There are many qualified candidates for the title of second most consequential event of 2020, right after coronavirus and its associated worldwide economic implosion. The global reach of the George Floyd protests comes to mind, as does the still-unfolding China–India clash in the Himalayas. Perhaps North Korea or Iran will deliver another crisis unto the world. Possibly more deserving than any of these, however, is China’s planned rollout of its digital yuan, through which the Communist Party intends to upend the U.S.-led financial world order.
China’s ultimate objective is to topple the dollar domination that has kept the U.S. at the top of the global financial pecking order for several decades.
China has been conducting intensive research on a potential centralized digital currency since at least 2014. The Digital Currency Electronic Payment (DCEP) plan, popularly known as the digital renminbi or digital yuan, was announced by the People’s Bank of China (PBOC) in October 2019. In an op-ed published in the Global Times, a Communist Party mouthpiece, leading Chinese academic Huang Zhen declared that the digital yuan will “likely” become the “world’s first sovereign digital currency,” before spending the rest of the article attacking Facebook’s rival digital currency project, Libra (more on that later).
While the PBOC has yet to fully commit to a timeline for rolling out the digital yuan, its efforts appear to be well under way. Pilot trials have been conducted in several cities so far this year, and officials have indicated that the currency will be ready for use by visitors to China during the 2022 Winter Olympics in Beijing.
China aims for economic omniscience
The digital yuan can be broadly classified as a central bank cryptocurrency, a subcategory of digital currency. The central bank aspect is self-explanatory: the currency would be controlled exclusively by the PBOC, China’s central bank. The digital yuan’s most radical departure from the norm would be the use of cryptography to verify and secure currency ownership and transaction. This added layer of security means that the currency will be recognized as legal tender and exchangeable between individuals without requiring a bank as an intermediary.
Terms like “cryptocurrency” may evoke more familiar currencies like Bitcoin, and indeed the (in)famous digital asset shares one of its defining features — strong cryptography — with the digital yuan. In other respects, however, the two currencies could not be more different. Bitcoin originated, and is based on, peer-to-peer technology called blockchain. Every transaction made in bitcoin has its verification “distributed,” meaning Bitcoin’s entire history is shared and synchronized between the millions of users in its network through various consensus mechanisms. Because Bitcoin’s network is so vast, it is practically impossible for any single user to accrue enough computational power to take control of the ledger. This places Bitcoin beyond the command and oversight of any central authority, resulting in it becoming the near-universal currency of online black markets in recent years.
The digital yuan, by contrast, is not distributed: it is entirely within the jurisdiction of the PBOC. In contrast to Bitcoin, whose mission statement explicitly revolves around decentralization and dispersal of power away from government bodies, the digital yuan represents a vision of hyper-centralization that traditional cash is unable to achieve. If China is indeed planning to transition to a digital-only economy, the Communist Party would be able to achieve nothing short of economic omniscience: every cash reserve, transaction, and account would exist only with the knowledge and consent of the government.
This has, on its face, some benefits. It would hamstring unethical commerce and deter the bribes and tax evasion that characterize China’s notoriously corrupt economy. Anyone who knows Xi Jinping’s government, however, knows that the last thing it needs is yet another method through which to enact high-tech authoritarianism. The digital yuan would put the financial lives of every Chinese citizen in the palm of the PBOC’s hand. Dissidents could be tracked and instantly bankrupted. Billionaires could be made even more pliable to the whims of Beijing than they already are.
But as much as the Chinese government cares about maintaining control at home, its primary goal is spreading financial influence abroad. Its ultimate objective is to topple the dollar domination that has kept the U.S. at the top of the global financial pecking order for several decades. This process begins with introducing renminbi as an alternative international currency starting with China’s partners in the global south. For this purpose, the digital yuan serves as an ideal catalyst.
Forcing Washington’s hand
Being state-guaranteed (rather than backed by private banks like all online deposits at the moment), secure, scalable, and relatively frictionless, central bank digital currencies have the potential to outcompete traditional currencies in the development of cross-border monetary systems.
The U.S. dollar’s status as the global reserve currency has made it arguably the most potent power projection tool in history. Ordinary Iranian citizens may not conduct their transactions with dollars, but Iran’s financial institutions and importers/exporters certainly do. Washington’s ability to cripple other countries with sanctions alone exists solely because the dollar is the world’s financial lingua franca.
Writing in Foreign Affairs in May, Aditi Kumar and Eric Rosenbach ask the reader to imagine regimes like those in Iran and North Korea being able to effortlessly skirt sanctions by conducting their transactions via digital currency services centered around Beijing. Rogue governments would not necessarily have to accept the digital yuan as a new reserve currency; China could simply export digital currency infrastructure instead of the currency itself, helping countries like Iran set up their own sovereign systems that are compatible with the yuan. This way, China would be able to undermine American influence without presenting itself as a geopolitical threat, which might be key in places like Southeast Asia where many countries are suspicious of Beijing.
Washington is therefore presented with a difficult dilemma moving forward. Pushing back against the yuan’s expanding influence might require also transitioning the dollar to a digital currency format — an idea that both private financial institutions and many voters are likely to be opposed to, the former because it would threaten their own proprietary financial software, and the latter because distrust of the federal government (and the Federal Reserve) is at the highest levels in living memory. The alternative, however, seems to be to accept that the U.S. will have to gradually cede its financial leverage over friend and foe alike.
There is also a third option that few are keen to discuss: Facebook’s proposed cryptocurrency, Libra. The PBOC seems to view the Libra as the digital yuan’s foremost rival, given that the U.S. federal government has yet to even begin earnestly discussing a project of its own. Indeed, Mark Zuckerberg himself appealed to Congress in October 2019 to support Libra as a matter of national importance, saying that “China is moving quickly to launch a similar idea in the coming months…. Libra will be backed mostly by dollars and I believe it will extend America’s financial leadership as well as our democratic values and oversight around the world. If America doesn’t innovate, our financial leadership is not guaranteed.”
Zuckerberg is correct in stating that the Libra would serve as a conduit for dollar influence. Though the cryptocurrency would be pegged to a basket of global currencies, the U.S. dollar would dominate, representing 50 percent of the basket. The remaining half would be split between the euro, the yen, the British pound, and the Singapore dollar. The Chinese yuan is conspicuously missing, reportedly a conscious exclusion meant to appease Washington. Naturally, China sees Libra as yet another American attempt to deprive it of its rightful financial influence.
Is Libra likely to win the approval of U.S. policymakers? It seems implausible at the moment. Many rightly distrust Facebook and by extension a project developed and led by Facebook. From a purely technical perspective, Libra would not confer the same benefits to the United States as the digital yuan would to China, as it would be a non-sovereign currency beyond the control of any federal organ. And even if all of these concerns were addressed, Libra remains in a relatively early stage of development. Its official launch is supposedly slated for this year, though it’s difficult to believe that Facebook’s original timeline is still in place after its recent falling out with Congress.
Of course, everything said here depends on China’s successful implementation of its digital currency plan. It may very well turn out that the U.S. made the right decision by remaining passive while Beijing rushed headlong into a self-inflicted financial crisis. As a general rule, however, the side that bets on technological innovation comes out on top. The U.S. continues to hold large full-spectrum technological advantages over China, but in the crucial field of digital currency it is presently lagging by perhaps half a decade or more. The political will to study this technology, or at least to discover ways of mitigating China’s advantages, must be amassed — or else the New Cold War may soon see a 21st-century Sputnik moment.