Privacy concerns loom large as governments respond to crypto

In the past week, United States Secretary of the Treasury Janet L. Yellen delivered a speech about crypto policy. Broad and insightful, he focused in part on central bank digital currencies and their attendant privacy risks. Secretary Yellen's comments are timely.

As governments around the world grapple with the implications of the explosive growth of cryptocurrencies, many continue to explore, with increasing urgency, the development of central bank digital currencies (CBDC) hoping for revitalize and expand access to payment infrastructure, facilitate cross-border paymentsY maintain sovereign control of the currency. However, persistent concerns about CBDCs, including, and perhaps most notably, privacy concerns, keep puzzling politicians and central bankers, alike.

The rapid growth of the crypto market, valued today at approximately $1.75 billion—attempts of the private sector in the development of cryptocurrenciesY Government efforts around the world to launch digital currency systems., have helped galvanize governments into action. In an effort to control the narrative, maintain authority, and address the potential impacts of widespread cryptocurrency adoption, Many continue to consider the development and implementation of CBDC.

CBDC is a digital currency backed and issued by a central bank. In actuality there are 87 countries, constituting more than 90% of world GDP, actively exploring the concept. These projects range from the research stage to implementation. Its breadth evidences a strong global interest in goals that include strengthening financial systems and enforcing sovereign control of the currency.

The World Economic Forum has published a series of papers examining, in part, the benefits and risks of CBDCs. CBDCs may have the potential to benefit consumers by enabling faster and cheaper cross-border payments and transactions, facilitating trade and aid disbursement, promoting financial inclusion, and strengthening global economic integration.

The potential benefits have generated a flurry of activity, with 14 countries already testing CBDC. In fact, while much of the media frenzy surrounding President Biden's recent decision Executive order on the guarantee of the responsible development of digital assets was related to cryptocurrency, the EO also contained an important CBDC-related call to action that encouraged intra-governmental cooperation as well as international collaboration in creating a potential CBDC in the United States. Even more recently, Treasury Secretary Janet Yellen commented that “[...]a CBDC could become a reliable form of money comparable to physical cash.”

Just as CBDCs can offer benefits to central banks, governments, and people around the world, so too pose significant risks that the public sector must address before implementing a large-scale CBDC. The risk of disintermediation of the banking sector, cybersecurity challenges, the implementation costs for central banks and the implications for the international financial system are just some of the concerns expressed by experts. Recent activity in the US draws attention to perhaps the biggest concern about CBDC adoption: user privacy.

Last week, US representatives introduced the “electronic currency and secure hardware law”, which advocates the development of a digital dollar in the hands of individuals on smart cards and personal devices. Unlike many CBDC proposals, the ECASH law not leveraging a decentralized ledger to facilitate transactions. its defenders argue that this lack of registration would mimic the privacy-preserving nature of physical cash, tightening user privacy in a world of increasing digital tracking.

The concern for user privacy present in the ECASH law was echoed by another bill presented last week by US Representatives Grasslet, Cruz and Braun aimed at preventing the Federal Reserve, as an accompanying press release put it: “[…]developing a direct-to-consumer CBDC that could be used as a financial surveillance tool by the federal government.” This sentiment seems to be shared by Secretary Yellen who, in his recent speachnoted that privacy protections need to be integrated into US approaches to CBDCs.

Concerns about user privacy in the deployment of CBDCs are not unique to the US. EU regulators are too. estimate with the surveillance potential of these systems. In a recent publicationEU regulators argued that any proposal for a digital euro must take into account the privacy implications of CBDC.

Perhaps no CBDC project has raised more concern for user privacy than China's digital yuan. The experts argue that the digital yuan could give the government significant access to citizen data, further enabling the state surveillance. In fact, representatives in the US have repeatedly referenced the Chinese example in its discussion of American crypto strategy, often criticizing its potential to restricting civil liberties.

As governments continue to respond to the increasing prevalence of cryptocurrencies, CBDC is likely to remain a big part of the discussion, and with it privacy concerns. It is essential that policymakers, regulators, and central bankers work with experts from the private sector, civil society, and academia to develop evidence-based, forward-looking strategies to harness the benefits and mitigate the risks of these systems.