Cryptocurrencies and Blockchain may not to be in line with policy objectives and nation-states, especially with the emergence of Libra and policy makers’ reaction worldwide. However, some collaboration areas have Bitcoin and cryptocurrencies to reduce the volatility generated by the conventional financial system
The 2008 Great Recession showed the weaknesses and strengths of an integrated global economy and stimulated political innovations to leave the silo of monetary policy, nation by nation. A mechanism suggested for doing this was to increase currency swaps: open lines where central banks agree to exchange their national currencies with each other to help alleviate financial problems in foreign jurisdictions increasingly affecting globalized national currencies.
This was tested on the Chiang Mai Initiative (CMI) and the Asian financial crisis, but it was during the 2008 global financial crisis when this regional configuration first became a global reality and it is only now that cryptocurrencies and Blockchain are playing an experimental role.
In 2017, the Federal Reserve (Fed) extended US dollar swap lines with the European Central Bank (ECB) and the Swiss National Bank (SNB), allowing them to meet the domestic demand for US dollars. The European and Swiss demand for this currency was affecting short-term financing markets and interest rates. Currency swaps allowed the Fed to reduce pressures without directly financing foreign banks; thus, the ECB and the SNB intervened in its place.
The Fed voted to extend the swap lines to other established G10 central banks, as well as to less established central banks “as necessary to address the tensions on the money markets in other jurisdictions.”
However, the Fed is not alone, since the ECB would send euros to Sweden, and the SNB would send Swiss francs to the ECB. Banks worldwide had borrowed too much money in foreign currencies, and central banks needed to have reserves in those foreign currencies to meet demand. In effect, a global and integrated economy needed a coordinated monetary response.
Some Latin Americans
It is difficult for central banks to decide to whom to extend exchanging lines, so they need to analyze which governments and banks outside of the G10 can have that privilege. The Fed decided to extend the swap lines to Brazil, Mexico, Singapore and South Korea, which were not established as G10 members. The instability in those economies could have affected the US economy; however, the criteria for choosing those countries showed what happened when a central bank, whose brand is based on trust, has to choose which other banks to trust.
Failing to Pay
In 2013, the Fed decided to keep indefinitely open the exchange lines it had open during the crisis, converting what had been a temporary solution into permanent support for the global financial system, ensuring that banks that borrowed foreign currency could cover some of the risks of non-payment of those debts.
Each extension of a currency swap creates a moral risk on the part of the issuer: European banks may have wanted US dollars because they had extended their debt capabilities too much in this respect. A currency exchange with the Fed guarantees that they will never face financial consequences for that overextension.
At a Business of Blockchain Conference held at the Massachusetts Institute of Technology, the FinTech Director of the Monetary Authority of Singapore, Sopnendu Mohanty, said: “The next wave of central bank blockchain projects can make further progress by bringing technology exploration together with policy questions about the future of cross-border payments.”
He also talked about distributed ledgers as a possible solution for dealing with central banks not as established in the global financial system as G10 central banks and explicitly mentioned the development of future pilot cross-border currency exchange projects stimulated by distributed ledger technologies.
The Canadian policy speech mentioning the national experiment in Distributed Ledger Technology or DLT (Jasper Project), in which the Bank of Canada was to embark, explicitly mentions the financing of cross-border currency trade and swaps. The Bank of Canada said that “one estimate suggests DLT could enable banks to save as much as $20 billion a year in global back-office costs if applied to cross-border payments, securities trading and regulatory compliance.”
Near-Instant Cross-Border Settlements
Of course, DLT can help solidify the formation of currency swaps, even among associated central banks with possible reasons to doubt each other. DLT and blockchains allow central banks to make almost-instantaneous cross-border settlements, which allow much-needed funds to flow quickly in times of crisis.
However, it is tacitly admitted that some of the principles generated by Bitcoin and cryptocurrencies have paradoxically addressed key points of weakness in the evolution of the global financial system.
Currency swaps are a view that domestic monetary policy is eroded by foreign money markets. However, the ability to perform transactions without a very high confidence threshold and the need to do so immediately can derive from a fundamental cryptocurrency principle.
By Willmen Blanco