Central banks, tokens and privacy

Christine Lagarde, the Managing Director of the International Monetary Fund (IMF) and therefore to a first approximation the person in charge of money, gave a speech in Singapore on 14th November 2018 in which she asked…

Should central banks issue a new digital form of money? A state-backed token, or perhaps an account held directly at the central bank, available to people and firms for retail payments?

This is a question that, of course, interests me greatly. The IMF Staff Discussion Note (18/08) on which her speech is based sets out these two options clearly:

  1. Token-based CBDC—with payments that involve the transfer of an object (namely, a digital token)—could extend some of the attributes of cash to the digital world. CBDC could provide varying degrees of anonymity and immediate settlement. It could thus curtail the development of private forms of anonymous payment but could increase risks to financial integrity. Design features such as size limits on payments in, and holdings of, CBDC would reduce but not eliminate these concerns.

  2. Account-based CBDC—with payments through the transfer of claims recorded on an account— could increase risks to financial intermediation. It would raise funding costs for deposit-taking institutions and facilitate bank runs during periods of distress. Again, careful design and accompanying policies should reduce, but not eliminate, these risks. 

 Or, as I said a few years ago, should the Bank of England create BritCoin or BritPESA?

I’ve written before about the advantages and disadvantages of moving to digital currencies and don’t want to go over these arguments again here. Ms. Lagarde has also spoken about them before, specifically noting that digital currencies “could be issued one-for-one for dollars, or a stable basket of currencies”. Why her new speech was reported in some outlets as being somewhat supportive of cryptocurrencies is puzzling, especially since in this speech she specifically said she remained unconvinced about the “trust = technology” (“code is law”) view of cryptocurrencies. But the key point of her speech is that the IMF is taking digital currency seriously and treating it as something that might actually happen.

(Note that the IMF position seems different to the position of European Central Bank, where President Mario Draghi recently said that they have “no plan to issue a digital currency because the underlying technology is still fragile and the use of physical cash still high in the euro zone”.)

The reason for this comment on her speech is to re-iterate my view on the BritCoin approach. I think Ms. Lagarde is right to mention a state-backed token as an option. The idea of using token technology to implement cryptoassets of any kind, which I have labelled digital bearer instruments, is feasible and deserves detailed exploration. What we might call “digital fiat”* is simply a particular kind of cryptoasset, as shown in the diagram below, a particular kind that happens to be create digital money based on an institutional binding (where the institution is central bank) to national currency.

Cryptomarket Model

 

Now, nothing in this formulation makes the use of cryptoassets (rather than a central database) inevitable. There are, however, other arguments in favour of using there newer and potentially more radical technologies to implement digital money. One of them is privacy.

(As The Economist noted on this topic, people might well be “uncomfortable with accounts that give governments detailed information about transactions, particularly if they hasten the decline of good old anonymous cash”.)

In her speech, Ms. Lagarde said that…

Central banks might design digital currency so that users’ identities would be authenticated through customer due diligence procedures and transactions recorded. But identities would not be disclosed to third parties or governments unless required by law.

As a fan of practical pseudonymity as a means to raise the bar on both privacy and security, I am very much in favour of exploring this line of thinking. Technology gives us ways to deliver appropriate levels of privacy into this kind of transactional system and to do it securely and efficiently within a democratic framework. In particular, new cryptographic technology gives us the apparently paradoxical ability to keep private data on a public leader, which I think will form the basis on new financial institutions (the “glass bank” that I am fond of using as the key image) that work in new kinds of markets.

* I happened to sit in on the panel discussion on digital fiat at Money2020 China. The discussion was chaired by Carolyn MacMahon from the San Francisco-based Digital Fiat Institute, which I must confess I’d not heard of until today, but intend to visit next time I’m over on the West Coast. In the Q&A I was going to ask about the anonymity issue but go sidetracked with the impact on commercial banks. Next time. 

Mobile money and the race to cashlesness

The wonderful people of the Economic Club of Minnesota (ECOM) invited me to Minneapolis to give a talk at their October luncheon. I was talking, generally speaking, about my “5Cs”: the potential issuers of future digital currencies. If you click on this picture, it will take you to a video of the talk and the Q&A session afterwards. One of the points I made in the talk was the payments in the future are about my mobile phone talking to your mobile phone, not me handing something (banknotes, credit cards, cheques, whatever) to you. This means that the adoption of new forms of money can accelerate without updating or replacing cash registers or plastic cards.

The mobile phone is taking us into a cashless future.

Birch Talking

The Club had arranged for a driver to pick me up from the airport and take me to the hotel. He was very interesting man of Somali origin and we had a nice chat in the car. By the time we got to the Hilton, I thought I ought to call my hosts and ask them to have him onstage instead of me!

Why? 

Well, he told me about his last visit to the old country, when he was surprised to find himself paying for everything (and he meant everything, from a nickel payment in the food market to a $400 remittance to relatives) using a mobile phone.

“It works on trust”, he told me, “because there is no government”.

(I was thinking of telling him that in my opinion the reason it works at all is because there is no government, because in places where the government has done its best to regulate mobile payments, such as India and Nigeria, mobile payments do not have anything like the penetration that they do in Somalia.)

Mobile payments are spreading. New interfaces (voice), new security (face), new authentication techniques (continuous passive authentication) and evolving network coverage mean that mobile phones are simpler and more secure than cash for a great many people around the globe. But which country will win the race to cashlessness? 

Well, that’s where my driver comes into it. My reasoning as to why he might have been a good choice for a speaker, apart from the fact he was smart and loquacious, is that it is his motherland, rather than the UK (or Sweden, or even the USA, where the Federal Reserve tell us there are now more $100 bills in circulation then there are $1 bills) that may well become the world’s first cashless country. A recent World Bank report showed that Somalia has one of the most active mobile money markets in the world, outpacing most other countries in Africa. It’s even superseded the use of cash (their words, not mine) in the country. Let me repeat that for emphasis. The World Bank say that in Somalia, cash has been “superseded”. It is approaching irrelevance (apart form anything else, no-one uses it there because of widespread counterfeiting) as Somalia heads toward cashlessness.

(As I said in my book, a cashless country does not literally mean a country where cash is extinct. Some cash will linger for post-functional purposes, such as pinning to wedding dresses or waving around in casinos, but that cash will be irrelevant to GDP.)

Interestingly, within Somalia there is already an almost cashless enclave where “payments through mobile she says have rocketed from 5% two years ago to more than 40% now”. That enclave is Somaliland (the breakaway republic of 3.5m people within Somalia), and it may well be Somaliland, rather than powered-by-Swish Sweden, as the place where cash will first vanish into memory. And if your memory is good, you may recall that I wrote about it six years ago, when I said that “Somaliland might well become the world’s first cashless country. Not Iceland or the Netherlands, Korea or Kenya, but Somaliland”.

It hardly difficult to predict that cashlessness would come to Africa first, because as I have often said at conferences, in seminars and when interviewed, it is the mobile phone (not the payment card) that is the nail in cash’s coffin, because a mobile phone is a means to get paid as well as a means to pay. It’s both a “card” and “a terminal” in the world of Visa and PayPal, Faster Payments and Venmo. The spread of mobile payments, rather than the spread of plastic cards, will see cash become irrelevant to law-abiding people in a great many countries. And that cashless world is almost here. As everyone observes, if you go to China or Kenya, you’ll see people paying with phones for everything. In fact when I was in China last, I was in a near-permanent state of shock watching people for everything, everywhere with ubiquitous bar codes. (And almost all of those payments went through third-party providers (WeChat and AliPay) rather than through bank services.)

While in urban China, cash is becoming obsolete, it is still widely used outside the cities, which is why I still think that Somaliland might win the race though, just as I said all those years ago. Don’t listen to me about it, listen to what Mr. Rashid, a tea seller there, has to say about it: “I never see cash”. And his teas sell for 2,000 Somaliland Shillings each. Which is about 25 cents. A quarter. And his customers use phones to pay.

The world of mobile payments has fascinated me from its earliest days and I’ve been able to observe its evolution first hand. My colleagues at Consult Hyperion worked on the UK’s first prepaid scheme, first WAP “walled garden”, the first NFC trials and, I’m proud to say, M-PESA in Kenya. Experience has given a pretty realistic picture of what is happening across the payments industry in general and mobile payments in particular, and my view is that we are heading toward a tipping point that will see us accelerating toward cashlessness.

 

 

xxx

Something funny is going on with our great British cash

In our United Kingdom, the value of currency in circulation has dropped, year on year, for seven consecutive months (see chart), for the first time since records began in the 1960s. This is something of a surprise. For many, many years the use of cash for purposes such as shopping has been steadily decreasing while the amount of cash “in circulation” has been steadily increasing. Broadly speaking, the use of cash for legitimate activities has been falling while the use of cash for drug dealing, money laundering, tax evasion, payments to corrupt officials and so on has been rising. Hence my surprise at this shift in the statistics.

Of that cash that is “in circulation”, the £16.5 billion in £50 notes is particularly puzzling. Earlier this year the Treasury said that £50 notes were “rarely used” for routine transactions and that “there is also a perception among some that £50 notes are used for money laundering, hidden economy activity, and tax evasion”. I’ll say. This perception is widespread, by the way. A couple of years ago Peter Sands, the former head of Standard Chartered, said that the main use of the £50 was illicit and he’s a banker not a mere blogger such as myself.

Given this perception, I would have thought that is was time for the Treasury to tell the Bank of England to stop making life easy for criminals and withdraw the £50 over a two year period. But apparently not. Given that no-one is using them for legitimate purposes, the Bank of England has decided that now is a good time to bring the £50 up to date and make it out of plastic. Robert Jenrick, exchequer secretary to the Treasury, explained the decision by saying that “people should have as much choice as possible when it comes to their money and we’re making sure that cash is here to stay” although I don’t think anyone in the Treasury or anywhere else was asking for cash to be removed from circulation, only for a narrowing of the spectrum (dumping 1p and 2p coins, two-thirds of which are only used once, and removing £50 notes leaving the £20 as the highest denomination).

Oh well. I suppose tax evaders are more of an electoral force than I thought. According to the HMRC’s latest estimates that are shown the chart below (for 2016/2017), almost half of the tax gap is down to small businesses and they account for nearly three times as much of the missing tax as “criminals”. I’m not sure if these groups are natural Conservative voters, but they must in some measure account for the governments reluctance to inconvenience those responsible for the lion’s share of missing taxes.

UK Tax Gap Customers 2017 Picture

 

As an aside, the Bank says that it wants a scientist to be the face of the new notes and (god help us) says it will ask the public who it should be. But why a scientist? That doesn’t seem appropriate to me. Surely a much better choice would be the late and much lamented national treasure Sir Kenneth Dodd of Knotty Ash who, rather famously, kept enormous piles of cash in his attic because he didn’t trust banks. Or perhaps one of our greatest jockeys, Lester Piggott, who was once sent down for three years for tax evasion. I think the Bank should be told: the medium is the message.

Why do I keep going on about this? It’s because the people who benefit from the convenience of £50 notes (eg, builders avoiding VAT) are doing so at the expense of law-abiding tax-paying citizens (eg, me) and I have to fill in my tax form soon.

Gold cards vs. gold cards

According to a reputable news source (well, the Daily Mail) the Royal Mint is casting (sic) around to find things to do when the Treasury caves to the inevitable and tells them to quit wasting everyone’s time and money by minting coins. They’ve come up with the idea of making a credit card out of real gold. They are apparently working on ways to get 18-carat gold cards to work in ATMs and, of course, at contactless terminals.

The cards will have the owners signature engraved on the back (I’ve no idea why, since the card schemes are discontinuing the use of the pointless signature panels on cards) and will apparently be worth $3,000 each which (as a number of Twitterwags immediately pointed out) will greatly increase the number of fake ATMs in the streets around Belgravia after midnight.

This isn’t the Royal Mint’s idea, of course. They stole it wholesale from 30 Rock a few years ago.

There’s another kind of gold card that is worth considering: not one that is made of gold, but one that is backed by gold. I wrote about this idea more than a decade ago, using the example of an Islamic electronic gold card, saying…

“Given the desire to transact with the convenience of a card but in a non-interest bearing currency, it would seem to be a straightforward proposition to offer a gold card that is actually denominated in gold. An Islamic person tenders their chip & PIN gold card in Oxford Street to buy a pair of shoes: to the system it’s just another foreign currency transaction that is translated into grams of gold on the statement. If, at the end of the month, the person has used more gold than they have in their account then they can use some of the bank’s gold for a time at a fee. Hey presto, no interest. And if said Islamic person wants their gold then they can, in principle, go to the relevant depository and draw it out (minus a handling fee, naturally). Would interested credit card issuers form an orderly queue, please?”

Nowadays you’d implement the gold card as a cryptoasset that is institutionally linked to gold in a depository I suppose, but the idea of a turning store-of-value gold into means-of-exchange e-gold remains interesting: there are a great many people around the world who would prefer to pay and save in gold rather than any more modern medium. As it happens, the Royal Mint were go to have a go at this too with their RMG blockchain-based crypto asset until the spoilsports at the Treasury told them to knock it off and get back to making commemorative Brexit 50p coins.

So gold cards, or cards backed by gold or cards backed by assets backed by gold? My bet is that in the long run regulated token markets will win out but I’m genuinely curious as to your opinions on this.

[updated 29th October 2018 to include the government tell Royal Mint to stop crypto asset development.]

Money and games

I’ve been thinking about games again, mainly because my good friend and futurist Lynette Nusbacher has been play testing a Brexit negotiation game as part of the fascinating work she does helping governments and businesses with their scenario planning.

I’m really looking forward to playing it as part of the Wessex Separatist faction. I love tabletop games. My favourites are, I imagine, the same as everyone else’s: Settlers of Catan (which many believe to the be the best board game of all time), Dominion, Carcassone, that sort of thing. My sons and they friends’ recent favourite was Game of Thrones (and we had a few late night sessions with all of them around the Westeros map) but we’re currently into Wasteland Express, which is a sort of Mad Max (or The Domestics) meets the commodity markets resource trading game, so when we’re not playing Dungeon & Dragons 5e, we’re playing that…

Wasteland Express

 

It’s a very good game with excellent mechanics. You’re basically like Furiosa driving a war rig across a radioactive territory full of bandits and you have to try to figure out which commodities to trade, which upgrades to shoot for and so on. It fun round the table and gives the kids as good insight into the Hard Brexit Option as outlined in the Daily Mail. I was thinking about it because at a recent event someone asked about games to teach children about money (now that they don’t have play money any more) and it reminded me of some things I’d written about games and payments before! So I’ve pulled a couple of pieces together here to tell about my experiences using games to teach my kids about money, payments and financial services.

My experiences start with the time when I dusted off my copy of the “The Diners’ Club Credit Card Game”, published by Ideal in 1961. This was time when cards were far from a mass market proposition, so it looks to me as if the promotions people at Diners had had the idea of using the popular genre of the board to game to raise awareness of what exactly a card did and why anyone might want one.

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It’s nice game, a little random, but it works ok. It teaches you to spend for big-ticket items on your card so that you keep cash in hand for other purposes (investments etc). It didn’t take long to pick up and get going and we had fun playing it but to be honest I’m not sure if the youngsters would, unprompted, pick up and have another go.

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Having helped younger members of the community to understand what a card is, it was then time to move on to a more sophisticated game. I broke out “Charge It! The Credit Card Game”. The original version of this game seems to date from 1972, when the combination of technological and regulatory change (ie, the introduction of the magnetic stripe and Visa’s BASE I authorisation system together with the change in state usury laws) were pushing credit cards to the mainstream. My version of the game is a later revamp from 1996, in which players collect up to four different cards (thinly disguised Visa, MasterCard, Amex and Discover schemes) and move around a board collecting stuff of one form and another. Here’s no.2 son defying his father by using cash to purchase at carphone for $400, having first had to ask me what a carphone was.

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When we were playing D&D (3.5e) around the same time, we were playtesting a Viking-themed variant with some house rules removing arcane magic from the game and adding a couple of new character classes (the Beserker barbarian variant has always been a great favourite of mine). Variants are a great way to have more fun so I decided to make “Charge It!” even more fun by replacing the pretend cards with real ones, but I’m sure your family would have just as much fun with the cardboard echoes.

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Dungeons and Dragons isn’t very good for teaching about money or payments because it involves the use of magic, which is an endogenous growth factor in a medieval economy based on scarce commodities and plentiful labour. I know politicians are fond of saying that there is no magic money tree, but on the Sword Coast, there is. So while D&D is good for getting kids interested in history and adventure, it’s not so good for economics.

Which brings me to another point. When I was reading up on the background to some the games discussed here, I noticed that they were classified as “economics” games. I think I take issue with that. I suppose you might argue that they are about economics in the original sense of the Greek root (ie, household budgets) but they don’t really teach modern economic concepts. The games are about payments, but they are not really about money or the financial services business. My kids learned about the world of finance from games, of course, but they learned from:

  • World of Warcraft. All parents should insist their children play this game while at middle school. My kids learned all of the key economic concepts from playing this game: supply and demand, comparative advantage, price curves, options and futures, auctions and reverse auctions, arbitrage and so on. They also learned all of the basic tools of the modern investment banker, including market manipulation, price-fixing, insider trading and shill bidding. It’s a shame they have both opted to study socially-useful STEM subjects at University instead of finance, much against my direction.

  • Crunch. This is a card game that teaches the rudiments of banking, and it’s a f. Each player is a banker and, in essence, you have to collect asset cards so that you can make loans and investments. The really clever (and super realistic) part of the game is that the banker with the most money at the end wins: it doesn’t matter whether their bank goes bankrupt or not. If you over-extend the bank but manage to trouser the treasure before the roof falls in, more power to your elbow.

  • Illuminati. This remains my favourite table top card game of all time and I’m glad my kids loved it too. It has a superbly clever game mechanic which means that you build up power structures based on secret societies (e.g., The Gnomes of Zurich) but you need money to consolidate the power and you basically can’t win without screwing someone else over. A much better introduction to 21st-century pseudo-capitalist corporatism than any text book.

Meanwhile, back at “Charge It!”, I’ll just mention that I liked the two-track board idea and I thought it worked well in terms of game dynamics. You basically choose whether to go round an outer track or, once you have some credit cards to your name, an inside track with different kinds of interactions. The players don’t know what each other player is trying to collect so you have to keep an eye on what your opponents are buying as the game develops. We enjoyed playing this game and I think we might well play it again sometime.

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It was then time to return to an old favourite, Monopoly. Now, the truth is that I’ve never much liked Monopoly (it’s too random for my liking) but my kids liked it when they were small and had never played Space Crusade or Heroquest. They still play it now and then (the World of Warcraft edition is the current favourite I think). When I play tested with them, I started with our copy of Monopoly Electronic Banking edition, which replaced cash with cards some years ago and thus obtained my deputy-head-of-household seal of approval.

An interesting aside: At Consult Hyperion’s tenth anniversary Forum back in 2007, the wonderful people at Hasbro very kindly donated a few Monopoly Electronic Banking sets to the event and we ran a tournament using them! Within a couple of years, our thoughts had naturally turned to mobile and contactless, so we played a version of the game using contactless cards and NFC phones using some software that I pestered our in-house development team (the “Hyperlab”) to put together for the event.

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And so we meander closer to our post-crash finance landscape, with our next stop at a game of Monopoly Zapped. In this game, the players have cards (with no embossing any more, unlike the replacement payment cards sent to me in last month by my actual card issuers) and the “bank” is your own iPad rather than a custom piece of hardware. How right this is, on so many levels. To effect a transaction, you simply touch your “ID card” to the iPad when necessary.

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The family verdict on this one was very positive indeed. The contactless interface was quick and simple, it was convenient having the iPad keep track of everything and the game play zipped along at a decent pace. If your kids like Monopoly, they will like this how it is enhanced by mobile phones and contactless payments.

Which brings us to the cryptocurrency era. In 1961, Diners’ Club needed a game to teach people about cards. In 1972, “Charge It!” taught people about credit. Monopoly Electronic Banking introduced a cashless economy and Monopoly Zapped the contactless economy. So I think it is time to create a game to teach people about cryptocurrency. I’m thinking either a combination of Crunch and Illuminati that builds the blockchain on the table in front of the players with some kind of Trivial Pursuit-style game to represent the distributed proof-of-work or a combination of Cluedo and Monopoly where the goal is to find the Satoshi (“It was David Chaum, in the library, with a TRS-80”) while hoarding your Bitcoins and stealing your opponents.

While I was kicking around some ideas on this I remembered the fun I’d had with “The Privacy Game” back in 2012 as part of a project called VOME with the UK Technology Strategy Board. The idea of the project was to help people who are specifying and designing new, mass-market products and services to understand privacy issues and make better decisions on architecture. Part of the project was about finding different ways to communicate with the public about privacy and factor their concerns into the requirements and design processes. One the experiments was a card game lead by Dr. David Barnard-Wills from Cranfield University. I was involved in playtesting it.

Turned out that David and his team had invented a pretty good game. Think the constant trading of “Settlers of Catan” with the power structures of “Illuminati” mixed with game play of “Crunch”. I liked it.

You get cards representing personal data of different kinds. Depending on who you are (each player is a different kind of business: bank, dating agency, insurance company etc) you want different datasets and you want to link them together into your corporate database. A dataset is a line of three or more data items of the same kind. Here’s a corporate database with two datasets in it: the green biographical data 2-2-3 and the orange financial data 3-3-3, these will score at the end of the game.

There are event cards, that pop up each round to impact the play, and some special cards that the players get from time to time. Check out the database I ended up with in the game that my colleague and I won! I was the bank, so I was trying to collect financial data in my database but I was also trying to collect social data (purple) in my hand.

I remember having great fun playing this, so I decided that something based on cards would be good for my Bitcoin game (especially given the deep irony of Mt. Gox having started life as a shrine to Magic The Gathering) and got to work. Anyway, I started to make a prototype, let me know what you think…

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I also had the idea for decoupling the market price from the underlying value with proper Illuminati-style secret market manipulation so that the players with Bitcoins will try to work together to drive up the market price. As with Crunch, the goal is to amass a personal fortune even if you bankrupt widows and orphans in the process.

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My original idea was that there would be something like 100 wallets, each with a two digit number (00-99) and when players create a new wallet they get to pick the next card from a shuffled deck. So each player knows which wallets are theirs but the others do not. Money gets transferred between wallets according to some kind of trading that never finished properly working out yet and the players try to nudge the game so that more money ends up in their own wallets.

At the end of the game (when the last coin has been mined) the remaining wallets are given to their owners and the contents added up so the person with the most money wins. At any point in the game, players can prove ownership of a wallet and cash it out into $$$. Players will be trying to hack each other throughout the game and will gang up to stop the richer players from winning.

I’ve been back to this a couple of times but I haven’t thought it all through yet, but basically unconfirmed transactions go onto the table and when player gets a puzzle question right (or maybe all the players are given the same puzzle?) they get to add the unconfirmed transactions to the blockchain and win an extra Bitcoin for themselves. I did have an idea for some “Uncontrollable Event Cards” from the game:

  • “Hard drive crash, lose all of your Bitcoins”

  • “The exchange has been hacked, lose all of your Bitcoins”

  • “The dog ate your cold wallet, lose all of your Bitcoins”

  • “Your favourite exchange turns out to have been a scam, lose all of your Bitcoins”

  • “Your PC is infected with malware that stole your password, lose all of your Bitcoins”.

It’s got winner written all over it, but on the outside chance that one of you may have a better idea, I’m all ears!

Internet giants will be the banking front-end

A few months ago I wrote about the idea of an Amazon bank and expressed a certain amount of scepticism that Amazon would want to become a regulated financial institution, especially give the alternative of becoming the higher return-on-equity distribution mechanism for the lower return-on-equity heavily regulated financial products. At the time, I noted that almost half of US consumers surveyed said that were “open” to the idea of Amazon as the provider of their primary bank account. Now I see a survey from the management consultants Bain that says that two-thirds of Amazon Prime respondents would be willing to try a free online bank account offered by Amazon and a third of people who don’t buy from Amazon at all would do so.

The Prime figure is especially important because Amazon customers control three-quarters of US household wealth, which is quite an incentive for Amazon to step in between the banks and their customers. But I think my original point stands, which is that Amazon can do this without becoming a bank. Alex Brazier from the Bank of England put it clearly in a speech earlier this year, noting that “by allowing customers to connect to a range of banks and service providers through a single point, Open Banking could open to the door to the ‘unbundling’ of banking”.

I don’t think there’s any “could” about it. In fact, it could be argued that that’s a good thing – assembling optimal (for the customer) bundles of services from different providers is actually quite an appealing vision of the banking front-end of the future. The problem, from the banks’ perspective, is that that the front-end neither needs to be a bank nor wants to be a bank. Quite the reverse, in fact. The people who are good at front-ends (eg, Amazon) are perfectly happy to take control of the interface with the consumer and leave the banks as heavily regulated, low margin pipes sitting out of sight as the equivalent of utility companies but for money rather than gas, water or electricity.

Bain talk about a “a cobranded, mobile-friendly, checking-account-like product” which may well be what is achievable in the US market but in other markets around the world where the regulators are pushing through open banking to force more competition into the financial sector, I don’t see why Amazon would cobrand. My guess is that things will go the other way: customers want the Amazon brand, they couldn’t care less whether their Amazon Account is actually held by Santander or ING or Danske or anyone else. They’ll probably never read the small print to try and find out.This is why, I imagine, that a few months ago Bain said that in the UK the banks could see between one and two billion of annual pretax profits vanish because of open banking disintermediation unless they take some pretty dramatic action.

But what can they do? Well, they can become technology companies. Now, I know that the “meme” that banks are, essentially, a special kind of technology company (special because they are granted special privileges that other companies do not have, such as the ability to create money) is not mainstream, it deserves attention. It means, apart from anything else, that bank boards will need to include switched-on technologists and take a strategic view of technology, as Christian Edelmann and Patrick Hunt said in the Harvard Business Review: “Technology specialists will play a greater role in allocating investments, working alongside senior management from a more traditional background”.

From my early experiences as an advisor to boards in the FinTech space, I can see the dynamics at work here. To pick an obvious topic, some financial organisations’ early response to open banking was to see Application Programming Interfaces (APIs) as something to do with technology and therefore not strategic. This left them on the back foot against those organisation who saw the real context. All of which points to the future signposted by my old friend Brett King in his new book “Bank 4.0”, in which he says that the foundation of banking in the coming era is “being great at technology”.  In his closing chapter on “The Roadmap to Bank 4.0” Brett quotes Francisco Gonzalez, the Executive Chairman of BBVA, as saying that sooner or later it will be the internet giants (including Amazon) who will be his main rivals rather than other banks. This is why BBVA is reinventing its processes to being new products and services to the markets. Other banks are, of course, trying to do the same.

But can banks really become technology companies? Many observers think not. Instead they posit a future for banks as financial factories who have to accept the new order and partner with Amazon and others. Lenders would manufacture financial products, and tech giants would serve as distribution and servicing channels. In other words, Amazon’s future is to do with financial products what Amazon already does with other products. What’s more, as that Bloomberg article notes, because Amazon wouldn’t have to pay to lure customers — it already has millions of them — it could afford to set up digital accounts without “all the nuisance fees and relatively high minimum balances” that lenders impose. The Wall Street Journal says similarly that banks “face pressure to build relationships with big online platforms, which reach billions of users and drive a growing share of commerce” when reporting on Facebook’s request to banks to share detailed financial information about their customers, including transactions and balances, “as part of an effort to offer new services to users”.

(Remember, in Europe the banks won’t be able to say no to this.)

This transition for banks, the transition to operationally-efficient manufacturing of financial services while others take care of the distribution, will undoubtedly have casualties. It is no exaggeration to say that it is not clear that all of today’s retail banks will survive it.

Get your Bristol Pounds here

Bristol is a great city in the west of England. It was the big city to me, because I grew up in Swindon, some 40 miles away from this metropolis, and can well remember visits to its attractions. These included an ice rink and the Colston Hall, where I saw the first ever performance by a popular beat combo for which I saved good money and paid for the ticket myself. It was the Sensational Alex Harvey Band, fronted by the eponymous hard-drinking Glaswegian and featuring theatrical lead guitarist Zal Cleminson. What a band! Their music will be continue to be celebrated the length and breadth of the land when Ed Sheeran is nothing more than a wikipedia footnote in the history of Soma-music for the masses. But I digress.

These days the city, while famous for its excellent University and other cultural attractions, is more noted for its contribution to the evolution of next-generation money, being the home of the Bristol Pound (the B£). Here’s a B£ fiver, accepted at par at a number of local merchants. The notes are lovely: this one features art from local children.

Bristol Pound

Now, while the notes are lovely, they have one distinct feature that sets them apart from the Bank of England’s rival product: they carry an expiry date. I think this might be something to do with the law of the land and crude attempts to maintain the Bank’s monopoly over currency rather than an economic calculation about hoarding, but nonetheless it does mean you’d be unwise to stuff them under your mattress and forget about them. If you get one, get out and spend it.

Bristol Pound

The B£ has been around for a few years. It’s made the jump from paper currency to digital currency already and if you download the B£ app, then you can pay with it at a number of local businesses. Those businesses can also transfer money peer-to-peer within the system to pay their suppliers. I didn’t get a chance to try this out because to get a B£ account you have to have a Bristol postcode so I shall harass some poor student into to trying it out for me and report back. Meanwhile, here’s the app in action at the Watershed Cafe.

Bristol Pound

So why am I writing about the B£ now? Well, the B£ is about to undergo a pretty revolutionary change. To understand why, first recall that strictly speaking while the B£ has some characteristics of a currency (you can pay your council tax with it, for example) it isn’t an independent currency. Rather, it is a form of “currency board”, an arrangement that provides for a fixed exchange rate against some other currency. The B£ in circulation are backed by a 100% reserve held in another currency. In this case, the other currency is Sterling. That Sterling is sitting in an account at the credit union. So far, so Ecuadorian.

Talking about Sterling, you’ll recall that almost all of the Sterling in existence (well, 97% of it) was created as bank credit. This happens when you pop down to, say, RBS to borrow ten grand to buy a car. At this point RBS just invent the ten grand out of thin air on a spreadsheet somewhere and add it to your account. You then send his imaginary money through the faster payment service (FPS) to the car dealer and it ends up in their account. They pay some out in wages and it ends up in employees accounts. Some of those employees deposit it in the RBS and so on and on. I know it sound implausible, but I can assure you that it’s true: our money is just made up.

B£ don’t work this way. Right now, if you could go to the credit union to borrow B£, then could only lend you the B£ that they had received as a deposit from savers. This autumn, however, B£ are going to become real money, in the sense that they are going to start making the stuff up and lending it to small businesses in the community. The loans will be made in B£ and will be repayable in B£.

Bristol Pound

I’m very interested in the world of complementary currencies and am always curious to see new experiments in the field. In Meyer and Hudon’s paper on “Money and the Commons: An Investigation of Complementary Currencies and their Ethical Implications” at the Solvay Brussels School of Economics and Management (May 2018), they distinguish between “social commons” and “commercial commons” as frameworks for new kinds of money and these categories broadly correspond to the notions of private currency and community currency that I explore in “Before Babylon, Beyond Bitcoin”. The B£ is born in the social commons and is intended to stimulate economic activity with its community.

I used to be sceptical about this kind framework and much more interested in the commercial framework because a collection of interlinked community currencies seemed to me less economically efficient in aggregate. I still think this is true, but it may not be the point. I’m wondering if we may need to explore ways to increase economic activity within communities at the expense of inter-community transaction costs as a response to inequality and the unrest that it may cause. This has implications, because (as I wrote for Quartz recently) if communities rather than individuals become central to money creation then these currencies will be imbued with the values of the communities that create them.

This will be a really interesting experiment to see if a social currency can genuinely stimulate a local economy and, as I am very interested in the specific example of city-based social currencies because of my feeling that communities have some role to play in the future of digital money, I will be following the B£ credit experiment with interest and will report on its progress in due course.

Incidentally, I do feel bound to mention one obvious improvement that might be made to the app. I think a button to add a tip might be usefully provided.

Bristol Pound

By the way, I happen to have three of the lovely Bristol tenners on my desk even as I write and I will cheerfully hand them to the first three people who ask for them in the comments below so that they can visit that lovely city and try out some new money for themselves.

Happy Birthday Credit Card Industry

Today is a very important day for us payments nerds. It’s the 60th anniversary of the “Fresno Drop”, the birth of the modern credit card industry. On 18th September 1958, Bank of America officially launched its first 60,000 credit cards in Fresno, California, setting in motion an experiment that changed the American way of borrowing, paying and budgeting.

And, in time, changed everyone else’s way of doing those too.

If you want a good introduction to the history of the credit card, from the Fresno Drop up to the Internet, I’d recommend Joe Nocera’s “A Piece of the Action“, which I read many years ago and still pick up from time to time.

If you want to spend five minutes having a quick look at where the modern credit card business comes from, here’s the short version (courtesy of CNN Money)The most extraordinary episode in credit card history is the great Fresno Drop of 1958. The brainchild of a Bank of America middle manager named Joe Williams, the “drop” (which is marketing-speak for “mass mailing”) was an inventive tactic to give Americans their first highly addictive taste of credit card living. Keep in mind that charge cards in those days–like Diners Club or American Express–were mainly used by jet setters, businessmen on expense accounts, and ladies who lunched… Williams wanted to change that. In September 1958, he mailed out 60,000 credit cards, named BankAmericards, to nearly every household in Fresno. Mind you, these cards arrived in the mailboxes of people who had never seen–let alone applied for–a card like that. But now thousands of ordinary people suddenly found that thousands of dollars in credit had literally dropped into their laps…

There you go. Now you can go ahead and bore at least one person today with the story of the Fresno Drop. I know I will.

As you might expect, I cover this episode in my book Before Babylon, Beyond Bitcoin, where I point out that what is sometimes overlooked from our modern perspective is that the evolutionary trajectory of credit cards was not a simple, straight, onwards-and-upwards path. For the first decade or so, it was far from clear whether the credit card would continue to exist as a product at all, and as late as 1970 there were people predicting that banks would abandon the concept completely. What changed everything was a combination of regulation and technology: regulation that allowed banks to charge higher interest rates and the technology of the magnetic stripe and Visa’s BASE I online authorisation system. This changed the customer experience, transformed the risk management and cut costs dramatically while simultaneously allowing the banks to earn a profit from the business.

It looks more than a decade for the Fresno drop to turn into the mass market business, integral to the economy, that we know today. So what financial technology experiment of our days will be of similar magnitude a decade because of regulatory and technological change a year from now? My guess would be something to do with tokens, but I’d be curious to hear yours.

Tokens and Twincoins

For some time – since when I first began jotting down an outline for my last book, in fact – I have been boring clients, colleagues and carvings senseless with my mantra that while Bitcoin isn’t the future of money, tokens might well be. What’s more, as I have presented more than once, those tokens will have an institutional relationship with “real world” assets. Now I see that none other than noted cryptocurrency investors the Winklevii have launched just such as product. Gemini Trust, their cryptocurrency exchange, has won approval from New York finance regulators to launch Gemini Dollars.

These are tokens on the Ethereum blockchain that are pegged in value to the U.S. dollar (in other words, they are kind of digital currency board). State Street Bank will hold the reserve of one greenback for every token issued and, I assume, they will be redeemable on demand and at par.

Now, I know nothing about entrepreneurhip or venture investing or creating cryptoasset trading platforms, but I think they are on to something. Many people will want to hold dollars as digital bearer instruments rather than as a bank balances. When my smart contract sends a Gemini dollar to your smart contract, that’s pretty much that. It’s inexpensive and fast.

This idea of using cryptocurrencies to support tokens linked to something in the real world is hardly new. But it’s becoming something of a focus now. Kevin Werbach published a very good article about tokens on the Knowledge @ Wharton site recently. He set out a useful taxonomy to help with discussion and debate around the topic, saying that

  • There is cryptocurrency: the idea that networks can securely transfer value without central points of control;

  • There is blockchain: the idea that networks can collectively reach consensus about information across trust boundaries;

  • And there are cryptoassets: the idea that virtual currencies can be “financialized” into tradable assets.

I might use a slightly different,  more generalised approach (because a blockchain is only one kind of shared ledger that could be used to transfer digital values around), but Kevin summarises the situation exceedingly well. His perspective is that cryptocurrency is a revolutionary concept but the jury is still out on whether the revolution will succeed, whereas the shared ledger and the assets that might be managed using those shared ledgers are game-changing innovations but essentially evolutionary. The idea of such assets, which I will label digital bearer instruments, goes back to the long-ago days of DigiCash and Mondex, but the idea of implementing them using technology that is (in principle) available to every single person on the planet is wholly new. 

This combination of the revolutionary but unproven and the evolutionary but nevertheless game changing fascinates me and I’ve been exploring it in a number of different areas. One such area is money, of course, and more particularly the notion of central bank digital currency. I feel this is often discussed in a confusing way (not by me). I see articles on the topic that almost randomly switch between “digital currency”, “cryptocurrency” and “digital fiat” to the point that they are essentially meaningless. So I thought it might be useful to build on my work and Kevin’s perspectives to create a worthwhile framework for exploring the topic.

Let’s begin by exploring what the central concept is all about. Ben Dyson and Jack Meaning from the Bank of England discuss a particular kind of central bank digital currency (what some would call  “digital fiat”) with quite specific characteristics.

  1. Universally accessible (anyone can hold it);

  2. Interest-bearing (with a variable rate of interest);

  3. Exchangeable for banknotes and central bank reserves at par (i.e. one-for-one);

  4. Based on accounts linked to real-world identities (not anonymous tokens);

  5. Withdrawable from your bank accounts (in the same way that you can withdraw banknotes).

This seems to me to be quite sensible definition to work with. So, digital fiat is a particular kind of digital money with these specific characteristics. We can now start to fill in the blanks about how such a system might work. For example, should it be centralised, distributed or decentralised? Given that, as The Economist noted in an article about given access to central bank money to everybody, “administrative costs should be low, given the no-frills nature of the accounts”, and given that a centralised system has the lowest cost, that would seem to point toward something like M-PESA but run by the government.

There are, however, other arguments in favour of using newer and more radical technological solutions., not least of which is our old friend privacy. Again, as The Economist notes, people might well be “uncomfortable with accounts that give governments detailed information about transactions, particularly if they hasten the decline of good old anonymous cash”. However, as I have often written, I think there are ways to deliver appropriate levels of privacy into this kind of transactional system and the pseudonymity is an obvious way to do this efficiently within a democratic framework.

Aside from privacy, there’s another argument for moving to new technology rather than a centralised database, and it has come to the fore in the light of the recent Visa Europe systems collapse, which is what to do to make such a digital money system, 99.999% available. Here is where new technologies might be able to deliver the step change that takes us into the realm of practical digital fiat. Such a payment system would be an element of critical national infrastructure, which is why it might be worth looking at some form of shared ledger technology, possibly even a blockchain of some kind, in this context.

Here’s my take on the situation, then, with a diagram that I’ll be showing at Future Tense in Zagreb on 2nd October. It is congruent with Kevin’s taxonomy but adds the “digital identity” layer to show that the token trading might be pseudonymous in most practical circumstances within specified limits. 

Digital and Crypto Layers

 

In this formulation, we have a digital value layer that may or may not be implemented using a blockchain to create the bearer instruments, then a cryptoasset layer built on top of that (let’s put one side what the different kinds of cryptoassets might be as for this discussion I’m only interested in digital money) and then a digital identity layer on top. My assumption is that cryptoassets will be implemented using what some people call “smart contracts” (I prefer the term “consensus applications”) and the general term for these vehicle used to move these assets is the “token”. So I hope you can now see how the world of Bitcoins and tokens and Initial Coin Offerings (ICOs) and blockchains and digital identity all come together here.

So. If this is sensible way to implement money, as the Winklevii and others seems to think, who will manage the assets that are linked to these tokens? The first and most obvious possibility is commercial banks, as in the case of Gemini Coin. But there are others, as I set out in my most recent paper, and I’ll be exploring all of them in Zagreb. See you there.