, the Financial Crimes Enforcement Network issued guidance to banks in 2019 intended to help financial institutions comply with the Bank Secrecy Act “in light of current and emerging business models involving” digital currency—in other words, because digital currencies are becoming much more mainstream.

“Even five or six years ago, bitcoin was not accepted at most places, but that has all changed,” says Kenneth Schaeffer, special agent at the Department of Homeland Security for Homeland Security Investigations, where he serves as national program manager for the Illicit Digital Economy Program. That rapidly escalating ease of use is why it continues to attract money launderers, he says.

The guidance also includes several customer red flags banks can watch for involving convertible virtual currency. These include use of unregistered peer-to-peer or local digital currency exchanges, unregistered foreign money services businesses and otherwise unusual cash and ATM patterns and concerns. But as use of bitcoin continues its steady move into the mainstream, banks can benefit from the arrival of legitimate market participants. FinCEN warns that sometimes they might look the same as the bad actors. The guidance adds that financial institutions should evaluate indicators of potential misuse “in combination with other red flags and the expected transaction activity before determining that a particular transaction is suspicious.”

Brainard’s February comments attracted attention from those hunting for any clue as to a change in the Fed’s direction on the subject. But she went on to suggest steps that if followed could ease any changes.

“In the United States no less than in other major economies, the public sector needs to engage actively with the private sector and the research community to consider whether new guardrails need to be established, whether existing regulatory perimeters need to be redrawn, and whether a (central bank digital currency) would deliver important benefits on net,” Brainard said.


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