Federal Reserve Board Governor Speaks on Cryptocurrencies, Digital Currencies, and Distributed Ledger Technologies

On May 15, 2018, Federal Reserve Board Governor Lael Brainard delivered a speech at the Decoding Digital Currency Conference, sponsored by the Federal Reserve Bank of San Francisco, outlining some of her own thoughts on cryptocurrencies, digital currencies, and distributed ledger technologies. 

Cryptocurrencies

With respect to cryptocurrencies, Governor Brainard noted that “[t]his combination of a new asset, which is not a liability of any individual or institution, and a new recordkeeping and transfer technology, which is not maintained by any single individual or institution, illustrates the powerful capabilities of today’s technologies.” 

But she also warned about “serious challenges” surrounding cryptocurrencies.  For one, cryptocurrencies have been subject to periods of “extreme volatility,” limiting its ability to fulfill basic functions of any money (namely, acting as a stable store of value and serving as a meaningful unit of account). 

Governor Brainard added that cryptocurrencies raise investor and consumer protection issues, especially in light of breaches of cryptocurrency exchanges and services.  “Ultimately, a more holistic approach to the security of the broader cryptocurrency ecosystem, along with added layers of security on top of cryptography, are likely to be necessary for cryptocurrencies to be widely adopted.”  Governor Brainard further observed that some cryptocurrencies appear “quite vulnerable” to money-laundering problems. 

She concluded her thoughts on cryptocurrencies with the point that their relatively small scale in relation to the broader financial system and limited connections to the banking sector suggest that they do not pose a present danger to financial stability.  Nevertheless, Governor Brainard indicated that the Federal Reserve “will continue to monitor cryptocurrencies as they evolve, with particular vigilance for any signs of growing materiality to the broader financial system.”

Central Bank Digital Currencies

Governor Brainard then turned to the idea of central bank digital currencies as alternatives to cryptocurrencies, outlining several problems with this idea.  Such currencies pose the risk of creating global targets for cyberattacks and avenues for money laundering (similar to traditional cryptocurrencies).  She also worried that the issuance of a central bank digital currency could displace and weaken retail banking, causing broader macroeconomic consequences.  Lastly, Governor Brainard asserted that such currencies are a solution in search of a problem, since most U.S. consumers and businesses already make retail payments electronically, while people increasingly make peer-to-peer digital payments through a variety of mobile apps.

Distributed Ledger Technologies

Governor Brainard’s final topic was distributed ledger technologies, decoupled from their cryptocurrency counterparts.  While she believes that such technologies “could improve the way we share information, validate possessions, and handle logistics,” she also outlined a few caveats. 

For instance, Governor Brainard said that “loose governance” around the maintenance, security, and reliability of the technology for cryptocurrencies will need to be strengthened “to provide the coordinated operational and financial risk management for the critical clearing and settlement operations that underpin our financial markets.”  She also touched upon issues regarding confidentiality and recordkeeping requirements, warning that “[t]he financial industry . . . must develop distributed ledgers that adhere to laws, regulations, and policies that protect important information of the parties and their customers.” 

Despite these cautions, Governor Brainard ended on a more positive note.  “[P]erhaps the biggest potential benefit for payments, clearing, and settlement of distributed ledger technology may be resiliency,” she stated.  “Distributed ledger technology may enable a network to continue to operate even if some of the nodes on the network are compromised because of the ability of the other nodes in the network to pick up the slack and continue processing transactions.” 

Takeaways

Governor Brainard concluded that she “remain[s] optimistic that the financial sector will find valuable ways to employ distributed ledger technology in the area of payments, clearing, and settlement in coming years.”  In the past, the Federal Reserve has been relatively reticent among regulators on the topic of cryptocurrencies and distributed ledger technologies.  This makes Governor Brainard’s extended treatment of these topics in her speech especially illuminating.  It will be interesting to see if the Federal Reserve and its Board of Governors grow more vocal about these topics down the road, and we will continue to listen with interest.