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China’s Challenge & the Digital Dollar

Frederick Kempe

Chinese officials have made it no secret that their greatly accelerated efforts at introducing and distributing the digital yuan are an opening move in their long-term strategy to undermine the dollar’s global supremacy and expand their influence.

Despite that, leading US financial officials have rolled their eyes at any suggestion that deeper dangers lurk for the dollar, and thus also for US national security, in the global digital currency race. Even as China marches forward and bitcoin’s market value reaches one trillion dollars, the US Federal Reserve had been in no hurry to be a contestant.

Until now.

This week marked a public turning point for the most significant US government officials engaged in international finance—Treasury Secretary Janet Yellen and Federal Reserve Chairman Jerome Powell. Josh Lipsky, director of the Atlantic Council’s GeoEconomics Center, tweeted that it marked “the firing of a starting gun.”

At a New York Times event on Monday with Yellen, a question from CNBC’s Andrew Ross Sorkin prompted the Treasury Secretary’s most full-throated encouragement yet of a digital dollar, or Central Bank Digital Currency (CBDC). Though Sorkin called Yellen’s attention to an Atlantic Council survey with Harvard’s Belfer Center, which shows that seventy countries are now exploring digital currency, Yellen’s focus was instead on the domestic good a digital dollar could do for Americans.

“I think it makes sense for central banks to be looking at it,” said Yellen.

“I gather that people at the Federal Reserve Bank of Boston are working with researchers at [the Massachusetts Institute of Technology] to study the properties of it. We do have a problem with financial inclusion. Too many Amer-icans really don’t have ac-cess to easy payment syst-ems and to banking acco-unts. This is something that a digital dollar, a central bank digital currency, could help with. And I think it could result in faster, safer, and cheaper payments.”

In congressional testimony a day later, Powell also broke new ground, calling the digital dollar “a high priority project for us.” He added, “We are committed to solving the technology problems, and consulting very broadly with the public and very transparently with all interested constituencies as to whether we should do this.”

Yet while the Fed consults, China executes.

Neither Yellen nor Pow-ell mentioned China’s gro-wing lead in digital currency development, yet that was the context. Their call-to-action coincides with China’s announcement earlier this month of a significant partnership with the European-based cross-border payment system SWI-FT, removing all doubt that Beijing intends to internationalize the digital yuan.

At the same time, China has concluded a free trade agreement (FTA) with Mauritius, its first with an African country, in a deal that is designed to create a digital financial testing ground. “As China evolves its digital currency plans, it may ultimately be Mauritius that leads in this area for Africa,” write experts Lauren Johnston and Marc Lanteigne for the World Economic Forum. The FTA agrees to promote “the development of a Renminbi clearing and settlement facility in the territory of Mauritius.”

This all comes as Beijing authorities took advantage of Chinese New Year celebrations on February 12 to deploy three large-scale pilot projects to distribute digital yuan worth roughly $1.5 million in “red packets” with about thirty dollars each. Then this week, China expanded its testing program of digital currency handouts to the city of Chengdu, the capital of Sichuan province and the fifth most populous city in the country, where it is distributing some six million dollars in digital yuan.

China’s ambition appears to be laying the groundwork now for the digital yuan’s coming out party at the end of 2022 at the Winter Olympics in Beijing. The speculation is that Chinese organizers might require that all attendees and athletes download an app that would ensure all their payments at the games for hotels, tickets, food, souvenirs, and more are conducted in its new, digital currency. Even if one does not experience a physical boycott of China’s Olympic games, watch for digital boycotts by the United States and other teams.

It is hard not to compare China’s current lead in digital currency development, shrugged off by US officials until now, to its early global lead in developing the 5G standard. Until the Trump administration responded alongside Western manufacturers, no one could compete with Chinese 5G providers and equipment manufacturers globally, the most dominant among them being Huawei.

China’s consistent prioritization of technological a-dvancement underscores its recognition that throughout history the country that has taken the technological hi-gh ground in its era has m-ost often also been the do-minant international actor.

If the United States loses the high ground of financial technological innovation, combined with a weakening of the dollar’s global dominance, the benefits for Beijing would be considerable.

China’s different approach to privacy provides it a competitive advantage. The US and European need to satisfy privacy concerns will complicate CBDC development. Conversely, Beijing sees the digital yuan as a way to further strengthen its already formidable surveillance state, while also improving its ability to combat money laundering, corruption, and terrorist financing.

In a newly released paper published by the Center for a New American Security (CNAS), authors Yaya J. Fanusie and Emily Jin capture how deeply China understands the geopolitical importance of its digital currency project. They relate how Yao Qian, the former head of the People’s Bank of China’s Digital Currency Research Institute, compared China’s digital currency progress to the country’s previous advances in robotics, big data, and artificial intelligence.

Speaking before a United Nations information technology conference, “Yao posited digital currency as part of ‘the Next War,’” write the authors, referring to an article of that title in the Economist that discussed technology’s central role in US-China competition.

The Fed worries about being too hasty in introducing a digital dollar, given the stakes as the world’s reserve currency. The greater geopolitical danger, however, is how quickly the Fed is falling behind.

The United States can still win this contest if it not only quickly develops a digital dollar, but also collaborates on the creation of a digital euro, a digital pound, and a digital yen. The total firepower of these currencies would close the innovation gap quickly. It would also demonstrate the value of working with allies, a centerpiece of US President Joe Biden’s foreign policy.

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