Cryptocurrencies offer challenges and promises, regulator says – but no ‘compelling reason’ for Fed to offer digital money

“Cryptocurrencies” may be innovative devices presenting challenges to investor and consumer protections and to anti-money-laundering efforts at central banks, but they also hold promise for strengthening financial instruments and markets, a member of the Federal Reserve Board said Tuesday.

However, Federal Reserve Board Gov. Lael Brainard said she saw no “compelling demonstrated need” for the Federal Reserve to begin offering a digital currency.

In remarks to a conference sponsored by the San Francisco Federal Reserve Bank (in San Francisco), Brainard said some aspects of cryptocurrencies (such as digital tokens and distributed ledger technology) may offer a bright side to the use of the technology.

“I remain optimistic that the financial sector will find valuable ways to employ distributed ledger technology in the area of payments, clearing, and settlement in coming years,” she said.

Brainard described cryptocurrencies for the San Francisco Fed’s conference on “Decoding Digital Currency” as digital money relying on the use of distributed ledger technology, concealing ownership and transfer of records from one user to another, and as assets that are not liabilities of any individual or institution.

Regarding vulnerabilities of the digital payment system, she noted that since many cryptocurrencies store in their ledger little to no information about the identity of owners of the cryptocurrency, “this essentially mimics a bearer instrument – that is, an instrument whereby the holder of the instrument is presumed to be its owner.” She pointed out further that as cryptocurrencies can be easy to transfer across borders, one that mimics a bearer instrument and provides significant anonymity in transactions, including across borders, “could raise significant concerns regarding the potential to facilitate illicit activities and associated money laundering.”

“For example, electronic instruments can be easily transferred and stored in large amounts, and peer-to-peer transactions outside of the United States could be very hard to prevent and detect,” she said. “Such instruments appear to have proven susceptible for use to convey payments to illicit actors – for example, to pay ransoms.”

However, she pointed out areas where digital currency technology is advancing to deal with key policy, business, and operational challenges, such as:

  • Wholesale digital settlement tokens: She said the technology could potentially reduce the time and costs required for wholesale financial transactions and is being discussed, for instance, for use in cases of interbank payments, securities settlements, and cross-border transactions, “where the introduction of a digital token native to a platform may facilitate certain types of settlement.”
  • Distributed ledger technology: Noting that the technology is the “mechanism for recordkeeping and transfer of ownership that underpins cryptocurrencies,” she acknowledged “steady progress” within the financial industry on developing the technology (predicting some projects going “live” this year). She said many of the use cases focus on the areas of post-trade clearing and settlement of securities transactions, cross-border payments solutions, and trade finance, where distributed ledger technology has the potential to “provide synchronized, real-time views for those counterparties and agents that can speed up the process and reduce errors.”

Nonetheless, Brainard asserted that cryptocurrency use remains relatively small in scale compared to the broader financial system, and that “relatively limited connections to our banking sector suggest that they do not currently pose a threat to financial stability.”

Additionally, Brainard discounted a digital currency offering from the Fed.

“Most consumers and businesses in the U.S. already make retail payments electronically using debit and credit cards, payment applications, and the automated clearinghouse network. Moreover, people are finding easy ways to make digital payments directly to other people through a variety of mobile apps,” she noted. “New private-sector real-time payments solutions are beginning to gain acceptance in the United States. And the Faster Payments Task Force has laid out a roadmap embraced by a variety of stakeholders for a fast, ubiquitous, and secure payments system to be in place in the United States in the next few years.”

FRB Gov. Lael Brainard: Cryptocurrencies, Digital Currencies, and Distributed Ledger Technologies: What Are We Learning?