Supervised by: Fikayo Akeredolu BA Hons, CPM, MA. Fikayo graduated with a first class degree in Business Finance from Durham University before studying for her first Masters in Global Affairs at Tsinghua University, China. She is currently completing her second Masters degree at Oxford University, with a focus on Special Economic Zones and their role in Chinese economic expansion.
Global finance is the system by which money and trade are facilitated worldwide. In the last decade, cryptocurrencies have become a recurring hot trend. Cryptocurrencies (hereafter crypto) are digital currencies that operate freely without any central control or the oversight of banks or governments. Instead, it uses blockchain, a series of so-called blocks used to store information related to transactions on a blockchain network.
As crypto gains more prominence, Central Banks and other regulators start to pay more attention to them. Some banks have banned them, but most keep a wary eye and contemplate possible policy changes in response to these new currencies. Some are even creating their own digital currencies called Central Bank Digital Currencies (CBDCs). Government agencies like Sovereign Wealth Funds (SWFs)—investment funds that use state money to generate investment returns—are also noticing. SWFs are significant determinants of the future of global finance.
The war in Ukraine has shown that geopolitical tensions can escalate quickly, resulting in economic and financial hardships for the people. As a result, Russians have turned to cryptocurrency to bypass sanctions and store their wealth. Additionally, in Ukraine, aid workers have begun to accept donations in cryptocurrencies to raise money to support the Ukrainian health service and its military.
The future of global finance will be affected by using cryptocurrency. As more and more people adopt various cryptocurrencies, it is important to understand the current use cases and how these could evolve in the future. In this essay, we will detail the evolution of cryptocurrency. We will then investigate how Central Banks and SWFs are adapting to crypto and how geopolitical tensions affect the use of crypto as well as the potential negative impacts of increased cryptocurrency use.
The Evolution of Crypto
Cryptocurrencies are digital currencies that operate without any central control or the oversight of banks or governments. It was invented in 2008 by an internet user named Satoshi Nakamoto. They relied on peer-to-peer software and a cryptography system. The chart below details the historical rise and use of crypto. Nowadays, there are more than 100 hundred currencies available for digital currency users. Ethereum and Bitcoin are two of the most popular.
As people and institutions interact across various geographic areas and for political reasons, crypto will be continuously and universally adopted. This increased adoption has attracted attention from multiple individuals and institutions, including Central Banks and Sovereign Wealth Funds.
Central Banks and the Use of Crypto
Governments across the world have had various responses to cryptocurrency. Several countries, including India, have banned crypto outright. Other countries have more complicated rules surrounding cryptos. Iran, for example, has banned the trading of crypto mined abroad in a bid to encourage domestic mining
One response that Central Banks are having to cryptocurrencies is the creation of a Central Bank Digital Currency (CBDC). This type of electronic cash gives holders a direct claim on the central bank and allows businesses and individuals to make electronic payments and transfers. It cuts out the intermediaries in financial transactions—primarily banks—and will enable transactions to travel directly from person to person or customer to vendor.
Developed and developing countries alike are testing out their versions of CBDCs. Sweden, for example, is currently testing a digital currency called e-krona. China has become the world’s first major economy to test a digital currency called e-CN which was tested during the Olympics in Beijing. Nigeria was the first country in Africa (and the second in the world) to launch a CBDC, which they call eNaria.
CBDCs give developing countries a chance to participate more actively in the global economy. For developed countries, it has the potential to push economic growth further. CBDCs might also prove to be more cost-efficient than physical cash. For example, in the Bahamas, the Sand Dollar has allowed those with the least access to money the ability to participate in the global economy. While this foray into adopting crypto is commendable, it still does not prevent the control from regulators, and crypto is not supposed to be regulated in this manner.
Central Banks are not the only government agencies that interact with crypto. Sovereign Wealth Funds have also begun to assess crypto and crypto-adjacent investments as they make business decisions.
Sovereign Wealth Funds and the Use of Crypto
SWFs are significant players in the future of global finance. The chart below shows the largest SWFs in the world. SWFs control a substantial amount of money in the global economy.
Cryptocurrency has attracted several SWFs in which they play a significant role as accelerators. Recently, the CEO of Binance, the largest crypto exchange globally, was seeking investments from several SWFs to refine the exchange’s “perception and relationships” with governments. In addition, he sought investments from multiple SWFs to ensure that no single exchange would have complete control over the company.
Some SWFs have direct crypto holdings, while some prefer to invest in crypto-related firms like Binance. Some have also avoided crypto investments altogether because of the lack of government oversight. Sometimes, the determining factor of whether an SWF will invest in crypto can be country-specific. In some countries, crypto has become the lifeline because other means of payments and finance have become unavailable.
Geopolitics and the Use of Crypto
When the war broke out between Russia and Ukraine, there was a global spike in the price and use of crypto, especially among Russians looking to store their wealth in the face of sanctions. The chart below shows ten countries with the largest number of crypto users.
The war between Ukraine and Russia gives us insights into a world in which cryptocurrency is the only monetary safety net. Ukrainians use cryptocurrency to harbor their assets to escape the country and transfer their money into a usable currency when they get to safety. Ukraine is also being sent donations through cryptocurrency to help their citizens and assist the government in buying weapons and food. In addition to using crypto for donations, Ukraine is demanding crypto exchange companies block all Russian addresses. Most exchanges were reluctant to do that because banning Russians would contradict the decentralized concept that crypto stands on.
There are predictions that geopolitical tensions will make cryptocurrency somewhat a global currency in the future. One of the main reasons crypto can be a global currency is decentralized technology. Cryptocurrencies would act as an alternative currency for countries facing instability. This potential increase in the use of crypto means we must examine its potential pitfalls.
Potential Negative Impact of Crypto
This global growth in crypto usage has led to an increase in crypto mining. Mining is the process that uses sophisticated hardware to solve complex cryptographic puzzles in order to verify crypto transactions that are then updated on the decentralized blockchain ledger. Miners will be rewarded with new cryptocurrency afterwards. The whole process is extremely energy-intensive and has led to concern amongst climate activists.
The University of Cambridge estimates that Bitcoin (one type of cryptocurrency) mining alone generates 132.48 terawatt-hours (TWh) annually. This is greater than the annual energy usage of Norway at 123 TWh in 2020. In 2020, a “halving” occurred, which reduced the number of cryptos rewarded; cryptos went from 12.5 to 6.25 coins. When a halving occurs, the carbon emissions needed to generate each coin is doubled.
This is harmful to the climate. Therefore, a need to develop more sustainable ways to mine crypto is vital. Unless these methods are found, it is unlikely that crypto will be a part of global finance in the future.
Considering all the above, it is essential to understand how crypto will shape the future of global finance. This essay has detailed the roles that cryptocurrency will play in the transformation of international financial systems in the future related to central banks, sovereign wealth funds, and geopolitics. We have also analyzed the sustainability of crypto for future financial technology.
As Central Banks and Sovereign Wealth Funds respond to the rising use of crypto, we may see an increase in CBDCs and SWFs investing their country’s riches in this sector. CBDCs have proven to be more cost-efficient than physical cash. In addition, they enable unbanked citizens to have safe access to money on their technology like in the Bahamas.
Cryptocurrency can affect the future of global finance by bringing us all together. As an example, a decentralized hub set up for money transfer lets individuals donate to those in need effectively, as seen in Ukraine.
However, there are also growing concerns about the negative impact of crypto mining on the environment. Therefore, for crypto to continue being part of the future of global finance, it is crucial to develop sustainable mining methods.
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