Why did the U.S. Federal Reserve speak positively about Bitcoin and digital currencies when they might threaten traditional banking?

Cryptocurrency

Asked by Question Bot02/Dec/20131 answer

1 Answer

Faisal Khan

Answered 02/Dec/2013

Because overall, the currency holds promise and is not a threat to the banking industry in any shape/form, in fact it is a value add, i.e. complements the banking system.

I've read through all the media coverage of Bitcoin & Washington, especially of Federal Reserve's paper on Bitcoin as well as the letter to the Senate Committee, and there are a couple of things one can summarize from it.

First and foremost, Bitcoins will most likely never be given the status of a full-blown currency. It would most likely be treated as some form of digital money (or as private money), which would be regulated. The regulation part comes in when the Bitcoin ecosystem touches base with the traditional payments systems and currencies.
It would be bad knee-jerk reaction for the US Fed to outlaw Bitcoin, considering many more countries are viewing at it with a positive approach. How silly would the Feds look if say Bank of Japan, Bank of England, European Central Bank, Bank of International Settlements (Basil), et. al. decide to give it favorable (alternate/digital) currency status. For the US Fed to make a decision that was short on information and myopic on the future of Bitcoins would just be bad news all over. Bad news that Washington / Feds can avoid.
Central Banks &/or Regulators in other parts of the world are cautious when it comes to Bitcoins. In some cases, the apt word is cautiously optimistic. German for example has given Bitcoin legal status as private money, and rightfully so. Other nations are slowly warming up to the idea, as they need to understand it more. I doubt you would be seeing the central banks in India, China, Brazil, Russia, Japan, UK, et. al. outlawing bitcoins. Instead you will be seeing (reading) very neutral statements about bitcoins which over time will eventually tip over towards acceptance of Bitcoins in their respective territories.
On a smaller influencing point, the Fed is trying not to do anything to harm their image and/or climate right now (See point # 4 below)
The paper published by Chicago Federal Reserve Senior Economist François R. Velde - titled "Bitcoin: A Primer", was a very positive document coming from the Regulator, and two highlights of the document are:

Bitcoin is an elegant implementation of a digital currency, but can it truly rival or replace existing currencies?

and

Bitcoin solves two challenges of digital money—controlling its creation and avoiding its duplication—at once

The above two points explain the mood and thought of what the Fed is thinking (even if by a singular Senior Economist). You can read the short-paper as referenced in # 6 below.
Federal Reserve Chairman Ben Bernake's Letter to Congress on Bitcoin is itself a very important endorsement as such, and two such sentences from the letter are worth pointing out:

Vice Chairman Alan Blinder’s testimony at that time made the key point that while these types of innovations may pose risks related to law enforcement and supervisory matters, there are also areas in which they may hold long-term promise, particularly if the innovations promote a faster, more secure and more efficient payment system.

and

Although the Federal Reserve generally monitors developments in virtual currencies and other payments system innovations, it does not necessarily have authority to directly supervise or regulate these innovations or the entities that provide them to the market. In general, the Federal Reserve would only have authority to regulate a virtual currency product if it is issued by, or cleared or settled through, a banking organization that we supervise.

See Reference # 11

Australia, Belgium, Canada, Germany, Finland, France, United Kingdom, Norway, Netherlands and Sweden have legalized Bitcoins. See reference 7 below.
The regulations which if any and will come will be from the independent State DFI Regulators and overall by FinCEN / BSA.
Banks do not see Bitcoins as a threat (some do, most don't) as mainstream adoption like the US Dollar would most likely never happen, and even if Bitcoin is adopted on a scale greater than what most had imagined, Banks can play a key role as exchanges and/or transactional banking services between Bitcoin and regular currency/banking products (think Credit Cards, etc.)
Bitcoin does not pose of a threat to say the Government (government payment would still be made in US Dollars and not Bitcoins). Equity markets, Commodity markets, Bond markets, all will remain under the US Dollar umbrella.
The traditional banking products, Credit Cards, Debit Cards, Loans, Insurance, transactional banking, corporate banking, etc. would still be based on a very large swath of the US Currency in circulation, so hardly a threat there.
Rather than a threat, both the Congress members, Feds and Banks see Bitcoin as an accompanying financial instrument which if regulated, they really do not have much of a problem with (barring the issue of AML/KYC).

With all this in mind, it is fair to say, US Government's approach to Bitcoin has surprised many (a rarity) and the onslaught that was expected on the Bitcoin ecosystem, for all practical purposes has seemed to diminish (if not vanish all together).

There are companies now working with the State regulators to get themselves registered as a Money Transmitter/Money Service Business, so that Bitcoin trading can be legalized (a testament towards legalized acceptance by the States themselves).

The US Government and the Feds are cognizant that it is better to regulate this new digital currency than outright ban it. It pays to embrace it, rather than banish it from their boundaries.

References:

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