Security Notes: How Digital Money Will Become National Currency

CBDC (Central Bank Digital Currency) is a vision facing mountains of obstacles. It is a long road ahead before this vision becomes reality. Many doubt it. Alas, its future appears guaranteed based on one overlooked factor: taxation.

There are no solid estimates for income-tax fraud, but they approximate around half a trillion U.S. dollars per year. The Internal Revenue Service estimates these figures will explode with the advent of digital currency because the flow of transactions spills out of the banking realm. With this, identities are obscured and money movement becomes undetectable.

Fraud is the domain of the rich, for whom the high investment in the means of fraud pays off. They can hire top talent to outwit government accountants. This dichotomy already creates social pressure demanding brazen progressive taxation, which further motivates the rich to evade payment.

The absence of CBDC invites a host of private coins. Tracking sites report more than 10,000 active cryptocurrencies. They represent a new place to store value and offer a privacy-protected transaction regimen. The government is overwhelmed. As a result, it appears that the old idea of taxing money in motion is reaching its terminal utility. On the other hand, the more basic concept of taxing wealth is becoming that much more attractive.

Whether minted by an automated protocol or by a thoughtful central bank, a digital coin has a public footprint, global visibility. This coin visibility is being paid for by owner obscurity. Ownership is manifest through knowledge of a “private key.”

A private key can be stealthily sent from Alice to Bob. That means not only that the key is encrypted but that the very fact that it was sent is undetectable. Bob can then add an extra key to the coin so that Alice cannot send the same key to someone else (double spending). And when this protocol is done, payment has been initiated, consummated and settled in the blink of an eye.

Often times neither payor nor payee wish to expose a transaction, and so the IRS is kept in the dark, shifting the tax burden to the lower classes who still get paid, and pay, the old-fashioned way.

Chasing incomes to fill up the U.S. coffers is becoming increasingly futile. A new concept of taxation is needed, and indeed one invites itself—hinged on public digital coins. Each coin has an owner. This owner presumably benefits from government services. So the government, the mint of the coin, will exchange it with another coin valued (1-x)% of its former value, where x% of the coin is claimed by the government. It is an even burden, not progressive, but fair and fraud-free.

The total elimination of fraud will save the government the currently estimated half-a-trillion-dollar annual loss through direct fraud. Such wealth-based taxation will save the billions of enforcement dollars spent today, while offloading from the public’s back the nearly quarter of a trillion dollars spent by all of us, the taxpayers, wrestling with the complicated tax code.

Given that the U.S. dollar is the world’s currency, and 50% of U.S. cash is held by foreigners, it turns out that this wealth-based taxation will favor U.S. citizens. That’s because so much of the collected taxes will be paid by dollar holders who don’t use government services.

The obscurity of digital money keeps many social advocates unaware of the social benefit of shifting the basis of taxation. So this is not an imminent revolution. But when you look beyond 2030, it’s hard not to see that wealth-based taxation will become a political hot potato!

—Gideon Samid gideon@bitmint.com