Big Brother's Bank Account?

Bryce Johnston is an Army Officer and Fulbright Scholar who studied Development Economics at the IE School of Global and Public Affairs in Madrid, Spain. He holds a BS in American Politics from the United States Military Academy and tweets infrequently from the handle @am_bryce. The views in this article are his own and do not represent the official stance of the United States Army.

If the dollar could talk, what would it say? The dollars in currency today could tell trillions of stories, but thankfully money has no memory. Though financial institutions like banks track transactions, you can’t access that history by looking at a dollar bill.

That could soon change. Central banks have been racing to develop government-backed digital currencies that can compete with the plethora of private cryptocurrencies on the market. While a Central Bank Digital Currency (CBDC) may seem like a benign upgrade to the outdated monetary system, this new technology could enable authoritarian tendencies, if democratic leaders aren’t careful.

In today’s cashless society, most transactions are recorded on a variety of private databases owned by financial institutions, called ledgers. Cryptocurrencies offer decentralized ledgers where the transferred currency carries with it the memory of past transactions. Transactions on these ledgers are public and anonymous. Anyone can see any movement of currency at any time, and participants in a transaction are only known by their digital wallet address. Digital wallets—used to store payment information—are not tied to identifying information.

CBDCs replace both crypto’s decentralized ledger and banks’ private ledgers with a centralized ledger owned by the government. To make transactions on this ledger, citizens would use government-issued digital wallets tied to identifying information such as a social security number.

This digitization carries several advantages. By circumventing banks, CBDCs could provide enormous benefits to the billions of people currently shut out of traditional financial systems. These people could use their digital wallets like bank accounts to buy and sell goods, transfer money, or save for the future. CBDCs would also make government administration vastly more efficient. For example, if the United States sent out another round of stimulus money through their own CBDC, then the Federal Reserve could deposit the money in each account in seconds.

Unlike cryptocurrencies, however, CBDCs do not have to be public or anonymous. With every transaction recorded on a government-owned ledger and carrying identifying information, Big Brother could well be watching. For that reason, CBDCs could be an autocrat’s dream, enabling the development of massive and powerful surveillance states. In a system in which central banks act as the custodian for all transactions, autocratic leaders would have an endless supply of data to monitor citizens. Government's could then weaponize this data through their management of citizens’ digital wallets. Shutting down protests would be as easy as flagging individuals for suspicious purchases and freezing their accounts. Without an intermediary between the government and their citizens’ finances, an autocratic regime could target potential opponents with frightening speed.

Authoritarian regimes clearly recognize this opportunity. While 87 countries are exploring CBDCs, China is the first major economy to release a test version of its digital currency. This test will feature prominently in the upcoming Winter Olympics in Beijing where Chinese officials want to make it the official currency of the event.

For their part, leading democratic countries have fallen behind China. Only two G7 members, France and Canada, have reached the pilot phase of their digital currencies. Nigeria had the first launch of a digital currency by a large democratic country, but the early success of the e-Naira has been tempered by mixed results in the last few months.

Democratic leaders have a difficult choice to make as this technology matures. If they don’t develop a CBDC, then they risk ceding economic power to autocratic countries developing their own. At the same time, the development of a CBDC by a fragile democracy could create a powerful tool for future leaders to abuse. For this reason, it’s easy to understand why some US lawmakers have put forth a bill that would ban the Federal Reserve from pursuing this technology.

Despite the risks, democracies should keep their options open when it comes to developing CBDCs. A digital currency would confer many benefits to their citizens and provide an alternative to the options offered by authoritarian regimes.

The United States Federal Reserve is still in the research phase for its own CBDC. During this time, it will be important to lock in features that support democracy rather than weaken it. Anonymity and transparency—the virtues that fueled the rise of the first cryptocurrencies—must be the core component of any Central Bank Digital Currency. Complete anonymity is unlikely, but controls that protect the privacy of citizens could act as a deterrent against government abuse. If democracies can ensure that their CBDCs support these values, then they’ll be able to compete with countries such as China without expanding their surveillance states and losing sight of democratic accountability.