The rise of the Internet has led to the digitization of many aspects of our lives, and money is no exception. Digital money, in the form of electronic versions of fiat currencies like the U.S. dollar, has become an increasingly important component of the 21st-century economy and financial system. A McKinsey report from 2022 revealed that 89 percent of Americans had access to some digital payment system.

But, in the 2020s, a growing debate has emerged about the future of digital money, namely whether the economy should adopt cryptocurrency or central bank digital currencies (CBDCs) as its preferred digital currency. Crypto users and investors claim that Bitcoin and other cryptocurrencies offer privacy, security, accessibility, decentralization, and other benefits over both current digital fiat currencies and CBDCs. On the other hand, supporters of CBDCs hope to lower costs and simplify transaction processes with the help of central banks.

Despite the controversy regarding the future of digital money, a strong case can be made for the advantages of crypto over CBDCs by highlighting the benefits of financial decentralization regarding freedom, privacy, and security.

Benefits of Cryptocurrency

A cryptocurrency is a digital currency protected by cryptographic keys that make it extremely difficult to counterfeit or double-spend. Bitcoin and other cryptocurrencies are decentralized entities stored on a digital blockchain ledger overseen by a distributed network of computers. No government, central bank, or large corporation is responsible for the issue of cryptocurrencies, which differentiates them from fiat currencies like dollars, pounds, yen, and yuan.

For many crypto enthusiasts, the decentralization of cryptocurrency is one of its greatest strengths. Since no central entity directly controls any cryptocurrency, it becomes possible for crypto users to protect their wealth from the inflation that results whenever the supply of a fiat currency increases. This could make crypto especially beneficial to individuals living in developing countries with unstable monetary systems. For example, many Venezuelans have turned to crypto over the last decade as government mismanagement of the money supply has led to hyperinflation and a rapid devaluation of the bolivar.

The decentralized nature of crypto also allows for greater privacy, accessibility, and security. Since crypto users do not register with any institutions when they open a crypto wallet, they have the ability to remain pseudonymous and protect their identities when conducting transactions. These crypto transactions are processed at low costs and high speeds due to the efficient, decentralized structure of blockchain networks. Furthermore, the lack of institutional infrastructure makes it possible for people without bank accounts to have access to the global financial system, including the possibility of sending money across national borders.

Another benefit of the decentralization of crypto is that it makes cryptocurrencies more reliable and less prone to failure. Specifically, it is possible for a cryptocurrency to dependably function even if several computers within the blockchain ledger are down (i.e., it is impossible for a cryptocurrency to collapse due to a single point of failure).

In addition, the independence of crypto from central control has made it possible for political dissidents around the world to use crypto as a fundraising mechanism for their causes. For example, in Myanmar, several pro-democracy activists and organizations have been using Bitcoin for fundraising as access to the traditional banking system has been blocked by the military dictatorship that illegally seized power in 2021.

Drawbacks of Cryptocurrency

Some critics of cryptocurrency have claimed that the promises of privacy and decentralization are often exaggerated. They point out that the pseudonymous, rather than anonymous, nature of blockchain transactions makes it possible to trace crypto users. Critics have also attacked the inequality of the distribution of cryptocurrency, noting that some “whales” have been able to amass large crypto holdings and create a concentrated rather than diffuse system of digital money.

Critics of crypto also view cryptocurrencies as highly unstable entities with unpredictable price fluctuations. Speculation, a lack of liquidity, and the disproportionate influence of whales have led to high levels of volatility and frequent price swings on crypto markets.

In addition, there are concerns that the pseudonymity of blockchain, while not technically amounting to full anonymity, would make it easier for criminals to evade law enforcement. Policing agencies have already reported an uptick in the use of cryptocurrency to launder money, defraud unsuspecting customers, and profit from the sale of illegal goods and services. Crypto Ponzi schemes have also grown more common in recent years.

Concerns about hacking have also been raised by cryptocurrency skeptics. The blockchain infrastructure that processes crypto transactions is itself resistant to cyberattacks. However, hackers have been able to access crypto wallets and exchanges to steal cryptocurrency. There is also the possibility of hackers buying up a majority of a blockchain’s computational power so that they could disrupt crypto transactions on the blockchain.

Benefits of CBDCs

A central bank digital currency (CBDC) is a digital currency issued by the central bank of a sovereign state. Like in the case of cryptocurrency, CBDC transactions are processed on a blockchain ledger. However, CBDC ledgers are directly controlled by a central bank, which contrasts with the decentralized structure of their cryptocurrency counterparts.

There are two proposals for CBDCs that would each grant a different role to the private sector: Wholesale CBDCs would allow private intermediaries to continue providing financial services to customers and businesses. Retail CBDCs would eliminate the need for intermediaries by allowing central banks to directly provide those services.

Supporters of CBDCs claim that they have the potential to lower costs and increase access to banking services. Direct connections between consumers, businesses, and central banks would eliminate the need for expensive digital financial infrastructure. The new CBDC infrastructure would process transactions much more quickly than the current financial system does. Lower costs would mean greater access to banking for the portion of the population that is currently unbanked.

CBDCs also have the potential to allow for more effective crackdowns on financial crimes. With a centralized ledger that contains information on the identity and transaction history of each user, law enforcement agencies will have an easier time tracing illegal transactions that are conducted on a CBDC.

Drawbacks of CBDCs

Critics of CBDCs have pointed out the threat to financial privacy posed by the centralization of digital money. The easy traceability of CBDC transactions would facilitate financial surveillance and allow governments to directly monitor how people spend their money. Privacy fears are a major reason for resistance to the implementation of CBDCs. For example, concerns of intrusive surveillance are a major reason for the failure of the e-yuan (the Chinese government’s nascent CBDC) to gain major traction among Chinese citizens.

CBDCs have also been criticized for their potential to bring about financial totalitarianism. Under a CBDC, a central bank’s control of a nation’s monetary and financial system would become absolute. CBDCs would enable central banks to add and subtract money to and from people’s bank accounts without any recourse from the private banking sector or democratically elected legislatures. Even wholesale CBDCs that nominally maintain the existence of private financial institutions will be tightly controlled and monitored by a central bank.

By establishing a direct “tether” between private individuals and central banks, CBDCs may empower governments to impose authoritarian restrictions on individual liberty. It could become much easier for governments to freeze and seize assets, often without due process protections. Governments would also have the ability to program spending controls into CBDCs by limiting the kinds and quantities of goods that people can purchase.

Some experts doubt the idea that CBDCs are actually more reliable and accessible than the mainstream system of digital currency. For example, the government of Jamaica rolled out a CBDC in mid-2022 to increase access to the financial system, but very few Jamaicans ended up adopting it. Preexisting know-your-customer (KYC) and anti-money laundering (AML) laws that made it difficult for low-income Jamaicans to access financial institutions, whether public or private.

In China and Nigeria, where private sector financial services have been thriving for many years, very few citizens were interested in accepting government-issued, CBDC-based alternatives. Both Chinese and Nigerian citizens viewed their respective governments’ CBDCs as less reliable than the preexisting private financial institutions that they are accustomed to using.

The Qualified Case for Cryptocurrency

Cryptocurrencies would likely be a better alternative to CBDCs in the long run. They both process transactions on blockchain ledgers, so they offer the potential of a cheaper, faster, and more reliable financial system.

However, the decentralized structure of crypto provides its users with a high degree of freedom, privacy, and security that CBDCs do not come with. In fact, the increased centralization of money under CBDCs would allow a small group of central bankers and government officials to directly control people’s financial assets.

To address concerns with the volatility and frequent price swings of Bitcoin and other potentially unstable cryptocurrencies, it would be possible to adopt stablecoins backed by traditional currencies, physical commodities, or other valuable assets. The availability of a broad range of cryptocurrencies like Bitcoin, Ethereum, and the various stablecoins would allow crypto users and investors to diversify their holdings and choose between varying degrees of risk and reward.

There is also not much reason to believe that crypto will be used for widespread criminal activities. The decentralized and pseudonymous structure of crypto may offer a degree of privacy protections from state and corporate actors, but it does not amount to true anonymity that would make it possible for financial criminals to evade virtually every investigation. Law enforcement agencies can, with the right tools, trace blockchain ledgers to dangerous criminals. It should also be noted that only 0.15 percent of crypto transactions are criminal, so crypto is overwhelmingly used for benign, noncriminal activities.

Thus, with the many benefits offered by the vast world of cryptocurrency, it is likely that crypto will become more important to the system of digital currency over the next few years. While crypto adoption will not occur overnight, people can expect cryptocurrency to expand its reach and reinforce democratic ideas like freedom, privacy, security, and decentralization.