How Cryptocurrency might Fight Income Inequality

The most interesting and exciting theoretical benefit of cryptocurrency is alleviating Income Inequality.

One of the biggest causes of income inequality is the way governments and central banks deal with economic crises. The normal solution for financial crises like the Wall Street Meltdown of 2008 is for the government or a central bank to give money to the beleaguered institutions.

Such bailouts usually work because most financial downturns were triggered by liquidity crises. A liquidity crisis is a fancy way of saying that markets or institutions are out of money. Therefore, the government or the Federal Reserve can end most such crises by advancing money or credit to the afflicted.

How Bailouts Lead to Income Inequality

Historically bailouts, like the one in 2008, have magnified inequality because government’s ability to disperse funds is very limited.

Bailing out Wall Street or the auto industry by extending credit to investment banks or General Motors (NYSE: GM) is easy. After all big banks; like Goldman Sachs (NYSE: GS) and companies like Fiat Chrysler (NYSE: FCAU), are already plugged into the financial system.

Such bailouts can be highly effective, compensation expenses (pay and benefits) at Goldman Sachs increased by 25% between 2016 and 2017. Fiat Chrysler (which almost collapsed in 2008) reported a net income $4.519 billion on 30 June 2018.

Therefore, the bailout of 2008 was successful, but it did not reach average Americans. A 2016 survey by Go Banking Rates found that 69% of Americans had less than $1,000 in their savings and 34% of Americans admitted to having no savings at all.

It is easy to see why Americans are so angry at Wall Street. It is doing well and receiving bailouts while they are not. This misdirects the anger because lack of financial tools; not a conspiracy of the rich, is why bailouts do not reach average people.

Why Bailouts Don’t Reach the Average Person

Mass bailouts are hard because it is difficult for government to disperse funds to the average person.

The Fed can send money to bank accounts but not everybody has a bank account. The Federal Deposit Insurance Corporation (FDIC) estimated that 24.5 million or 19.9% of US households did not have a bank account in 2015. To make matters worse, the households most in need of a bailout are those most likely to be unbanked.

The government might mail checks but people without bank accounts would have trouble cashing them. Such a bailout would be a boon for check cashing outlets, but not the poor.

Traditional bureaucracies can help but they are cumbersome and hard to deal with. A huge flaw in the traditional welfare state is that it mostly benefits social services bureaucrats.

Traditional welfare may or may not reach the poor, but lots of middle-class people with college degrees receive government jobs with benefits. Like financial industry bailouts, the welfare state is incapable of dealing with economic downturns.

To make matters worse victims of financial downturns, often have no experience with the welfare system. That means they either are unaware of benefits or do not know how to access. When such people seek help, the system is often so cumbersome they quit.

Is Paper Money the Cause of Income Inequality?

Another solution handing cash out to the poor might be worse. A likely consequence would be an increase in violent crime as thugs and gang members rushed to take the cash from the poor.

The sheer cost of distributing billions of dollars in paper money to the poor might be too much. It might require thousands of trucks, hundreds of armed guards, and vast numbers of bureaucrats to distribute all the money.

This is why Milton Friedman’s famed “Helicopter Cash” proposal remained nothing but a theory. Friedman famously wrote about the benefits of distributing funds directly to the poor back in 1969 in a paper called The Optimum Quantity of Money. Unfortunately, he could not figure out a good means of delivering the banknotes.

America’s Two Economies

Therefore, paper money is a cause of Income Inequality. That inequality is getting worse because America now has two economies.

We have a high-speed digital economy for the rich, big business, and increasingly the middle class. Then there is a slow-speed paper economy for the poor. I describe this digital divide below.

The affluent American gets her salary; or the pay for her freelance gig, deposited to her bank account or PayPal instantly. The laborer receives a paper check he has to take to a brick and mortar outlet and cash for bills.

The affluent America’s transaction takes two seconds. The laborer might have to take an hour off from work, losing more money, and an hour’s bus ride to cash the check.

The High Cost of the Paper Economy

To add insult to injury, the laborer might end up paying a 10% or 20% fee for the “privilege” of cashing his paycheck. The affluent American pays no fee if she deposits the money directly into her bank account or a tiny fee if she uses a digital wallet.

Worst of all, the laborer with the paper check is automatically cut off from a wide variety of financial services. He will have a hard time applying for a mortgage, a car loan, a student loan, a business loan, or a credit card or buying insurance. Things the affluent American do almost instantly from her phone.

The laborer in the paper economy might end up paying extra for simple transactions. He may have to spend several dollars on money orders to pay bills with, and several more dollars to wire money to a relative. Beyond, that the laborer might end up paying 20% to 50% interest on payday loans if he needs to cover an emergency expense.

The affluent American gets to pay her bills, send money to her mother in Florida, and take out loans instantly at the touch of an app. Even if the laborer has the money, he might end up spending two or three hours to make simple financial transactions.

How Digital Wallets can Bailout the Poor

The obvious solution to this digital divide is to provide the poor with digital wallets and get them out of the paper economy. Just the environmental benefits from eliminating from all that paper would justify the effort.

The data indicates that most Americans have the means to access digital wallets if they want. The Pew Research Center estimated that 95% of Americans owned a cellphone of some sort and 77% of Americans had smartphones on January 10, 2018.

This means all the government would have to do to conduct a bailout for average Americans is to distribute a digital wallet or send money to existing digital wallets. A brilliant move would be to create an official US digital wallet an America Pay or a Fed Pay. India’s Central Bank, the Reserve Bank of India is already experimenting with such a system.

The idea would be to extend the Fedwire, the electronic system by which the Federal Reserve transmits funds to every American. That way the Fed could send cash to average Americans as a stimulus or bailouts in emergencies.

Such a system might be used to disperse existing benefits such as Social Security or SSI and to offer a basic income to the poor or middle class. Obvious uses of Fed Pay would be paying taxes and distributing tax credits and refunds.

The Fed can offer employers the chance to disperse their employees’ salaries via Fed Pay. Utilities and other creditors would be given the option of accepting payment via Fed Pay.

Retailers like Walmart (NYSE: WMT) and Amazon (NASDAQ: AMZN) would be encouraged to accept Fed Pay. One way to do that would be by offering a tax break to retailers that accepted Fed Pay.

Can Cryptocurrency Fight Income Inequality?

Cryptocurrency would be of enormous benefit here because it would greatly increase security and reduce bookkeeping costs.

The blockchain, the software cryptocurrency is built from, is highly encrypted. Blockchain also makes it possible to create a permanent record of every transaction and easily track it.

Dispersals of cryptocurrency to digital wallets similar to Friedman’s helicopter money are already part of many blockchain platforms. These giveaways called Airdrops are widely used to promote new cryptocurrencies.

How Airdrops can stimulate the Economy

Therefore, national Airdrops of an official cryptocurrency are the next logical step in the currency’s evolution.

Airdrops of an official cryptocurrency would be far cheaper, more effective, and more efficient than solutions like quantitative easing. Quantitative easing (QE) lowers interest rates to make credit cheaper.

QE can take months to work because the credit is dispersed to banks that have to go to all the hassle of issuing loans or mortgages to distribute. A greater problem is that only those with access to banks benefit from such stimulus. Those most in need of the stimulus never see the money.

Intriguingly, an Airdrop can deposit cash directly in people’s digital wallets. The People would be able to go right out and start spending.

One benefit would be that funds would almost immediately reach the people who need them. This might make fast economic stimulus possible by putting money in the hands of those most likely to spend it right away.

Another obvious benefit would be strategic stimulus. Airdrops of cryptocurrency, perhaps Fed Coin, can be made to specific groups. Money can be sent directly to depressed regions, disaster victims, or persons with incomes under a certain level.

Why America Needs a Fed Coin

The advantages of Airdrops demonstrate that former Fed Governor Kevin Warsh’s FedCoin proposal is well worth exploring.

The Fed Coin would be a cryptocurrency issued by the Federal Reserve. Each Fed Coin would be worth $1 and could instantly be converted into one US dollar.

The Fed Coin would have the capabilities of cryptocurrencies like Ethereum (ETH) but it would be legal tender. It would also be backed by the world’s reserve currency, which would make Fed Coin the world’s most popular and valuable cryptocurrency as soon as it appeared.

The Advantages of Fed Coin

Since Fed Coin would be legal tender, retailers like Walmart and Amazon would have to accept it. Unlike Bitcoin (BTC) the Fed Coin would be “real money” that can be spent in the “real world.”

One reason why they would take Fed Coin is to reduce transaction costs. A great reduction in costs would be achieved by building a Fed Coin that automatically collects sales tax at the Point of Sale and instantly transmits it to the government.[1]

An obvious advantage is that the Fed would control the distribution of Fed Coin through Fed Pay and the Fedwire. That would give the Fed some control over the cryptocurrency markets, which is better than what it has now no control.

Creating a Fed Coin would not be that hard, cryptocurrencies like the Dai (which is linked to the US dollar) already exist. The effectiveness of digital currencies has been demonstrated.

A digital currency called M-Pesa has been widely used in East Africa for over a decade. M-Pesa is not a cryptocurrency, instead it consists of un-encrypted digital coins that are deposited into a digital wallet accessible by mobile phone. M-Pesa currently has 22.62 million users and it is used for everything from rental of solar panels to basic income experiments.

Getting the public to accept Fed Coin would be fairly easy. The Fed would simply conduct a national Airdrop and send everybody’s digital wallet or bank account $25 to $100 for signing up.

If it were legal tender, Fed Coin can be deposited in regular digital wallets such as Apple Pay or PayPal or in bank accounts. An intriguing possibility here is that Fed Coin can automatically collect taxes as transactions occur. That would ensure the government a steady stream of revenue.

The automatic tax collection would be guaranteed by smart contracts. Smart contracts, or decentralized apps (DApps), are programs written into blockchain. Each smart contract is designed to guarantee a specific action.

A huge advantage to Fed Coin would be that it can be deposited in bank accounts. Fed Coin, the accounts, and the wallets can be FDIC insured to protect citizens’ money which would preserve liquidity.

America Needs a DARPA for Finance

A lot of technical difficulties including the blockchain scalability problem would have to be worked to make Fed Coin and Fed Pay a reality. Therefore, something like the Defense Advanced Research Projects Agency or the Advanced Research Projects Agency (ARPA-E) for finance is needed.

DARPA finances research into and development of next-generation technologies for the Pentagon. ARPA-E does the same thing for the Department of Energy. A financial ARPA (ARPA-F?) might perform the same function for the U.S. Treasury and the Fed. Obvious projects of ARPA-F would be Fed Pay, Fed Coin, and next generation blockchain platforms.

America needs an ARPA-F to keep its edge in financial technology. The People’s Bank of China (PBOC) has already set up a Blockchain Research Institute. Patriots that do not want the People’s Republic to dominate cryptocurrency should press for an ARPA-F.

Cryptocurrency and digital wallets’ potential to alleviate Income Inequality demonstrate why an ARPA-F is needed. Only time will tell if America’s leaders have the brains, foresight and courage to seize upon this historic opportunity to reduce Income Inequality and poverty.

[1] Self-executing blockchain applications called Mart Contracts already exist. Smart contracts for the collection of taxes can be theoretically written into new cryptocurrencies. See for more details.