What Are the Problems with Digital Currencies?

What Are the Problems with Digital Currencies?

From security risks to money laundering—here are the problems with digital currencies and the way forward.

The past few years have seen digital or virtual currencies come to the fore, thanks to the rise of cryptocurrency. Basically, digital currency is money that only exists virtually. Arguably the most popular, crypto is not the only digital currency in circulation today. There’s also central bank digital currency (CBDC), i.e. currency launched by central banks of countries, and stablecoins. As per a survey by the International Monetary Fund (IMF), over 100 countries out of its 159 members are exploring CBDCs in the near future. 

Digital money can help you save time as well as—aptly enough—money. Plus, you don’t need storage space for it, and record-keeping is simplified thanks to technology doing it for you. However, virtual currency is susceptible to risk. Blockchain technology (used for crypto) can be hacked, storage can be pretty expensive and the regulatory environment is not all that great (as we saw with Sam Bankman-Fried’s FTX fiasco and subsequent imprisonment). 

Given that, here’s a look at the major risks concomitant with digital currencies. 

1. Security risks

China is all set to adopt CBDCs; it was a shocking piece of news given the country’s initial aversion to cryptocurrencies. It is so surprising that people feel China has an ulterior motive behind its CBDC launch. They feel that China might use its digital currency for domestic surveillance, i.e. invading its citizens’ privacy. Besides China, many other countries have attempted to adopt crypto, too, with some facing criticism.

Moreover, considering the data breaches that plagued large institutions in 2022, governments’ adoption of digital currencies raises red flags for citizens who might compulsorily need to be part of it to keep up. 

2. Misuse of funds

From rug pulls (wherein people create fake companies to tempt investors and run away with their money) to terror funding (wherein untraceable money is used to fund terrorist activities)—plenty of frauds associated with crypto have cropped up. 

Organizations, like ISIS and Al-Qaeda, have apparently raised over US$2 million using crypto. In fact, reports have found that up to 20 percent of terror attacks might be funded by crypto. While its autonomy and decentralization are great to ensure more security and privacy, digital currencies can also be a breeding ground for audacious scams. 

3. Volatility

Digital currencies have been synonymous with volatility, especially in the past few years. Just last year, we saw Terra Luna and crypto’s subsequent collapse, FTX and crypto’s subsequent collapse, an Elon Musk tweet, and, you guessed it, a crypto’s subsequent collapse (albeit collapse is a strong word, some just called it a “bruise”). These are proof that it’s difficult to trust digital currencies. 

Some people have suffered great financial losses from their crypto investments with recovery difficult if not impossible. Reports of crypto suicides as a result of these losses also became common news in 2021. Clearly, the volatility of digital currencies stands in the way of their success. 

4. Regulatory challenges

Lack of regulation has been crypto’s downfall on many occasions. It might let fraudsters get away with misdemeanors scot-free, leaving investors with no security when their money goes bust. No one is supervising what’s happening on virtual currency platforms, and while that’s all fun and games for a while, it can become chaotic very fast.

However, countries are changing that. For instance, following Bankman-Fried’s arrest, countries were compelled to review their stance on crypto. Canada’s security regulators Canadian Securities Administrators decided to ban crypto leverage (borrowing money to trade crypto) and margin trading to safeguard investors in response to the FTX collapse. 

That said, the dynamic nature of crypto and its assets makes it rather difficult to regulate

5. Lack of transparency

A huge selling point for digital currencies is that they are anonymous. Great for the layman who doesn’t want to be unnecessarily tracked. Equally great for the criminal that needs to get away with shady transactions. Lack of transparency is not always a good thing, especially when you consider the latter case. It makes it difficult to find out who is accountable for a mishap.

6. Money laundering

In 2021, criminals laundered US$8.6 billion from cryptocurrencies. Just last year, in November 2022, U.S. officials caught 21 people running an elaborate money laundering scheme that brought in US$300 million annually. All things considered, this is not a one-off case. 

Previously, a Swedish man Roger Nils-Jonas Karlsson was sentenced to 15 years in prison for laundering money from investors through his crypto trading scheme and using it to buy resorts and beautiful homes. 

Despite the shortcomings, digital currencies are not all bad. Experts have found that CBDCs have the potential to save both governments and citizens a lot of money. It could reduce debt levels by 25 percent and save billions of dollars. Cryptocurrencies, too, have benefits, allowing businesses to raise money from anywhere in the world with ease. 

With a fine balance of regulation and freedom, digital currencies might be well on their way to transforming the economy as we know it. 

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Header Image by Pixabay

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