When bitcoin was introduced, many believed that this blockchain based crypto coin would replace the “old” money like the euro and dollar (also known as “fiat” money). All payments would be made in crypto. Fiat would become obsolete. Users wouldn’t need banks anymore. They would trade freely, globally and independently. Furthermore, blockchain would enable additional smart contracts to automate myriads of transactions.
This has not happened. Fiat money remains dominant and bitcoin use is hardly growing, if not declining. Blockchain is rapidly growing but its deployment is often held back because there is no smooth interaction between blockchain and fiat money.
There are many reasons for the lack of success of bitcoin. From a business point of view, bitcoin is a disaster: its exchange rate is far too volatile to be useful in any serious business. On top of that, the lack of central points of control makes bitcoin an ideal instrument for laundering money or collect income from criminal activities. (There are also technical issues (e.g. bitcoin’s energy consumption, number of transactions per second, cost per transaction). I won’t take those into consideration here, since there are 2nd and 3rd generation blockchains that have overcome many of these issues and could therefore be used to generate coins to replace bitcoin.)
Given the undeniable advantages of blockchain, I wanted to know if it would be possible to combine blockchain with fiat money. To turn the euro into a cryptocurrency. To “tokenize” the euro. In order to provide for a euro that functions as a cryptocurrency, but doesn’t have the bitcoin volatility.
This appears to be remarkably simple.
To get there, one has to focus on what blockchain is exactly. I won’t go into technical details, but focus instead on its main characteristic: blockchain provides an immutable ledger. It is just that. To me, at first that didn’t sound too exciting, until I realized that nowadays, outside of the blockchain, nothing digital is immutable: all information can and will be tampered with. Which is one of the main reasons why we still have banks to store our money: they built large and expensive systems to protect the digital ledgers that state the euros we own. Banks are big and massive to provide some comfort that, even if something goes wrong, they can refund us the euros lost or stolen.
Blockchain’s immutability makes all of that obsolete. Blockchain is just made to store information about ownership in an easy, transparent and safe way. Blockchain is the ideal administrative tool to register money and transactions made with it.
Bitcoin is the proof of that. People are willing to pay thousands of euro’s for a non-fiat coin: backed by nothing, regulated through nobody. It gets even more interesting if one looks deeper at what a bitcoin actually is: a bitcoin is nothing more than a registration on the bitcoin blockchain (the ledger) that states that a specific account is allowed to transfer that bitcoin. Legally one could call that ownership. The account holder “owns” the bitcoins that the system attributes to it. So, strange as it may sound, that account holder owns a transferable registration of bitcoin on a computer system. Yet one can be rich just owning that.
So if we want to have a crypto euro, how do we do that? How could we tokenize the euro?
First of all one has to grasp what owning a euro actually means. People that “own” euros, do not have physical banknotes in a cupboard at home. They own a claim on the bank for the amount of euros the bank owes them. A claim that is registered in the bank’s systems. Owning one euro means that the bank owes you one euro. Only if people lose trust in a bank, they go to the bank to get a physical euro coin.
How much a person owns is registered with the bank. The bank’s ledger determines that amount. A payment of one euro made online or in any other way than handing over the coin, simply means that one transfers a claim on a bank of one euro to another person. So if a person pays another person one euro that other person’s claim on the bank becomes one euro higher and the paying person’s claim on the bank becomes one euro lower. If both the payer and receiver, are clients with the same bank, this is easily accomplished by adjusting the amounts registered in both their ledgers. If they are client with different banks, the two banks work together through inter banking accounts to accomplish that the receiving person owns one euro more by registering with the receiving person’s bank that the receiving person’s claim on his bank is one euro higher. And, of course, that the paying person’s claim on his bank is one euro lower. The euro is transferred to the bank of the receiving person by a similar system: it is noted in a ledger.
So paying and owning euros is all about ledgers. Tokenizing the euro means using another ledger. A ledger that is not owned by a bank but runs independently: on a blockchain. An immutable ledger that secures that the number of euros nor the account holder can be tampered with. A euro registered with a certain account, is “owned” by the holder of that account. Similar to how people own bitcoin.
To answer the question if this tokenizing is possible, I will analyse what would happen if a euro is transferred to the blockchain (and back) and what happens if payments are made through that system.
Transferring one euro from a bank account to a blockchain account, means that the bank registers in its ledger that the claim of that bank account holder is one euro less while the blockchain registers that the holder of the blockchain account is entitled to transfer one euro more. Or, rather, that that holder of the blockchain account “owns” one euro more.
What happens when payments are made using the blockchain? Between two persons that both have blockchain accounts, the blockchain just registers change of ownership. The amount the paying person owns, is lowered and the amount the receiving person owns is higher. Similar to payments made by two persons that use the same bank. If a person pays a euro to another person’s bank account, the bank will be registered as the “owner” on the blockchain and that other person is registered in the bank’s ledger as holding a claim on the bank for that euro.
All of this seems perfectly possible.
There is a catch however: a claim on the bank would entitle the person that has it, to demand payment in cash from that bank. In physical banknotes.
That is awkward in extreme circumstances where 1. people would stop trusting the blockchain and transfer all their crypto euros into their bank accounts and 2. then also stop trusting the banks and 3. demand hard cash (2 and 3 resulting in a bank-run). The lack of liquid assets that in the event of a bank run could finish a bank, cannot be fixed. As it cannot be fixed without the blockchain. The blockchain might, however, add to the panic, since it could be difficult to predict to which bank people would transfer their crypto tokens. This could be mitigated, if necessary. One could create a central cash pool. One has to realize here that if we would tokenize the euro, wholly or partly, the amount of euros doesn’t change and neither does the amount of cash that is needed to ensure trust in the system.
Alternatively one could just rule that tokenized euros cannot be cashed in. That does make sense: tokenized euros are not affected by bankruptcies of any bank and not even by a bankruptcy of all banks. Therefore there is no reason to exchange the tokenized euros into hard cash. One could further argue that the price for not running the risk of bankrupt banks anymore, is that one forfeited the right to turn their registered euros into cash. (As a side note: cash is still a privacy friendly way of paying, we shouldn’t get rid of all cash without having effective privacy protection. This matter, however, is an issue in the current, non tokenized situation already).
So, tokenizing the euro is simple. It would mean a giant leap forward. The technology is there. It will bring us a payment system that is easier to use, offers a myriad of possibilities, is insensitive to failing banks, open to everyone and much cheaper and more robust.