No one could have imagined China co-opting Bitcoin’s blockchain technology for its Orwellian goals, but then again, China could also probably never have imagined the fall of its last imperial dynasty at the hands of a Chinese invention, gunpowder.
During the 9th century Tang dynasty, the formula for what many consider to be the first reference to gunpowder was recorded in the Taishang Shengzu Jindian Mijue.
The ancient formula for gunpowder described a compination of six parts saltpeter to six parts sulphur, mixed with one part birthwort herb — the results were explosive to say the least.
And contrary to western historical texts, the destructive power of gunpowder was not altogether lost on the Chinese.
The popular theory is that the Chinese did not know the strength of the weapon which they had on hand, recognizing the aesthetic appeal of fireworks from gunpowder, but not weapons.
Yet as far back as the 11th century, the Chinese were using gunpowder as an explosive agent and for rockets — what they hadn’t quite figured out yet was how to properly weaponize gunpowder.
To be sure, early Chinese dynasties had various forms of firearms which modern historians recognize as being early forms of guns, but it was the Europeans who understood how to harness their devastating power to conquer and colonize the globe.
And so it wasn’t without some degree of irony that as China languished in the waning phases of the Qing dynasty, western powers would bully the Middle Kingdom into submission, with China, the inventor of gun powder, now finding itself staring down the barrel of a gun.
Chinese History Lessons
So it’s no surprise then that when it comes to cryptocurrencies and blockchain technology, Beijing has no interest in repeating the lessons of the past.
When Bitcoin first surfaced, the Chinese authorities viewed the fledgling cryptocurrency with some degree of suspicion, but nothing more than a cursory interest in a nascent space.
It wasn’t until Beijing realized the power of blockchain technology as well as digital currency towards furthering the goals of the Chinese Communist Party, that it started to look at blockchain technology and Bitcoin more closely.
As Beijing toyed with the idea of issuing its own central bank digital currency, authorities started cracking down on Bitcoin and its ilk, closing down cryptocurrency exchanges and banning Bitcoin.
The concept of the free exchange of value outside of the purview of Beijing and beyond the auspices of the Chinese yuan were anathema to the Chinese Communist Party — something had to be done.
And that something eventually morphed into the digital yuan — a digital currency that bears almost no resemblance to the ideological foundation upon which Bitcoin was created.
The open nature of blockchain technology does not sit well with Beijing’s desire to maintain a level of control and oversight over its digital currency, which is why an alternative system was needed for the digital yuan.
With the digital yuan now in the late stages of development — having already been rolled out in several key cities in China — the People’s Bank of China (the Chinese central bank) will likely adopt a centralized model based on blockchain technology.
So-called “private blockchains” these are essentially permissioned blockchains, where maintaining the decentralized ledger upon which the blockchain is based, is confined to a select group of entities, allowing Beijing almost complete oversight of transactions.
The People’s Bank of China favors an altogether different flavor of blockchain — a decentralized, centralized ledger model, that will record and monitor transactions — call it blockchain with Chinese characteristics if you will.
Whereas when Bitcoin was created, it’s stated goal, as per the Bitcoin whitepaper, was to provide an almost complete level of anonymity in terms of transactions.
Because anyone with a valid Bitcoin address can transfer Bitcoin to another address, without anyone necessarily knowing who or what is behind those transfers — Bitcoin afforded a degree of anonymity for value transfers far beyond what Beijing could ever tolerate.
This clearly didn’t sit well with Chinese authorities, for whom capital flight has long been a thorn in their side — Chinese citizens are limited to transferring no more than approximately US$50,000 out of China per annum, but most Chinese citizens spirit away orders of magnitude more than that.
And although Bitcoin has received a bad rep for having contributed to a rise in capital flight, the reality is that much of the wealth leaving China has been via good old hard cash.
When Facebook looked like it was coming close to launching its very own cryptocurrency — Libra, Beijing was compelled to act, and quickly.
One Tier Bad, Two Tiers Good
The digital yuan will operate on a two-tier system where the central bank first converts regular yuan balances held with commercial banks or issuing agencies such as Alipay and WeChat Pay, to digital yuan, before relying on these downstream clients to disseminate the digital yuan to citizens.
But the People’s Bank of China (“PBoC”) has left some flexibility as well, because the PBoC will not determine the settlement and clearing technology that issuing agencies can adopt, with each having the autonomy to pick the setup that best suits them.
With that breadth of choice, even blockchain technology could be an option — provided of course service providers find that the most cost effective solution.
But network effects and economies of scale may mean that only the largest financial institutions can likely participate in transacting in digital yuan.
With transactions likely to be executed via digital wallets that will probably be issued by banks and digital payment service providers, such as Alipay and WeChat Pay, far from decentralizing and reducing friction, the blockchain would be in this case used to centralize functions even more.
So far the Agricultural Bank of China has already issued a prototype digital wallet with some basic functions — scanning and creating QR codes for sending and receiving payment and perhaps most interesting, allowing two phones to pay each other via close contact.
The phone sex method of transferring digital yuan runs on two-way offline payment technology — because what’s intimacy if it’s not offline? — allowing transactions to be executed without even an internet connection.
And it’s this last feature which may be one of the ways that the digital yuan one ups cryptocurrencies like Bitcoin (for now).
Although Bitcoin and its ilk were meant to bank the unbanked, so far that just hasn’t happened yet and in that respect, the digital yuan may have beat Bitcoin to the punch.
Given the large tracts of rural areas in China, where internet connections are patchy and millions remain unbanked, a digital wallet that wouldn’t require an internet connection to transact safely and securely would be a huge win for China’s digital yuan.
Not So Sinister
And while many Chinese may be increasingly wary of the country’s Orwellian ambitions (or numb even), the digital yuan need not necessarily be linked to one’s primary bank account — meaning that citizens could simply operate several bank accounts and only link their digital wallets to the one that they care to.
Digital yuan transactions may also be anonymous to the extent that service providers can set-off bundled transactions directly with the PBoC, leaving the Chinese central bank to decide how much it intends to enforce personal data privacy or pry into its people’s purses.
But digital yuan users expecting their money to be backed by physical cash may be surprised to learn that the PBoC intends to issue the digital yuan directly to banks, backed up by the government’s capital reserves — in other words, the digital yuan is literally digital fiat money.
And while the distinction may appear subtle, there’s a big difference — because now, the digital yuan that gets circulated in the money supply, is a direct claim with the PBoC, whereas in the past, there was still one more layer — commercial banks.
Which does increase the risk that if one day the PBoC decides that it wants to get in on the payment services infrastructure, which it may need to for national security reasons, the raison d’etre for financial intermediaries may cease to exist.
And with the PBoC issuing currency so close to the end user, it may do just that, as any threat to critical payment infrastructure, would threaten the integrity of the entire financial system.
It is highly unlikely that Bitcoin’s eponymous creator Satoshi Nakamoto ever envisaged his creation would be co-opted in the service of a rising hegemonic power.
Far from the ideals of decentralization, anonymity and the democratization of commerce, Beijing’s vision for digital currency is far more panopticon.
While it can’t be denied that some of the ideologies of Bitcoin have been embraced by China’s digital yuan — namely inclusivity for the unbanked, as well as use of the blockchain to digitally transfer assets — perhaps even Satoshi himself (herself or themselves?) could not possibly have ever foreseen the way that it would be used one day by central governments.
And perhaps just as the Chinese experience with gunpowder demonstrates, it’s not who discovers what first, it’s how you use it that ultimately makes the difference.