As part of its quest to be an advanced economy, China initially appeared to embrace cryptocurrency. In 2011, just two years after bitcoin was born, the country opened its first bitcoin exchange. By 2016, as both a center of trading and a maker of equipment used to mine bitcoin, China was a deeply influential player in the industry.
But since 2012, when Xi Jinping took over leadership of China, that crypto calculus has changed. It’s increasingly clear that the essence of cryptocurrencies—tender that can be freely issued by private companies and individuals, and that allows for decentralized and anonymous transactions—is deeply at odds with the Chinese Communist Party’s governing approach to the digital economy under Xi. By 2019, when Facebook was dreaming up a crypto project known as Libra, Mu Changchun, a top official at China’s central bank, warned that a privately developed “super sovereign” digital currency was “definitely a threat” to central bank authority.
That same year, Mu was appointed head of the team dedicated to developing China’s digital yuan—an idea that takes inspiration from cryptocurrency, while giving Beijing back the power of control. Now, as China starts enforcing its toughest crackdown on crypto yet, the digital yuan is coming closer to reality.
What is the digital yuan?
After almost eight years in development, the digital yuan arrived in the wallets of ordinary users in government-led trials last year. The digital currency is distributed to consumers by the central bank via six major commercial banks, usually through a wallet app. Users can make payments by scanning QR codes or using wearable devices, including physical wallets that are embedded with digital yuan chips developed by Postal Savings Bank of China, one of the six banks. By June, around 20 million digital yuan wallets existed, and transaction volume had reached 34.5 billion yuan ($5.3 billion), according to the government.
In designing and promoting sovereign virtual money, China’s government has three major goals, apart from being at the forefront of deploying a digital currency.
- It wants to gain greater insight into how money is flowing in the country, something that is hidden in cash transactions and even in mobile payments whose data rests with private firms. This is ostensibly to improve monetary policy and also to prevent illicit activities, including money laundering.
- It aims to regain control over payments that are increasingly mediated by private firms such as Ant Group’s Alipay and Tencent’s WeChat Pay. As part of a broader regulatory crackdown on tech, both of those companies have faced antitrust probes and pressure to share data with the state.
- It hopes to eventually boost the yuan’s international standing (easier said than done if all else remains the same).
Initially, many were skeptical that a state-developed digital yuan wallet could compete with the payment systems already being provided by China’s tech giants. “The digital yuan doesn’t have many advantages over the existing payment tools, but looks more like ‘food coupons’ that will come with many restrictions, so I personally would resist using it,” said a Weibo user, referring to the stamps citizens used to get rationed food in the 1980s.
But the digital yuan does incorporate a key function that could make it more attractive, especially among rural users: People can transact with it even if they’re not connected to the internet, simply by tapping two digital-yuan-enabled phones together. “This [offline function] is extremely powerful in China, especially in rural areas,” says Fiorenzo Manganiello, founder of private equity company Lian Group, which owns renewable bitcoin mining farms in Europe. “That’s clearly a great advantage.”
Global concerns over the digital yuan
The rest of the world will get its first major glimpse of the digital yuan at next year’s Beijing Winter Olympics, and China’s government has been busy preparing for that rollout. The Games will feature ATM machines that can convert foreign currencies, including US dollars, into the virtual Chinese money, which will be carried in a digital yuan wallet card. “They want the digital yuan to have a sort of coming out party at the Olympics,” says Josh Lipsky, director of the GeoEconomics Center at the Atlantic Council think tank.
But the road to internationalization won’t be easy. For one, China’s tight control on the exchange rate has already hindered the physical yuan’s wider use, and that policy will continue to put some off of adopting the digital version. A digital yuan “doesn’t solve the problem that some people holding renminbi offshore will want to sell that renminbi and exchange it for the dollar,” Victor Shih, an expert on China’s political economy and a professor at University of California San Diego, told Quartz last year. Nearly two-thirds of the world’s currency reserves are held in US dollars, compared with 2% in yuan.
Beijing’s reputation for peeping into citizens’ lives through apps could also be a major concern for potential adopters of the digital yuan. Surveillance objections could even see countries lobbying their athletes to avoid using the digital yuan at the Games; in the US, some Republic politicians are already applying that pressure.
Unlike truly anonymous cryptocurrencies, China’s central bank says the digital yuan will come with “controllable anonymity,” as users can get the digital wallet only by registering with their mobile number. Since people in China need to register their numbers with real identities, that promise may not carry much weight. Mu, the central bank officer, has said that service providers in general won’t provide user information (link in Chinese) to the bank, making wallets registered using mobile numbers “completely anonymous.”
But it’s the larger ethos of control that presents worries for international companies. “How do you feel about digital yuan and the ability of the People’s Bank in the government, to potentially shut off payments if there’s some issue?” asks Lipsky. “…I think western investors and western companies are very closely watching the development of the digital yuan, and thinking what it means for their business operations in China.”
The coin threat
Though China has been working on the digital yuan since at least 2014 (pdf), its efforts gained urgency with the emergence of “stablecoins” like Diem (formerly Facebook’s Libra and yet to be officially launched). Stablecoins are cryptocurrencies that peg their value to traditional assets such as the US dollar thereby eliminating some of crypto’s characteristic volatility, which could potentially give them broader appeal.
“Certainly the development of cryptocurrencies…enabled the development of the digital yuan,” says Zennon Kapron, director of Kapronasia, a Singapore-based fintech consulting firm. “[It] really kind of opened up the doors in terms of the technology being there or the concept of being there.”
In China, an enormous share of digital payments is already being handled by private-sector mobile wallets like Alipay and WeChat Pay, whose level of control is already a concern for Beijing. Stablecoins planted the fear of pockets of digital payments that are anonymous and circumvent the yuan entirely.
“The idea that you could have a global stablecoin that is attached to a company that could be basically based on the dollar, and so transactions could happen within China’s borders on the dollar or on a basket of currencies, that’s worrying,” says Lipsky. “Because you…lose control.”
China’s volatile history with cryptocurrency
Bitcoin emerged in 2009, in the midst of the global financial recession. Two years later, BTC China, the country’s first bitcoin exchange, began allowing Chinese citizens to trade the cryptocurrency. In 2013, a group of Chinese crypto bros founded Bitmain, now the world’s largest maker of bitcoin mining machines.
Crypto found fertile ground in China for several reasons, including that many in the country were already familiar with the concept of virtual currency thanks to Tencent. The gaming giant’s “Q coin” was not a cryptocurrency, but was used to pay for value add-on services, and was already changing hands in secondary markets.
For people in China ring-fenced by capital controls and looking for places to invest besides sky-high real estate, bitcoin was also both an investment option and a way to transfer funds overseas. Between 2010 and 2016, several crypto exchanges and bitcoin-mining gear makers were established in China, while investors piled into waves of initial coin offerings.
That didn’t sit well with Beijing. China banned ICOs and crypto trading in 2017, the same year that development of the digital yuan kicked into high gear. In 2021, China banned crypto mining, forcing many miners to flee to countries like the US or Kazakhstan. The government also ordered banks and payment companies to make sure that they don’t provide services to crypto-related transactions, a crackdown that could make the digital yuan one of few viable digital options in the country.
“They are ensuring that as they move into this new central bank-backed currency era that any potential risks to the market are removed or mitigated,” says Kapron. “[The] crackdown on mining and cryptocurrency fits within that narrative. As we move forward to this new situation, you remove all the risk and try and do your best to ensure that we’re starting with a clean slate.”