So, if we're talking about regulatory risk, it's hard not to mention at least central bank digital currencies. So, this is an interesting type of risk because, they actually don't exist yet. But, given that most banks are central banks are actually researching this and some of them have prototypes already, it's something that we need to talk about. So just briefly show you that, most of the major central banks have initiatives. There's not a new idea to have a central bank digital currency, indeed, Nobel laureate, James Tobin proposed the idea in 1987. Okay, so most of these countries are R and D, some countries are more advanced than others, like China and I think we can safely assume, that this will basically happen. There's many different ways that these can be implemented. And I'm not going to go through a lot of detail but just give you a very high level of you. So, in the current system, cash is a direct claim on the central bank. Okay, so that's the way our system actually works. However, as we've also gone through, ,we've talked about the money multiplier. Where the commercial banks actually create money by somebody depositing some money and then there's a reserve that put at the Fed, but then that money is lent out. And it goes into another bank and the central bank actually, has these reserves, but extra money is created in the system, okay. Indeed, most of the money in the system is like this, especially if you consider reserve ratio of 0.1, that means that the total amount of possible money created is 10 times. What the central bank actually issues. So again, there's many different ways to actually do this, many different choices in terms of how the central bank will actually implement. And a lot of these choices have to do with the degree of disintermediation of the commercial banks. We're just kind of interesting. So, think about it this way. In the US that if you deposit money at your commercial bank, then that money is insured up to $100,000, by the central bank, by the Federal Reserve. So there's another model, where retail investors at least can deposit their funds directly at the central bank. And we get rid of that guarantee, I guarantee is problematic, and we saw in the global financial crisis, what did these banks do? Well, they take your deposit, use that as collateral and borrow a huge amount of money on leverage. They use that supposedly for profit, but if something bad happens. And they get into trouble, the government needs to bail them out. Okay, so the system is very problematic. But again, there's different ways to actually implement us. So there's a hybrid model where, there's interaction between the central bank and the commercial banks. And there's also interaction between the customers and the commercial banks. There's a direct model. And the direct model is what I'm talking about earlier. This means that, the central bank can deal directly with the retail holders. So you have an account, at the central bank and you use that to pay for things. So you don't have the same, you don't have the bank debit card, you don't have that checking account or even a savings account that isn't making any money. So, the central bank can actually do that. And also by the way, the central bank can pay interest. They pay interest on the reserves that are held by, that they hold that the the commercial banks actually put in. So that's a possibility too. There's also the indirect sort of model, where we've got basically the currency is not a direct claim on the central bank, it is a claim to the basically the wholesale accounts of the commercial bank. So, notice in the diagram that the retail investors and some institutions are basically dealing with banks who deal with the central bank. So, there are many different proposals here as to how this architecture actually works. There would be some sort of ledger, but it's not going to be a Blockchain ledger, as we know. Because a Blockchain ledger is by construction more decentralized, with the decentralization is going to be lack of control. The whole idea of the central bank is to be central, so they want control. So it will be, perhaps a distributed ledger, let's call it that and sometimes block chains are called distributed ledgers. So, it will be distributed in that perhaps every regional Federal Reserve Bank ,will have a copy of the ledgers, so there will be some redundancy that's important. But, the central bank wants central control for obvious reasons. So, the mechanics of how the token transfers work are fairly straightforward, then we can borrow from what we've learned from the Blockchain technologies like Ethereum and Bitcoin. All of that's straightforward. However, everything is maintained and deemed by a centralist party. So, why do we want to do this? Well. Number one, the system is just not very good right now. So, the system of wire transfers, the Fed wire, all this stuff is basically. It's is technology that was very useful, like 30 years ago, but today it's really dated. So, the central banks are very interested in this because it makes things more efficient. There are some benefits I will admit, but it allows them to do basically instant monetary policy. So. If they need to increase the money supply no problem. If they need to, for example do something like give out stimulus checks. Well, it can be done very efficiently. Indeed in the COVID-19 crisis, over a billion dollars was sent to deceased people. Okay, so again you've got more control here and if you wanted to you could enforce negative interest rates. So, what does that mean? Suppose that the Fed wanted to reduce the interest rate to -3%. I really can't do that, because everybody would just hold cash currency. Which delivers zero and zero is a lot better than 3%. So there's a lower bound, in terms of what they do. But if there's no cash currency, you're going to have a negative rate. So again this is the monetary economists dream to have control like this. So, there's also other reasons that central banks are worried about companies like Facebook with their DM, which was libra or the JPM coin. So, they're kind of worried that these corporations are going to basically take control. And it's also the case that cash really isn't used that much, anymore so we use electronics already. So. I think that there's plenty of reasons here. There's another subtle reason that we haven't really seen in a long time, but we definitely saw it in the Great Depression. And that's the idea of the bank run. Where people are worried about the bank and even though the risk might be not that big for the bank, the bank can be wiped out by a run. Whereas with this technology, the chance of that happening is greatly reduced. There's some of the reasons, and this makes cross border payments much more efficient. And there's a lot of stuff that needs to be worked out because the CBDC ledgers across different countries need to be able to interact with each other. And that has something worked out okay. It's not like the charting of the Ethereum Blockchain, where you've got a master chain, the beacon chain that actually handles cross shard capabilities. But maybe something like that, could be useful in terms of implementing for kind of a global central bank digital currency. It's also the case that central bank digital currency could promote inclusion, you don't need a bank account. Everybody has got access to the central bank, and that's where your account is. So it's not at a commercial bank, it is with the central bank. A very important issue here is illegal transactions. So, I showed you in one of the courses the picture of El Chapo and his stash of 200 million us $100 bills. So cash, is fully anonymous and the ideal medium for illegal activity. And it is by far the most important, well, there's no cash, it's going to be much more difficult, to do illegal activity. And the other thing is the efficient collection of value added tax. So in Europe the value added tax is so high, that people will pay in cash to avoid the tax. So if you actually have a CBDC, with a tax mechanism included, ideally the rate of the VAT greatly decreases, because everybody will be paying, there's no way around. And this is also true for a BAT which is a Border Adjustment Tax. So without an efficient VAT, it's very difficult to do a border adjustment tax, but this is also possible with this particular technology. So there's a lot of advantages to actually doing this, but there's also a lot of downside. So, one downside that I've got a question mark on is the disintermediation of commercial banks. Some people think that's a bad idea, some people think that's a good idea. But I wanted to put it in the category commercials banks actually do provide some are actually not just some but a lot of financing that keeps the economy going. And just completely disintermediation them is something that could be risky at this point. Number two is privacy. So cash is anonymous, and I'm not talking about illegal transaction but it's just the point of do you want the government knowing every single transaction that you make. Maybe that could work in some countries, that are more willing to accept that like China but even there I'm not convinced. But in the US I think it's extremely unlikely. So, some system has to be developed where at least a smaller transactions are dealt with relatively anonymously. And there's some ideas, that are possible in doing that but again, this needs to be worked out. And the last thing I'll say, is in my opinion. This idea of central bank digital currency, is a reaction to what's happened in the crypto space. That. It might be too late. Given all of the advances, that have been made in defi and given even some of these more centralist kryptos, whether it is a commercial bank launching a crypto or something like that. The horse as potentially left the bar. So, in the world that I see in the future, it's just much less need for the central bank digital currency or fiat currency in general. So, I do think that is the major risk, that for the central authorities that is too late, for decentralized finance. The risk is that some governments will basically say you have to use the central bank digital currency and you can't use a Cryptocurrency. And some countries will try to do that. It's really difficult to do. It's very difficult. And they'll probably fail.
