China is at a point where it needs to make decisions regarding cryptocurrencies that will have long-run consequences.
Based on news in the english language media, one gets the impression that China is out to destroy cryptos. (a) Chinese miners have had their bank accounts frozen in a bid to stop money-laundering using cryptos, (b) Miners are unable to pay electricity bills as the crackdown on exchanges has left them unable to convert their mined cryptos to fiat Renminbi, (c) Star Xu, CEO, and Co-Founder of OKex mysteriously disappeared for a while, (d) Robin Zhu, COO of Huobi arrested, etc.
Why would China want to destroy cryptos?
1. China is putting its weight behind DCEP (China’s CBDC- Central Bank Digital Currency) which they hope will replace the USD as the global reserve currency. Bitcoin might undermine DCEP.
2. China has always had currency controls. As China’s wealth has grown, the rich have used real estate to transfer their money abroad. The mechanism was fairly simple. They’d deposit RMB in a China branch of say HSBC and use that as collateral to buy property in say Hong Kong. Now that this avenue is not easily available, the rich are using bitcoin to move money out of China. According to a report by Chainalysis, over $50bn worth of cryptocurrency moved from China-based wallets to other parts of the world last year.
While the above are credible reasons for China to be concerned, it might be missing the bigger picture
The country that loses the most from the growth of bitcoin is the US. The status of the US Dollar as a global reserve currency gives the US an unfair advantage in global trade. If bitcoin usurps the position of global reserve currency then China and the US would be on a level playing field.
Then why is maximum innovation in cryptos happening in the US? Shouldn’t the US be squashing all crypto developments?
The US knows that a level playing field is a myth. One side always has an advantage. The country with the edge in the Bitcoin world would be the one that dominates the Bitcoin ecosystem- including mining, regulation, and ownership of bitcoins.
Mark Zuckerberg had once said, “if we don’t create things that kill Facebook, somebody else will.” This spirit of innovation perhaps permeates through the country. The US Dollar has had a good run. It was fun when it lasted. Time to prepare for the new era!
Vijay Boyapati in his outstanding article, The Bullish Case for Bitcoin says “The Russian and Chinese governments have not yet awoken to the geo-strategic benefits of Bitcoin as a reserve currency and are currently preoccupied with the effects it may have on their internal markets.”
China should not squander its dominance in bitcoin mining
According to a bitcoin mining map by the University of Cambridge, China accounts for 65% of the word’s hash power and America is a distant second at 7.24% followed by Russia (6.9%), Kazakhstan (6.17%), Malaysia (4.33%), Iran (3.82%).
If China cracks down on mining, then mining will simply move elsewhere. Does China want that? China’s current dominance in Bitcoin mining is making the US very uncomfortable. Would China want to give that up?
Bulk pre-order of mining chips are apparently sold out till May’2021. Many of these orders have come from the US while demand from China is dwindling. (a) Riot Blockchain which aims to be among the largest bitcoin miners in North America purchased 8,000 top-end Bitmain S19 Pro Antminers. (b) Barry Silbert of Grayscale put a big bet on mining in the US when Grayscale committed to investing $100mn in Foundry, a crypto mining firm. (c) In July, Bitmain signed the biggest deal on record selling 17,595 S9 Antminers to US-based Core Scientific over the next 4 years.
=> All this seems to indicate a concerted effort by the US to develop mining capacity mining.
* US dominates in crypto innovation.
* US dominates in full mining nodes.
* US dominates in the crypto regulation discussions.
* US (arguably) dominates in bitcoin ownership.
=> Does China really want the US to become the leader in bitcoin mining as well?
US appointing crypto-friends as regulators
While China is cracking down on crypto firms, the US has just nominated a crypto ally and former employee of Coinbase, Brian Brooks to head the Office of Comptroller of Currency(OCC), the organization that regulates banks. Brian Brooks is someone who has instructed banks not to discriminate against crypto firms. The view he has expressed repeatedly is that if a firm is abiding by regulation and has robust risk management systems then they shouldn’t find it difficult to access banking services
Janet Yellen, former Fed Chair is being considered for the post of Treasury Secretary. While she has in the past said that she is not a fan of cryptos, she has also said that financial regulators should not stifle innovation.
China’s CBDC (Central Bank Digital Currency)
China is fully committed to DCEP (China’s digital currency) which is likely to help carry out monetary and fiscal policies more efficiently and potentially catapult RMB to the position of the global reserve currency. The US on the other hand is less gung ho about CBDCs. It is participating in CBDC discussions but taking its time to understand the benefit of CBDCs in a world where currencies are already mostly digital. It would rather wait for other jurisdictions to launch and make mistakes that they can learn from.
=> So we’re in this almost bizarre situation where China is in a CBDC arms race but it is not clear with whom. It can’t care too much about Bahamas and Combodia (both of whom recently launched their own CBDCs). China is gunning for a fight but the US is refusing to play.
Maybe it'll be a prudent strategy to put some eggs in the crypto basket while continuing innovation in the CBDC basket?
The right question to ask is - “Is ending cryptos in China’s interests?
China is nothing if not logical in its pursuit of self-interest. On this, it scores over other countries that get swayed by emotions and egos and public opinion.
What we read in the English media might not be the full picture. While we get the impression that China is squashing mining, it might actually be working on consolidating and regulating the fragmented industry. With the US big shots entering the fray, cheap electricity alone might no longer be enough to maintain dominance. Professional management is the need of the hour.
When China introduced strict regulation against crypto exchanges, Binance moved its head office to Hong Kong, from Hong Kong to Japan, and finally from Japan to Malta. With the expectation of action against Huobi, funds got transferred from Huobi to Binance.
=> Net-net, banning is unlikely to end cryptos. It is only likely to end crypto innovation in China.