The Breakdown - Is FedNow a Trojan Horse for a CBDC?

Episode Date: July 22, 2023

On this edition of the Weekly Recap, NLW looks at the Federal Reserve's launch of FedNow and explores the community discussion of whether it amounts to a Trojan Horse for an eventual central bank digital currency. Today's Episode Sponsored By: In Wolf's Clothing -- The first startup accelerator exclusively for Bitcoin and Lightning startups -- Applications for Cohort 3 open NOW -- https://wolfnyc.com/apply ** Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Saturday, July 22nd, and that means it's time for the weekly recap. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link at the show notes or go to bit.ly. All right, guys, we have a fun one catching up on a number of interesting pieces of news. Just one quick additional thing before we get into that.

I want to take a moment to tell you about the sponsor of today's episode in Wolf's clothing. Wolf is the first startup accelerator dedicated to lightning and Bitcoin companies, and it's really just an awesome program for anyone who's building in this space. It's an entirely in-person program that happens in New York City in this incredible office. There's mentorship, there's guaranteed funding, and you also get to hang out with a group of Bitcoin builder peers. Wolf has just opened up applications for their third cohort, and I highly recommend you go check it out.

Go to WolfNyC.com to learn more, and I hope that you apply. But with that, let's move to today's show, and we're going to start with our first topic, which is that FedNow is here. Yes, the long-awated FedNow instant payment system went live on Thursday. The new system, operated by the Federal Reserve, will allow the 35 financial institutions and 16 service providers participating in the initial testing phase to now be able to transfer payments between institutions near instantly. This eliminates the previous

wait time of days for clearance of transactions using other Fed systems. One of the key benefits for Fed now is that payments between institutions will now be available around the clock, seven days a week, year-round. Now, this project has been in the work since 2019 and seeks to augment existing Fedwire and Fed-ACH systems with a faster option. Should the testing period prove successful, the Fed plans to roll out access to FedNow across the entire financial system, onboarding over 9,000 banks and credit unions. Fed Chair Jerome Powell said in a press release, quote, The Federal Reserve built the Fed Now service to help make everyday payments over the coming years faster and more convenient. Over time, as more banks choose to use this new tool,

the benefits to individuals and businesses will include enabling a person to immediately receive a paycheck or a company to instantly access funds when an invoice is paid, end quote. Now, FedNow is not the first attempt at a near- Instant Settlement System. In 2017, the Clearinghouse payments company established their privately operated real-time payment system or RTP. Zell is one of the best-known integrations of this system, allowing for instant payments between institutions. Of course, fintech apps like Venmo and Cash app also offer near-instant payments, but these systems typically only offer instant settlement within their own ecosystems, settling across slower financial rails when transferring to outside institutions. Now, in other countries, instant

systems like Fed Now have been ubiquitous for years, sometimes even decades at this point. There are a range of public and private networks already in operation across Europe, Australia, and much of Asia. Now, in terms of who wanted this, large U.S. commercial banks had actually lobbied against the introduction of Fed Now, saying that it would undermine the private sector network which had already been developed and introduced. Smaller financial institutions, however, urged the Fed to push ahead with the rollout of Fed now, citing the reduced cost to customers of a government-operated system. The Fed won't charge for access to the system, but it's not clear at this stage whether banks will charge customers to pass on the cost of integration. Lance Noggle's Senior Regulatory

Council at the Independent Community Bankers of America Trade Group said, Having the Fed in the space makes our members feel more comfortable that their needs will be met and that they will be treated fairly for pricing. Now the difference between instant payments and instant settlement is worth understanding regarding the FedNow system. Payments are generally made by simply transmitting a message between institutions. Settlement typically happens at end of day and involves commercial banks accounting for all the payments that were processed that day on their ledgers at Federal Reserve Banks. Prior to the introduction of Fed Now, these payments weren't considered settled or cleared until this end-of-day process was completed, meaning customer funds weren't available

to be spent until the next day. Fed Now still settles payments once a day after hours and in bulk, but payments are considered cleared and able to be re-spent as soon as they are transmitted over the system. The Fed will guarantee settlement during the day and provide credit into the system as needed, which allows payments to function as if they were cleared instantly speeding up access to funds. This is a key difference between payments enabled by FedNow and those provided by payments apps like Venmo. Customers won't need to hold a balance on a particular app in order to access the payment rails. Instead, payments can be sent between different financial service providers by plugging into the new system. Settlement will be done on ledgers at the Federal Reserve rather than on

internal ledgers of each payments company, allowing FedNow to introduce near instant payments directly between bank accounts. FedNow will also be more suitable for sending high-value payments between businesses as compared to consumer-grade fintech systems, with payments over FedNow initially to be limited to $500,000. Now, of course, if you are listening to this and you're spending any time on Bitcoin Twitter, much of the discussion around FedNow is not in terms of the features that we just described, but has focused on concerns that the system is either A, a form of CBDC, or B, that it is effectively a Trojan horse for a CBDC, that Fed Now could usher some of the societal control features that people are afraid of when it comes to a CBDC.

The Fed actually explicitly address these concerns in their public documents, stating that, quote, the FedNow service is not related to a digital currency. The FedNow service is a payment service the Federal Reserve is making available for banks and credit unions to transfer funds for their customers. It is like other Federal Reserve payment services, such as FedWire and Fed ACH. The FedNow service is neither a form of currency nor a step towards eliminating any form of payment, including cash. The documentation also notes that the Fed has made no decision about the issuance of a CBDC, and that Chair Powell has repeatedly said that a CBDC is, quote, something we would certainly need congressional approval for. In fact, the introduction of Fed Now has been cited by some

officials as a way to eliminate the need to introduce a CBDC. Speaking more specifically to concerns of financial control, the Fed stated that, quote, the Federal Reserve and the Fed Now service cannot access individuals bank accounts or control how they choose to spend their money. And Indeed, one of the key differences between a CBDC system in Fed Now is that CBDCs would be a cash-like form of currency, which is the liability of the Federal Reserve. The whole fear of concern has to do with the Fed owning the ledger by which that currency is managed. Still, that has not waylaid the concerns of some. Macro-Yutuber George Gammon writes, Fed Now isn't a CBDC, but it's plumbing. When they launch a CBDC, they'll likely first come out with featured Normie's love

prior to social score. Fed launches new payment system that lets you send money in seconds. I I know it's an unpopular view of mine, but this is why I think the free market or majority of average Joe's will love a CBDC. One, they won't know they're using one. Two, the central planners will roll out features long before they roll out Big Brother. Finance Alot tweeted, as of 3 a.m. Eastern time, the FedNow transaction network is live paving the way for real-time CBDC payments. Crypto Wendy O said simply, FedNow is beta for a CBDC, and if you don't believe this,

you are delusional. While it wasn't about this announcement, back in March, Baleji Shrenovasin made the connection between FedNow and CBDC. Bologi wrote, FedNow is central bank digital control, even if it's not technically central bank digital currency. I strive to be precise, so let me make some important clarifications about Fed Now. First, Fed Now is highly centralizing. It's an instant payment system where every payment goes through a Fed-controlled server and must comply with applicable controls. And the roadmap is to support not just P2P payments, but also consumer to government and government to consumer, which means automatic debiting from your account and automatic stimulus. In other words,

even more direct government control over your bank account. The same Fed that sent interest rates to zero and then the moon, the same Fed that killed five of its own banks and blamed their deaths on everything other than its own policies. In July, that Fed will soon have the visibility and power to monkey with your bank account directly to freeze or drain your funds at will with, quote, applicable controls and quote, consumer to government payments, rather than being impeded by the current antiquated banking tech stack. But yes, Fed now isn't technically a central bank digital currency. There isn't a blockchain or equivalent where you can see the on-chain flow of every digital dollar. However, it is what people fear when they talk about a CBDC. It's central bank digital

control, even if it's not central bank digital currency. And it's a major step towards rolling out a full CBDC. So I agree that the distinction between Fed Now and a CBDC is important from a technical standpoint, but not from a civil liberty standpoint. I think of Fed Now as a little bit like a virus that has evolved to evade recognition by changing its sequence without really changing its function. People are immunized against the term central bank digital currency, but not all forms of increased central bank digital control. And FedNow is certainly the latter. The fundamental question is whether Fed now increases the Fed's control as a system administrator over the lives of individual. And the answer is that, unfortunately, it does. So Fed Now is increasing central bank digital

control, even if it's not technically a CBDC. Now, one thing that people did agree on is that Fed Now doesn't really change the need for crypto or Bitcoin. Omid Malikon, an adjunct professor at business school says, arguing that Fed Now eliminates the need for crypto or even stable coins is like arguing in 2005 that replacing VHS rented from Blockbuster with DVDs eliminated the need for streaming. FedNow is 25-year-old tech. America is just really late to the game. George Faber responded to that and said it also misses product market fit. People aren't flocking to crypto for faster payments. They're flocking to Bitcoin to avoid the basement of their money. If Fed Now can fix that, then I'm all for it. Eric Yakes had this funny tweet where he said

Fed Now launched and here's what you need to know. It's copying everything Bitcoin can do except instead of Bitcoin they're using a token that's designed to make everyone that uses it gradually poorer throughout their lives. So that is the story of Fed Now. I think the interesting thing to watch from here will be how much it gets wrapped up in the anti-CbDC discussion that has surprisingly become a hot-button political issue. If you get a Ron DeSantis statement about Fed Now, you'll know it's entered the mainstream. Now one more story quickly before we head out for the weekend. It's one that we're just starting to get information about. The House Crypto-Market Structure Bill has been revised and was formally introduced on Thursday to begin the committee process.

The bill, which was published as a discussion draft in June, and at that point, sponsored by Patrick McHenry and Glenn Thompson, has been named the Financial Innovation and Technology Act for the 21st Century. Thompson, the chair of the House Ag Committee, said in a statement, today's introduction of the Financial Innovation and Technology for the 21st Century Act marks a significant milestone in the House Committees on Agriculture and Financial Services' efforts to establish a much-needed regulatory framework that protects consumers and investors and fosters American leadership in the digital asset space. Now, the bill retains much of its existing provisions, including providing a regulatory path for tokens to register with the SEC as either digital

securities, stablecoins, or to prove their sufficient decentralization to be considered commodities. Under the bill, the CFTC would be given formal power to regulate digital commodity markets, such as the Bitcoin spot market, expanding its ability to set rules that govern these markets and the intermediaries which provide market access. Dusty Johnson, a Republican on the House Ag Committee, said in a statement, The crypto industry wants clarity and our collaborative bill gives both the CFTC and SEC a seat at the table. Our bill establishes clear principles to ensure financial security and certainty, as digital asset developers continue to innovate. Now, some of the response was really positive.

Paul Grewell, the chief legal officer at Coinbase said, If we want to be taken seriously as a nation, we have to act seriously as a nation. This legislation would finally put the U.S. into the global conversation on digital asset regulation. Congress should enact this without delay. However, Gabriel Shapiro, the GC at Delphi Lab, said, no, they should enact the prior version. Then in a later tweet, he expanded, saying, was a huge fan of this bill and they took a lot of feedback, but unfortunately they made one change that completely alters the value proposition of the bill, reintroduces massive ambiguity, reempowers SEC enforcement, and would wreak havoc on defy. Gabriel said, it expands current regulations to non-contractual arrangements like defy. It's a backdoor defy prohibition, in my opinion. Noteworthy is that Patrick McHenry is no longer listed as a bill sponsor. Wonder if this is a part of why. So this is one where I think we're going to have to keep an eye on,

and I'm certainly waiting for the crypto legal class to weigh in about the specific things that Gabe is worried about. For now, though, it is time to head out for the weekend, and of course, I hope you are having a great one. I want to say thanks again to my sponsor in Wolf's clothing, Do yourself a favor, go to Wolf NYC, apply for their next cohort, and until tomorrow, be safe and take care of each other. Peace.