Academic journal article Journal of Private Enterprise

Economics beyond Financial Intermediation: Digital Currencies' Possibilities for Growth, Poverty Alleviation, and International Development

Academic journal article Journal of Private Enterprise

Economics beyond Financial Intermediation: Digital Currencies' Possibilities for Growth, Poverty Alleviation, and International Development

Article excerpt

I. Introduction

At the beginning of the twenty-first century, the telecommunication revolution has improved virtually all aspects of modern economic life. Email has vastly increased the ability to communicate information across the world, compared with paper mail and the telegram. Websites like Amazon and eBay have given consumers an infinitely wider array of products and producers while allowing producers to extend their reach to large numbers of consumers. Global Positioning Satellite systems have made driving and navigation safer and easier. Various fields of industry and agriculture have benefited from the innovations that better communication and efficient production-chain management have produced. Search engines have made information accessible worldwide in a manner heretofore unimaginable. Many more global transformative innovations exist, yet there remains one field where business continues as it has for decades: finance and banking.

As former chairman of the US Federal Reserve System Paul Volcker famously put it, the "single most important" innovation the financial industry has witnessed in the past twenty-five years is the automated teller machine (ATM),1 adding: "I wish someone would give me one shred of neutral evidence that financial innovation has led to economic growth" (Flosking and Jagger 2009). While banks have produced various new financial instruments and methods of hedging risk and maximizing their profitability, the banking experience for the consumer has not changed much since the ATM allowed withdrawals outside of bank branch locations and bank operating hours. Transferring money continues to cost significant amounts of money and time for the majority of people. The most common method for nonpersonal payment today is still the credit card, which was invented in 1950, back when the vinyl record was the most prevalent method of listening to music recordings.2 Since 1950, vinyl records have evolved to tape cartridges, four-tracks, compact cassettes, compact discs, and finally mass storage digital music players, while credit cards are still in use today, featuring glaring problems. Most notably, credit card payment is still initiated by the recipient, meaning the payer must disclose their sensitive information to the recipient and risk compromising it every time they want to make a payment.

High payment transaction costs constitute a small problem for the populations of rich industrial nations, but they are an insurmountable obstacle for much of the world's poor, who do not present an attractive market for financial institutions and thus remain largely unbanked and unable to access financial services altogether. When they must use financial sendees for remittances, the fees they pay are exorbitantly high compared to the small amounts transferred.

Banking has not improved the speed and cost of transactions because of a dual logistical-political problem. Any transaction not carried out with cash in person has to rely on third-party intermediation to prevent double spending-that is, to ensure that the payer has the funds and is not making other payments that exceed these funds. Two parties cannot perform a financial transaction between their accounts without the custodian of the payer's account verifying that the sender has sufficient funds to perform the transaction. With the political and economic importance of financial intermediation, this role has been regulated by governments, limiting entry and exit, and isolating intermediaries from true free-market competition that would weed out the inefficient and only allow the productive to survive. Capture of the regulatory agencies by the regulated parties has protected their rents by preventing market competition from more rapidly advancing the interests of the transacting parties. The result is that even as telecommunication technolog}' has advanced, transaction costs have remained high, and modern financial innovation has not overcome this logistical and political obstacle. …

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