What is the difference between a competition and a substitute? Let us take Indigo Airlines… The competition can be SpiceJet or Air India. But who are the substitutes? Those can be buses, trains, ships or cars…. But who is the biggest substitute for the airline? It is Zoom, Webex or Google Hangout (at least for business travels)

Similarly, let us see who are the competitions or substitutes to online payments?

Maybe ‘cash’… right? You can shower a thousand words of praise about online payments but cash is still cash… cash is the king… and I had written about it in this article.

There is one more important substitute… “Crypto Currencies”. Maybe not that much in the Indian context but as I mentioned about ‘crypto currencies’ in my last article, I thought I should write about it and I will start with the caveat that I have limited understanding of these currencies as I have never worked with them or invested in them but will try to explain those in simple words… so here you go

Crypto currencies are everything that you don’t understand about money combined with everything that you don’t understand about computers — John Oliver

What is money/currency?

That is a simple question… we all know ‘what is money’… right? … are you sure?

Investopedia defines money as “a medium of exchange for transaction purposes” — we started with goats (barter system), precious metals and now reached currencies (coins and banknotes)

What is a currency note?

There is not much difference between the note issued by RBI and the one designed by my daughter… as long as you “believe” that these have a value.

A currency note is nothing but a promise… a promise that the person holding it can exchange it for goods/services worth that amount and that is ‘literally’ printed on the note along with RBI Governor’s signature.

I PROMISE TO PAY THE BEARER THE SUM OF FIFTY RUPEES

With Rs.50 issued by RBI, I can buy anything worth Rs.50 in a grocery store. Even, Bantu Money also has a value, in exchange for her money, she allows me to watch the NEWS channel for 1 hour. The only difference is that the entire country believes in RBI notes and only 3 people in my house believe in Bantu’s notes.

So, if enough people believe something (be it seashells or pokemon trading cards or Bitcoin) has a value, then yes, those items will become currency for them.

How Crypto Currencies are min(t)ed?

You need to generate the currency… so the central bank will print currency notes based on various macro economic conditions (earlier it used to be against gold). Irrespective, a currency note is nothing but a loan and it’s expected that all currencies issued will return back to the bank. Expectedly, there is a limit to how much money you can print… If you print more, then you will push the economy to hyperinflation and that is what happened in Argentina and Zimbabwe.

In Crypto currencies, as money is created virtually, it is created by something called mining (a term that I am struggling to wrap my head around). Now let’s say computers do this “something” and money gets generated — but that doesn’t mean there is an indefinite supply of virtual money… if that is the case then these currencies will not have good value. Hence, there is a limit to how much virtual money you can create.

Ledger & Verification:

For government issued money, the central banks keep a track of it — how much is printed, how much is in banks and how much in circulation. As crypto currencies are mined by not one single authority/entity, everyone/node will keep the ledger. That is called distributed ledger. These distributed ledgers need to be updated every time there is a transaction.

Considering the central banks’ money is printed and managed by one entity, that entity has to provide systems/platforms to transfer it between entities. In India, for domestic transfers we have NEFT, IMPS whereas for cross-border transfers, we have outward & inward remittances.

In crypto currencies, there is no such barrier or central clearing house. Anyone can transfer money to anyone… but every time the transfer happens, distributed ledgers need to be updated. So basically, everyone (node) is keeping count of everything. (Here are the details)

Let’s summarise these points:

  • Money has value if everyone believes in it
  • Money can be created out of thin air
  • Keep the supply limited so it has value
  • Have ledger to keep the count
  • Have mechanism to exchange it

When these points are brought together, crypto currencies are born. And today, we have millions of crypto currencies with big ones such as Bitcoin, Ether, Dogecoin etc.

How can Crypto Currencies be useful?

Let me just give you a simple example. Let me use one of the fund flow diagrams of cross-border payments

Illustration: Traditional Vs. Crypto based

If you see, the transaction that usually takes 5–6 days is done within minutes. Think of it — there is no issuer, acquirer, forex fluctuations, clearing house/switch hassle, just simple wallet to wallet transfers. Wonderful, isn’t it? Even Elon Musk invested billions in Bitcoin.

What is the problem then?

The main concern with Crypto Currencies is, it is not issued by the Government or our central bank. And there is no clear end-to-end tracking of fund movement.

So the government will not allow the creation of a parallel money network that may allow black money, terror funding and may even undermine national security.

Crypto Currencies became the hottest topic of discussion in 2017 when their value rallied… a bunch of Crypto exchanges started… a lot of people started investing. Although few Payment Aggregators and banks facilitated payment services (to invest and withdraw), many big payment service providers and banks stayed away from this frenzy.

Then GOI/RBI banned them (Apr’18) and all the companies vanished. Only in 2020 (March), after the Supreme Court order, crypto exchanges started mushrooming again. But still, many banks and payment providers are not ready to work with these Crypto currency exchanges.

Way Forward

Will it change?

GOI stance is clear that it won’t consider Cryptos as legal tender (read here) and I am sure regulator and MoF will shut them (for a longer time).

Then the next point is GOI having its own virtual currency just like what China is doing. Does it really have value? Especially considering our domestic transfers are much more efficient (thanks to UPI, IMPS, NEFT) compared to other countries. Maybe we will wait till we know more about the shape, size and form of RBI’s digital currency.

Block chain / distributed ledger is an interesting topic and has many applications in KYC & supply chain management, including financial services. Many advocates of Crypto (including my friends) have high hopes and big words for Crypto. But at this point of time, “you cannot take ‘it’ to the bank” (pun intended).

Trying to follow Richard Feynman’s words “do what you can, learn what you can, improve the solutions, and pass them on”. < www.linkedin.com/in/kulkarniadi/ >

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