Transcript of the podcast:
MIKE TOWNSEND: When I say "cryptocurrency," what's the first thing that comes to mind? For some, it's "the future of commerce," "the future of money," or just …"the future."
For others, it's "scam" or "fraud." Maybe "volatile" or "high risk."
And I think a lot of people think a little bit of all the above.
Me? I'm probably somewhere in the latter camp. Intrigued, but wary.
But one thing I am sure of―cryptocurrency is here to stay. And investors need solid information on the plusses and minuses in order to make sound decisions.
Welcome to WashingtonWise, a podcast for investors from Charles Schwab. I'm your host, Mike Townsend, and on this show, our goal is to cut through the noise and confusion of the nation's capital and help investors figure out what's really worth paying attention to.
In just a few minutes, I'm going to talk with Randy Frederick, Schwab's resident expert on all things cryptocurrency. As Washington wrestles with how to regulate cryptocurrency, investors are wrestling with exactly what it is and whether it should have a place in their portfolio. Randy is here to help us all better understand what cryptocurrency is and what's it not, where it's going, and how Washington might influence cryptocurrency's future.
But first, a quick look at a couple of the other issues making headlines here in Washington.
First up, the House this week passed a bipartisan retirement savings bill that is known on Capitol Hill as "SECURE 2.0," and it has some important changes.
The bill would slowly raise the age at which individuals must start taking required minimum distributions from their retirement accounts. Currently set at 72, it would move up to 73 next year, then increase to 74 in 2030, and 75 in 2033.
It also increases the "catch-up contribution" limit. Currently, anyone over 50 can contribute an additional $6,500 annually to their 401(k) or similar retirement plan. That's beyond the annual maximum contribution limit, which this year is $20,500. This bill would increase that catch-up amount to $10,000 for individuals who are 62 to 64 years old, and it would be indexed to inflation so it would increase over time.
There are also provisions to require businesses to automatically enroll employees in the company retirement plan and to allow companies to automatically increase employees' contributions in small increments each year. The bill also shortens the amount of time that long-term, part-time workers need to work before becoming eligible for the company's retirement plan. It creates a national database to help people who lose track of their retirement account when they change jobs. And, for the first time, it allows companies to use matching contributions to help their employees pay down their student loans.
There's a similar bill in the Senate. While there are some minor differences between the House bill and the Senate bill that will eventually have to be worked out, this legislation looks on track to become law later this year. And that's a positive development as Congress continues to work to make it easier for Americans to save for their retirement years.
On the regulatory front, last week the SEC unveiled its long-awaited rule requiring public companies to disclose more to investors about their impact on climate change and the risks facing their business in the future as a result of climate change. And it's a doozy. Running more than 500 pages, it is one of the most sweeping rule changes issued in recent years by the SEC.
Under the proposed rule, companies would have to report their greenhouse gas emissions and have that information approved by an independent auditing firm. Companies would also have to disclose information about the downstream impact on the climate by their suppliers and vendors if that information is determined to be material to investors. The new rules would be phased in over a couple of years and the information reported would be standardized, making it easier for investors to compare across companies and across sectors.
The proposal comes after years of advocacy from activist investors, many of whom have long requested that companies disclose more about what impact their manufacturing and other processes are having on the planet. They point out that the U.S. lags other developed countries in requiring this kind of reporting, noting that companies in the United Kingdom and Japan will begin reporting next month, while the European Union will require all large companies listed on the European stock exchange to provide this kind of disclosures in 2024. Advocates believe the rules will force companies to take their impact on the climate more seriously, because such disclosure will allow investors to easily compare them to their peer companies. And that could give investors a greater voice in pressuring companies to change their business practices.
But the proposed rules face an uncertain road ahead. Business trade groups and Republicans on Capitol Hill are questioning whether the SEC is expanding its role and becoming a protector of the environment. SEC Commissioner Hester Peirce was the dissenting vote in the 3-1 decision at the agency. And in a lengthy statement explaining her opposition, she speculated whether the agency should be called the "Securities and Environment Commission," given what she sees as the agency being pushed into a new role as an arbiter of environmental impact. It is widely expected that the proposal would be challenged in court if it is eventually approved by the commission.
Public comments are due in a couple of months, and it is expected there will be thousands of them. While the SEC typically finalizes a rule about six months after the comments are due, it is likely to take longer than that, given the complexity and controversy surrounding the rule.
On my Deeper Dive today, I want to take a closer look at the state of cryptocurrency. Right now, 400,000 people are using cryptocurrency to buy things―mostly high-end products―on a regular basis. There are Bitcoin ATMs popping up in retail locations, and the value of cryptocurrency and tokens is now over $2 trillion. It's become so big that it has attracted the attention of the White House, prompting President Biden to call on nearly two dozen federal agencies to work together and craft the first-ever government-wide strategy around cryptocurrency―including creating a strong regulatory environment.
But getting a clear understanding of what cryptocurrency is and what it wants to be is still elusive. Is it a currency, which we can use today to buy a luxury car—but can't really use to buy a cup of coffee or a bag of groceries? Is it an investment? Can it be both? And if it wants to be both, is there a way to regulate it that protects investors and consumers without stifling the innovation? If government agencies are struggling, then how is the average investor supposed to understand what they're up against? To help me explore this fascinating part of the financial system, I'm pleased to welcome back Randy Frederick, the managing director for trading and derivatives here at the Schwab Center for Financial Research. Thanks for joining me, Randy.
RANDY: Great to be with you, Mike.
MIKE: Well Randy, I know you have been fascinated by cryptocurrency for a long time, and it seems like more and more people are getting there―now including the White House. We'll come back to the regulation issue in a minute, but let's start with a quick refresher course. What exactly is cryptocurrency?
RANDY: Well, a cryptocurrency is essentially a digital version of an alternative currency. And an alternative currency is a currency not issued by a central bank. Think way back to Top Value and S&H Green stamps. I mean those go all the way back to the 1890s. While individual stamps had no real dollar value, large numbers of them could be used to purchase merchandise directly from the issuer. Now those were some of the earliest alternative currencies. I think most of those are gone now, but we do have lots of others. Airline frequent flier miles, hotel loyalty points, and credit card points are all alternative currencies. Holdings in these programs are also not in dollars, but rather the specific company's self-created currency. Most of these programs allow the "points" to be redeemed for value, such as flights, nights in a hotel, and even jewelry, electronics, luggage, and other products. Now these are actually digital currencies, because they have no physical form, and they are also not backed by a central bank, government, gold, or cash—only the company that issues them.
Digital, or cryptocurrencies, such as Bitcoin, on the other hand, can be spent at any business willing to accept them, and the list of companies that allow them is small but growing. PayPal, Microsoft, Whole Foods, Home Depot, they all accept Bitcoin, but the process is still a bit cumbersome, because it often requires a third-party application. And perhaps even more annoying, is that it will also trigger a capital gains or loss obligation pretty much every time you do it. And that's because Bitcoin is not issued by the U.S. government, so it's not considered legal tender―at least not in the United States. Therefore, it's not taxed like a currency.
MIKE: Well, Randy, what makes cryptocurrency so intriguing right now?
RANDY: Well, I think to answer that question, we need to step back to the original intent of BBitcoin. The original intent was to facilitate cheap and easy electronic, or online, payments directly from one party to another through a worldwide payment system, but without the need for a central, third-party intermediary like a bank.
Now there are many reasons why people might be intrigued by Bitcoin, or any cryptocurrency for that matter. Obviously, some people think of it as digital gold, so its value stems from a combination of scarcity and the perception that it's a store of value or an inflation hedge. Some like the fact that it's an anonymous means of payment. Some people see it as the ultimate hedge against expansionary monetary policy, which they believe erodes the dollar and causes inflation. But the truth is, all of these points are debatable.
Now scarcity, of course, is all about perception. While it's true that no new Bitcoin can be created other than that which is allowed by the original code―and that's 21 million coins―but there's no limit to how many competing cryptocurrencies can be created. In fact, there are over 9,000 of them at this moment, and that number changes, really, every single day.
Now, Bitcoin's track record as an inflation hedge or even a diversifying asset, it's not very good. Earlier this year, as the equity markets pulled back, Bitcoin fell even sharper, and it has shown very little correlation to inflation rates.
It is not an anonymous means of payment since all transactions on the blockchain are visible to everyone, and there have been plenty of examples where those committing elicit activity have been caught and even had their crypto assets seized.
MIKE: Well, Randy, you mentioned that there are thousands of digital currencies, but of course Bitcoin is far and away the most popular. So let's use that to give some context for how much there is in circulation. I think you mentioned a moment ago, it's 21 million Bitcoin, and how many people own it?
RANDY: The original blockchain code for Bitcoin—which was created by Satoshi Nakamoto, whoever that is, back in 2009—ensured that no more than 21 million Bitcoins could ever be produced. Now of that 21 million, about 18.9 million have already been produced, and estimates are that about 4 million are believed to have been lost. Now given that Bitcoin has only been in existence for about 12 years, those numbers might give you the impression that the end is near; not at all. You see, the Bitcoin code automatically releases an ever-decreasing amount of Bitcoin as the complex computational problems are solved. Now as of May of 2020, each solution that creates a new block in the chain comes with a reward of 6.25 new Bitcoin. However, the reward also automatically drops by 50% every 4 years, and that ensures that the very last Bitcoin will not be mined until the year 2140.
Now as far as who owns Bitcoin, it is difficult to say for certain because many owners probably have multiple accounts. However, it is estimated that there are about 15 million people globally that own at least $100 in Bitcoin, though most of the Bitcoin wealth is actually concentrated heavily in just a few wallets. In fact about 85% of all the Bitcoin in existence is owned by only about 2,000 different accounts, and its creator is believed to own about 5%. Now get this—that's over $48 billion worth.
MIKE: Well, I could certainly use that as pocket change. Randy, what I find fascinating right now is how cryptocurrency is trying to kind of be two things at once―it's both an alternative currency and an investment vehicle. And in some ways, these two goals are in opposition to each other. People who see it as an investment want the price to keep going up. People who want to use it as a currency want to have less volatility and more stability, because otherwise you could end up paying way too much or way too little for something. Can cryptocurrency resolve that conundrum?
RANDY: No, I don't think so. In much the same way as you cannot buy a cart full of groceries at Walmart with a gold coin, I don't believe it can be both. Most of us want our currency to hold a very stable value, so that we don't have to spend it the second we earn it, for fear that it might drop 20% in a couple of days, as Bitcoin has actually done. It's just not a risk that most people or businesses can take. The introduction of stablecoins has attempted to solve that problem. They're designed to hold a perfect one-for-one relationship with the dollar. But they present a whole new set of risks. In fact, stablecoins are probably the one corner of the crypto industry that's causing the most angst among regulators and legislators.
MIKE: Well let's get into more on this currency side. Some large retailers, as you mentioned earlier, are now taking crypto in their stores and online. Apparently, it's a popular way to buy a Lamborghini. But it seems mostly stuck on luxury goods. It's nearly impossible to use digital currency to buy a cup of coffee or a gallon of gas or a bag of groceries. It's hard to pay your check at a restaurant or pay for other everyday services. For it to be a truly alternative currency, people are going to have to be able to use it to buy … well, everything. Is that something that will ever happen? And if not, does that mean there's a ceiling on how many people are ever going to care about cryptocurrency as an alternative currency?
RANDY: Well, as we've already talked about, using cryptocurrency to buy anything triggers a capital gains obligation. Why anyone would want to use it to make purchases really makes no sense to me. I'm a car guy, Mike, and I'll tell you, the profit margin on new cars, even Lamborghinis, is less than 15%—often far less. If a dealer sells a car in Bitcoin, you can bet that he's immediately converting it into dollars to avert any potential losses. Within just the last month, Bitcoin has had two or three days where its price moved more than 8% in a single day. Any car dealer selling for Bitcoin is only doing it as an accommodation to the buyer, and it's because he's afraid he won't make the sale otherwise. It's not a good business practice, and it's really not sustainable at the current levels of volatility.
MIKE: Well, outside of maybe my local Lamborghini dealer, companies really appear to be struggling to figure out whether to dive in to this. Some retailers—Microsoft and Overstock for example—do accept cryptocurrency. Others, perhaps most notably Amazon and eBay, do not. There's kind of a chicken-and-egg issue here―consumers won't use cryptocurrency if their favorite stores don't accept it, but those stores don't need or want to accept it if their customers aren't asking for it. Do you think most businesses will eventually have to accept it in order to keep up with their competitors?
RANDY: No, I don't. Many of those companies you mentioned use a third-party processer like Bakkt, Flexa, Bitnet, Bitpay, and on and on―companies that most people haven't heard of, which immediately converts the cryptocurrency they receive into dollars. So this essentially adds another step to doing business in dollars, so what's the point? I mean, again, there is still that capital gains obligation issue, too. Tax treatment of cryptocurrencies would have to change to make this more viable, really, and with the potential for huge capital gains on volatile assets, I don't think that is going to happen any time soon.
As far as paying for low-priced goods like coffee or groceries, consider this: The most popular blockchains, such as Bitcoin and Ethereum, which is even considered the most efficient, are terribly slow and inefficient compared to the traditional payment networks. Ethereum, for example, can only process about 15 transactions per second, and that's worldwide, whereas Visa says it can process several thousand per second.
I don't know about you, Mike, but I get impatient during the ten seconds it takes me between when I stick my Visa card into the machine, and it dings to tell me to take it back out. No one is going to tolerate that taking two or three minutes every time they buy something. For an alternative currency to be a viable means for mass commerce, it's going to have to get a lot quicker and a lot more efficient than it is currently.
The blockchain code holds a lot of promise because it can eliminate a lot of intermediaries in certain types of financial transactions. But I don't believe cryptocurrencies, not even stablecoins, are the answer. To me, a central bank digital currency, or CBDC, that has all of the protections and features of the current dollar but works faster and more efficiently is probably the best and really the only solution, and I think it's going to happen in less than the next five years.
MIKE: Well, Randy, I want to come back to that discussion about the central bank digital currency, but first let's talk about the other side of the digital coin, so to speak, and that's cryptocurrency as an investment vehicle. It's been growing in popularity as a mainstream, but clearly speculative, investment―I saw recently that 16% of financial advisors had allocated crypto to their client portfolios in 2021, and that's up from 9% in 2020. But a lot of people worry that crypto is like a meme stock on steroids―people who got in early have made tons of money off of the fact that most investors got in late, boosting the price. Now that's probably an over-simplification, but is there some truth to it? Can investors continue to make money, or is there a ceiling somewhere along the way?
RANDY: Well, it is possible for investors to continue to make money, as long as they buy low and sell high, but of course that means they can also lose money just as easily. And I don't think that Bitcoin necessarily has a ceiling on its price, but also that doesn't mean it has to go up. Theoretically, Beanie Babies have no price ceiling either, though I doubt many of them are worth much these days.
On the other hand, if you think of Bitcoin as digital gold, then I think it's pretty easy to make the opposite case.
Imagine for a moment if all the ounces of gold on the planet were known to have already been mined—you know, would that make gold any less valuable? Certainly, the gold miners would stop digging, but the relatively small and finite amount of gold would likely still have tremendous value, if for no other reason than by virtue of its scarcity. Some might even argue that it would become more valuable.
Obviously, we don't know how much gold exists on earth, but we do know how many Bitcoins exist, and we know how many Bitcoins ever will exist, so that scarcity is already known.
Now, I believe investment advisors are offering cryptocurrencies to their clients because, frankly, their clients have FOMO, or the fear of missing out, and they're asking for them. My standard answer to how much of my investments should I put in cryptos has always been, no more than about 1% of your assets, and that's because that's a loss that anyone can bounce-back from.
And as for retirement assets, I think it's worth noting, and I know you know this, Mike, but just two weeks ago, the U.S. Labor Department issued guidance that pretty much all but explicitly bans crypto assets in 401(k) plans―that should tell you something.
MIKE: Yeah, I don't think the idea of keeping crypto in my retirement plan is something I am up for quite yet. Well, one of the things that has always fascinated me is that the entire notion of cryptocurrency seems to rely on people keeping track of their digital wallets and various passcodes and passwords. Now, I have trouble keeping straight the gazillion passwords I have for things as mundane as my frequent flyer accounts or food delivery services. And the stakes are much higher here―both from a security standpoint, like making sure no one steals my password, and therefore my cryptocurrency, and also just from a personal organization standpoint―just having to keep track of yet another passcode. Do you think simplification of that process is part of what needs to happen to make cryptocurrency more accessible, or is lowering the bar just an invitation to more fraud?
RANDY: Well, I think it's both. You could store crypto assets in an account with a crypto exchange like Coinbase, but, of course, you can be hacked, or you can store it on your desktop wallet, which is also on the internet, and so that's vulnerable to hacking, too. You could use a mobile wallet and keep your private key on your cell phone, but you could lose or break your cell phone, drop it in water, anything can happen. You could also use what is called "cold storage" which is either a specialized computer hard-drive, or some type of USB device that's not connected to the internet. But, of course, that could be lost, stolen, or broken. Believe it or not, you can even use a paper wallet, but as you can imagine, that's only about as safe as carrying a billfold full of cash. And there are no regulatory protections on any of these.
And I think the eventual solution, in the longer-term, will probably be with an online broker—like Schwab, for example—but only once appropriate regulations are established. Now, very few people hold stock certificates anymore these days. Almost all stock holdings are in street name, but we don't really worry about whether or not they're secure with our broker because sufficient safeguards exist. That isn't yet true in the crypto industry.
MIKE: Well, let's dive into that a little more and explore the policy side of the cryptocurrency debate. Earlier this month, as I mentioned, the president signed an executive order, the goal of which is to eventually craft a government-wide strategy for cryptocurrency, including the regulation of it. Do you see this as a plus or a minus for the cryptocurrency world? It strikes me that on the one hand, there is a school of thought that says cryptocurrency would benefit from a regulatory apparatus that includes some investor protections, that would kind of give it a "Good Housekeeping" seal of approval. But on the other hand, there are those who argue that cryptocurrency was designed to be entirely outside the current structures of the financial system, and that bringing it under that umbrella will ultimately devalue it. So what do you think?
RANDY: Yeah, I don't know about you, Mike, but I would prefer to have my net worth backed up by the Federal Reserve, not some tech start-up based in the Cayman Islands. I'm sure many younger investors would completely disagree, but I believe any regulation that makes any asset safer for retail investors is a good thing. While the crypto industry was certainly born in the aftermath of the great financial crisis, as many people watched banks, brokers, and other things fail, anyone who was an investor before 2008 probably feels the same way.
The executive order that you're talking about addresses a lot of things: cryptocurrencies; stablecoins; CBDCs, as we've already talked about; and non-fungible tokens, which are called NFTs; and really any digital financial product or instrument that utilizes blockchain technology. Now with regard to the CBDCs, Fed Chair Jay Powell and SEC Chair Gary Gensler have both emphasized that it's really more important to do them right than to do them fast, which to me, means it's not a matter of if, but a matter of when, the U.S. develops its own digital dollar.
MIKE: One of the things this executive order does is it calls on nearly two dozen government agencies to contribute to various reports about lots of different aspects of cryptocurrency―its practical uses, the risks of criminal activity, the protection of investors, and much more. But anytime you have a sentence that has "nearly two dozen government agencies" and "write reports" in it, well, that sounds to most people like a bunch of Washington bureaucrats pushing paper around. So can this executive order actually come up with a coherent government policy framework? Or is the very nature of cryptocurrency such that putting government shackles on it maybe isn't really even possible?
RANDY: I think it has to. And I don't want to be too dramatic here, but if they don't, life as we know it in the United States could change in ways that none of us really care to face. As you know, Mike, the U.S. can't afford to lose control of the world's reserve currency. Doing so would make it impossible to run trillion-dollar budget deficits or service the $23 trillion national debt that we already have. Losing this ability would be catastrophic to the U.S. economy.
No one in the U.S. government is recommending that cryptocurrencies be banned as they have been in China. The better solution is a digital dollar, or a CBDC. Most dollar transactions are digital already. I mean, if you think about it, credit cards, wire transfers, direct deposit, all those are digital—they're just not done on a blockchain.
MIKE: What about the criminal side of cryptocurrency? It's certainly one of the big issues that skeptics point to. That cryptocurrencies are used for criminal purposes, whether that be money laundering, the exchange of illegal goods, promotion of extremism, the funding of terrorist groups. Last summer, the chairman of the Senate Banking Committee―which is the central committee of jurisdiction in Congress for this entire subject―called cryptocurrency "a shady, diffuse network of online funny money." Now, while this maybe deserves some credit for being quite a snappy little soundbite, it certainly is not an unusual perspective on Capitol Hill right now. So how real are the worries that cryptocurrency is never going to shake the perception, if not the reality, that it is "shady"?
RANDY: Well, the people on Capitol Hill are pretty old, and you know where there's big money, there will always be bad actors. And there's no question that some fraud has occurred, though virtually every criticism of that type that you direct at cryptocurrencies, you could say that's also true of cash dollars; only, in the case of dollars, it would be substantially more. Fraudsters try to hide their movements by creating multiple crypto addresses and then splitting the initial payments among them and then moving much smaller amounts frequently between multiple accounts. And these are called peeling chains. And frankly they're about the same as these processes that they use in traditional money laundering called placement, layering, and integration. A report from the National Bureau of Economic Research, which was published just last October, stated that illegal transactions and scams combined make up less than 3% of all transaction volume in Bitcoin. But amazingly, that still represents over $100 million per day in illegal activity. While the identity of the individuals conducting Bitcoin transactions is indeed kept anonymous, all of the transactions are stored on a publicly accessible ledger. And that makes them less than ideal in the use of nefarious activities because they leave a digital trail. If you want to do that, you're probably better using cash.
A high-profile story published in The Wall Street Journal back in February talked about an incident six years after the hacking of the Hong Kong-based crypto exchange called Bitfinex, where $71million of Bitcoin were stolen. Investigators from the Justice Department caught up with this young New York-based couple in possession of a large supply of Bitcoin, now amazingly worth over $3.6 billion. They did it by analyzing data patterns using cluster analysis. I mean, these federal agents identified and arrested them in possession of $40K in cash, which doesn't sound like much, but also burner cell phones and more than 50 electronic devices containing all sorts of accounts and crypto wallets and passwords.
I would reiterate that most of these concerns could be eliminated by establishing appropriate regulatory protections, and much of that work is just beginning, but it is in progress.
MIKE: Let me connect this to something that's on the front pages right now, and that's the war in Ukraine. European Central Bank President Christine Lagarde said last week that cryptocurrency is being used by Russia to evade sanctions put on it by the west for the invasion of Ukraine. If true, this seems like the sort of story that could really damage the entire industry―it plays into the criminal question we were just talking about. What do you think can be done to make sure that cryptocurrency is being used for legitimate purposes?
RANDY: Well, ever since Russia invaded Ukraine in February, there have been numerous reports of cryptocurrency activity spikes in that part of the world. In fact a blockchain analytics firm called Elliptic says that a Ukrainian non-profit called "Come Back Alive" received more than $400,000 in Bitcoin donations on the very first day of the attack. Cryptocurrencies have some advantages over traditional currencies because they operate outside of traditional financial channels that many people are familiar with—so, for example, the Federal Reserve's wire system; the Automated Clearing House network, called ACH; and the Society of Worldwide Interbank Financial Telecommunications, also known as SWIFT.
Of course, there are two sides, and let me use a pun here, to every Bitcoin. While the use of cryptocurrencies have benefited the people of Ukraine, well, it has also enabled Russia to partially insulate itself from the restrictions that have been imposed upon it by many of those same traditional financial channels. While many cryptocurrency advocates have decried the use of government currencies as a weapon, but removing that capability further enables bad actors. As with most things crypto-related, you pretty much have to be prepared to accept the bad along with the good.
The major cryptocurrency exchanges said that they would not impose a blanket ban on all Russian-owned accounts because they were concerned that it could impact the regular Russian citizens, who really weren't responsible. They did, however, exhibit a willingness to restrict certain accounts associated with Russian oligarchs and other members of the ruling political class.
MIKE: Well, as we look around the globe, beyond just Russia and Ukraine, the way countries are approaching cryptocurrency varies widely―China has banned crypto, while it is legal tender in El Salvador. And there are lots of countries at various places in between. Is it fair to say that the U.S. is at the cautious end of things at this point? What do you think are the implications of different countries having very different attitudes―I mean, can cryptocurrency ever become truly global if not all countries are on board in the same way?
RANDY: Well, the primary reason for China's strict crackdown on cryptocurrencies over the past three years is its own desire to maintain control over its currency. Early last year, China launched a digital yuan, a CBDC, in a few provinces, as a test market, which is controlled and issued by the People's Bank of China. Now with a digital yuan in circulation, the Chinese government needed to eliminate all domestic competition, so they effectively outlawed all other cryptocurrencies. China has long sought for the yuan to be used for more international trade, because currently only about 4% of global trade is done in yuan. And this is exactly why the U.S. has been very cautious, because it can't afford to lose control over its own currency. Eighty-eight percent of all global trade is transacted in dollars.
Now in El Salvador it's a different story. They adopted Bitcoin to reduce their dependence on the U.S. dollar after their own currency was discontinued about 20 years ago. But there were many problems with the rollout, not the least of which was that more than half of the country had no internet access and nearly three-quarters of them don't have a bank account.
Now cryptocurrencies are already global, and they can be traded around the clock as an investment. But as an actual currency, they have a long way to go, especially in nations where internet access and computer literacy is limited.
MIKE: Well, I want to follow up with you on something you've mentioned a couple of times, and that's a central bank digital currency. That's a big part of President Biden's recent executive order―and the Fed has been dipping its toes in these waters so far, but the executive order calls on the Fed to really dive into this. It seems that if a central bank as influential as the Federal Reserve were to launch its own digital currency, that would drastically change the stakes of this entire enterprise, right? Wouldn't that undermine all these start-up companies that have developed or are developing their own cryptocurrencies? Kind of like you mentioned just a moment ago has happened in China. After all, wouldn't a central bank cryptocurrency be backed much as dollars are―and potentially push out competitors?
RANDY: You know, Mike, I think the proliferation of stablecoins has made this an imperative. Stablecoins can really only be made safe if dollar-equivalent assets to back them up are held by the institutions that issue them. Of course that means, and this is important, that crypto "finance" is not in fact, decentralized—but just recentralized—and worse yet, recentralized from a central bank to a mostly non-regulated, non-government, bank-like entity. And many of those have already been proven not to hold these assets. Many of them are not located in the U.S. I agree with what Treasury Secretary Yellen said about stablecoins, that they represent a significant risk and appropriate regulatory oversight is needed now.
It's really when not if the U.S. launches a CBDC. It would be relatively easy to ensure its success. All we have to do is simply issue all of our foreign aid in digital dollars only. I mean that would quickly establish it as the global dominant CBDC. As you know, Mike, the United States currently provides aid to more than 200 countries around the world. And if they want that aid, they would have to accept the digital dollars. And at that point, I believe stablecoins like Tether, and USD Coin, and all the others would frankly be rendered immediately obsolete.
MIKE: Well, Randy, it's been a fascinating conversation. To wrap up, it's clear this is not going away―cryptocurrency is here to stay. So how seriously should investors take this? How do you think investors should approach cryptocurrency right now?
RANDY: Well, I agree that the crypto industry is not going away. It's too big to ignore and too big to outlaw. I believe Bitcoin, and possibly a few other cryptocurrencies, will probably continue to exist as speculative or diversifying investments, not unlike gold. But also like gold, I think they can co-exist alongside the dollar, just not as a currency.
A government run central bank digital currency, though, could enhance the efficiency, resilience, and effectiveness of our capital markets. And for a while at least, they could probably augment the existing financial systems, not replace them right away. While this perhaps goes against all of the reasons why Bitcoin was initially created, it's the only true path to mainstream adoption.
MIKE: Well, Randy, as always, it's great to talk with you, especially about a topic that I think a lot of investors are really wrestling with and really interested in. So thanks so much for taking the time to talk today.
RANDY: You're very welcome.
MIKE: That's Randy Frederick. You can find him on Twitter @randyafrederick.
Finally, on my Why It Matters segment, at the Federal Reserve's meeting earlier this month, it surprised absolutely no one that the Federal Open Markets Committee voted to raise the fed funds rate by 25 basis points, the first increase since late 2018. The FOMC signaled that this would be the first of several rate hikes this year, as the Fed tries to use monetary policy to slow inflation.
Interestingly, it was clear that several members of the FOMC wanted to move even more quickly. And now Fed Chairman Jerome Powell is sending the message that those voices are being heard.
Less than a week after the mid-March FOMC meeting, Powell said that he was open to increases of 50 basis points, and that the larger rate hikes could begin as soon as the next meeting, which is scheduled for the first week of May. That's a clear sign that the Fed realizes that it's going to have to move quickly and aggressively to try to rein in inflation.
The market certainly thinks so. CME's FedWatch tool uses data from the futures market to assess a probability of changes in U.S. monetary policy. The day after the March Fed meeting, the probability of a 50-basis-point hike in May was around 44%. A week later, after Powell's comments, it shot up to about 73%, and it remains there.
Powell has consistently said in recent weeks that the Fed will respond as aggressively as necessary, while also acknowledging that factors like the impact on the U.S. and global economies of the war in Ukraine add a significant element of uncertainty to the Fed's interest rate decisions. For now, though, he seems comfortable sending the markets a clear message that the Fed will move to an even more aggressive policy in the months ahead.
Well, that's all for this week's episode of WashingtonWise. We're heading into spring break, but we'll be back with a new episode on April 28. Take a moment now to follow the show in your listening app so you don't miss an episode. And if you like what you've heard, leave us a rating or a review—those really help new listeners discover the show.
For important disclosures, see the show notes or schwab.com/washingtonwise, where you can also find a transcript.
I'm Mike Townsend, and this has been WashingtonWise, a podcast for investors. Wherever you are, stay safe, stay healthy, and keep investing wisely.
After you listen
- Follow Mike and Randy on Twitter—@MikeTownsendCS and @RandyAFrederick, respectively.
- For more on Bitcoin and cryptocurrency, read this FAQ from the Schwab Center for Financial Research.
Everyone has a thought on cryptocurrency. Some think it's the future. Some think it's a fraud. Some think it's just baffling. At the end of the day, investors have more questions than answers. Randy Frederick, the managing director for trading and derivatives at the Schwab Center for Financial Research, joins Mike Townsend for a wide-ranging discussion about the elusive nature of cryptocurrency, its growing popularity, the positive and unsavory ways it is used, and what the future of cryptocurrency looks like as the U.S. government takes steps towards regulation and the development of its own central bank digital currency.
Mike also discusses the many positives for retirement savers in the "SECURE 2.0" bill currently making its way through Congress; unpacks the SEC's just-released rule proposal requiring public companies to divulge information on how they are impacting climate change and how climate change could put their business at risk in the future; and considers signals the Fed is sending that it may soon speed up the pace of interest rate hikes.
WashingtonWise is an original podcast for investors from Charles Schwab.
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