Blockchain for Microstates

Emerging new technologies such as blockchain are taking the world by storm. Some key innovations include so-called initial coin offerings (ICOs) that help startups bypass traditional capital markets to raise funds by issuing digital tokens or currencies.

Global regulators are scratching their heads as nearly 1,200 such digital tokens have been issued around the world, partly inspired by Bitcoin, the mother of cryptocurrencies, which has gone from technological enigma to household name within the past few years.

National jurisdictions are yet to form a consensus on what exactly to call these tokens and do not know exactly whether to categorize them as currency, security or commodity. Some, including China, have banned them outright while others such as Switzerland and Singapore have taken a more balanced approach. In places such as the US, different government bodies have defined them differently.

Cryptocurrencies here to stay

Regardless of the approach from the governments, one thing is for sure: cryptocurrencies are here to stay despite concerns by such heavyweights at Warren Buffett and Nouriel Roubini. G20 heads of central banks and finance ministers discussed the subject of cryptocurrencies when they met in Argentina in March while the International Monetary Fund deliberated on the issue extensively in its 2018 Global Financial Stability Report released last week.

The consensus among the global regulators is that blockchain as a technology has tremendous potential but they have flagged various risks such as money laundering, terrorist financing, as well as implications on consumer protection and market integrity.

Major global bodies such as the UN and the World Bank have highlighted the potential developmental effects of blockchain and cryptocurrencies and how these innovations could be harnessed for greater good, especially for the marginalized communities.

Cryptocurrencies are regarded as able to deliver major benefits, particularly to the world’s poor, who bear the brunt of high costs of the cross-border payment systems that run on the current financial infrastructure.

Governments experimenting with own models

Partly inspired by blockchain and Bitcoin (created in 2009, right after the global financial crisis), many governments have also been experimenting with their own state-backed digital currencies powered by blockchain technology.

They include countries such as Canada, Singapore, China and Russia, and the city of Dubai and (particularly, several Scandinavian states where the use of cash has dropped to a point where such options might be feasible.)

But the Bank of International Settlements has urged the global central banks to resist the temptation to the jump on the bandwagon by issuing their own digital currencies as it is hard to predict at this stage how it might impact financial stability.

Blockchain-based companies may have seen through the hypocrisy of this double standard among world governments and are coming out with innovative solutions powered by blockchain.

Sovereign states looking

A Miami-based firm known as Xentavo is already experimenting with a niche platform aimed at creating digital currencies for sovereign states. Robert Koenig, a long-time entrepreneur and one of the firm's founders, believes while the big states can wait because of their economies of scale, small countries – particularly those in the Caribbean islands, or in Asia, countries like Mauritius, Bhutan or The Maldives – could greatly benefit from blockchain.

Koenig is mulling a blockchain-based platform designed specifically for such “small states,” which are defined by the World Bank as countries with populations of less than 1.5 million people.

He says a combination of factors, including the unintended consequences of global regulations imposed on banks such as higher capital requirements, have led to a continuing decline in correspondent banking around the world.

This process of “de-risking” by major financial institutions has had a particularly severe impact on the tiny states that are having a difficult time meeting their cross-border financial transaction needs.

Shutting down financial crime

This is somewhat similar, if not related, to how anti-money laundering and terrorist-financing rules imposed in the aftermath of the financial crisis by the international bodies has actually had the ironic impact of forcing global banks to shut down the bank accounts of many aid agencies, charities and non-profits around the world under the pretext of financial crime, as reported by the Economist.

In addition, the plethora of rules implemented by the global standard-setters and the huge cost of complying with them means that major global banks would only do business with banks with a certain amount of assets. As a result, many small banks, notably from the Caribbean nation states, have been practically cut off from the correspondent banking relations in the US, for example, Koenig argues.

Given their size, many small states have a smaller pool of skilled professionals, and very high spending-to-GDP ratios, and in such cases, cryptocurrencies could allow them to “digitally run their monetary policy,” Koenig said. This is a long-term goal, however, and the platform would be adapted to suit the need of individual sovereign states and implemented at the speed suitable for them.

Currently, most smaller states have heavily-managed currencies, either through currency boards, or are linked to the US dollar and thus vulnerable to gyrations in the greenback, not to mention having to import money policy from abroad. Creating digital currencies could also address the high the cost of printing money (in such high-inflation countries as Venezuela, where the cost of the note itself might be higher than its nominal value.)

Help in natural disasters

In the event of natural disasters, of which small countries are often prone, the state authorities could immediately create more money on blockchain to help with relief efforts and reconstruction without having to wait for aid money, he said.

Such a blockchain platform would be – like Bitcoin – completely peer-to-peer and bypass the mainstream banking system. Unlike most cryptocurrencies, which are private, this would, however, be an equivalent of sovereign digital or “fiat” currency, and would not be traded on cryptocurrency exchanges.

Since the transactions happen on blockchain and are thus traceable, it would also help curb money laundering and terrorist financing, which is the major concern of the regulators.

Koenig wants to push the adoption of the platform among 50 of the world’s small states. It has found early backers from countries such as Belize and Dominican Republic, with officials from both countries sitting on its advisory board.

Since the ICO was announced on March 1, Xentavo has already raised nearly 10,000 units of Ethers, according to Koenig. Once the ICO is completed at the end of May, he is planning a roadshow in Asia to promote his blockchain platform for governments in the region.

While it might be too early to say where blockchain and cryptocurrencies are headed for, it is clearly leading to thoughtful innovations that might provide new, out-of-the-box solutions to nagging old problems.