Discussion: Impact of Digital Currency on Financial Accounting and Policy Suggestions

Author: Cheng Lily (People's Bank of China Guangzhou Branch)

Source: China Finance Issue 24, 2019

Editor's Note: The original title was: "China Finance" | The Impact of Digital Currency on Financial Accounting

Introduction: Digital currency will bring a series of urgently needed accounting problems to both the central bank as the issuer and financial institutions and enterprises as the holder.

In recent years, bitcoin, the forthcoming libra coin and other virtual currencies have attracted the attention of more and more investors and financial regulatory authorities in various countries, and research on legal digital currencies in various countries has gradually pushed forward. Proper accounting management has created huge challenges.

Overview of the development of digital currency

Digital currency is a virtual currency based on a network of nodes and digital encryption algorithms. It is a digital currency form driven by fintech innovation. Digital currencies are divided into private digital currencies and fiat digital currencies. The development of digital currency originated from cryptocurrency monetary science in the 1980s. In 2009, Bitcoin officially entered people's horizons as a new type of encrypted digital currency. In June this year, Facebook released the "Libra White Paper", announcing that it plans to issue Libra coins in 2020. Once issued, it will become a representative of trusted institutions' digital currencies. According to Coinmarketcap data statistics, as of October 17, 2019, there are more than 2,000 types of digital currencies worldwide with a combined market value of US $ 219.6 billion. The total market value of the top ten digital currencies is US $ 197.2 billion, accounting for 90% of the total market value of digital currencies. Number one Bitcoin is 66%.

Regarding fiat digital currencies, following the failure of the Central Bank of Ecuador to issue digital currencies in 2015, the Venezuelan government issued "petroleum coins" in 2018, but currently lacks public transaction information and has not achieved widespread application. Canada, Singapore, Brazil and other countries are developing a national ledger clearing system based on distributed ledgers. According to a study published by the Bank for International Settlements in January 2019, based on a recent survey of 63 central banks around the world, approximately 70% of the surveyed central banks are (or are about to) work on central bank digital currency work, but in the short term, more than 85% of central banks think they are unlikely to issue central bank digital currencies. China began to study legal digital currency in 2014. Its design and issuance focused on the replacement of M0, maintaining monetary attributes, achieving monetary policy and macro-prudential management goals, adopting a two-tier operating system, and adhering to a centralized issuance and management model. In August 2019, the People's Bank of China announced the latest progress of the Central Bank's digital currency research, indicating that China's blockchain-based encrypted electronic currency (DC / EP) prototype products have been successfully developed.

With the irresistible development of digital currency and its own characteristics, the application scenarios of digital currency have been expanding in both the social and national fields. For the sake of strategic dominance of central banks in various countries, legal digital currencies are also on the horizon. From an accounting point of view, this will bring a series of urgently needed accounting issues to both the central bank as the issuer and the financial institutions and enterprises as the holders, such as the digital currency accounting confirmation and measurement , Information disclosure, etc., which has become a major challenge in current accounting practice.

The challenge of digital currency on financial accounting

  • The challenge of digital currency on financial accounting

Financial institutions are important holders of digital currencies. The development of digital currencies has prompted financial institutions to change their profit models and the composition of assets and liabilities. Whether the value of digital currencies can accurately and truly reflect the financial status and accounting information of financial institutions is also directly related. Credibility.

Accounting confirmation. According to the definition of assets by the International Accounting Standards Board (IASB) conceptual framework for financial reporting and the definition of assets in China's basic accounting standards for enterprises, digital currencies conform to the standards for assets in accounting standards, which are economic resources that an enterprise can control, and can be recognized as An asset. However, there are still major disputes at home and abroad as to what kind of assets are classified as digital currencies, including the recognition of digital currencies as cash and cash equivalents, financial assets, intangible assets, inventories, or accounting for digital currencies with new accounting accounts. The differences in methods are mainly related to the types and characteristics of digital currencies and the purpose for which they are held.

Financial institutions, as financial intermediaries, are the main channels for the transmission of monetary policy. Affected by regulations and supervision, they mainly hold legal digital currencies or Libra coins that may be born in the future. For the legal digital currency issued by the central bank, its essential attribute is currency, and its main purpose is to replace cash, which should be treated as cash and cash equivalents in accounting. Although Libra is not a legal currency, its digital assets that use the specified underlying assets (a basket of five currencies) as value collateral have essentially the three characteristics of value standards, transaction media, and storage methods required for monetary funds, similar to The Special Drawing Rights (SDR) of the International Monetary Fund (IMF) is suitable for accounting for other currency funds. However, some fiat digital currencies based on the account form are not only a function of replacing banknotes, they may design a certain interest rate, become a new type of interest-bearing assets and replace some financial products. Such digital currencies are also in line with accounting in some aspects. Definition of financial assets. Therefore, the actual characteristics of digital currency and the difference in holding purpose will directly affect the specific ownership of legal digital currency.

Accounting measurement and presentation. Digital currency accounting measurement needs to consider three factors: holding purpose, price volatility, and trading market. For legal digital currency, its accounting measurement is affected by factors such as the purpose of holding the currency, currency control by the central bank, and the financial infrastructure of the transaction venue. Generally, it should be measured at market prices. Changes in its fair value can be included in the current profit and loss. However, for interest-bearing legal digital currencies or super-sovereign digital currencies, the accounting measurement can be classified and measured with reference to financial assets. In terms of accounting presentation, the presentation of legal digital currencies is clearer, and financial institutions can report them as deposits with central banks; however, private digital currencies are affected by differences in asset recognition methods.

Impact on financial institutions' financial indicators. Due to the difference in the selection of accounting confirmation and measurement, and the inconsistency of the lagging accounting rules and the development of digital currencies, it will affect the financial indicators of financial institutions, such as financial institution asset indicators and profit and loss indicators may be caused by differences in accounting confirmation and measurement. Large differences, which reduces the comparability of accounting information, and financial indicators are easily manipulated by humans. At the same time, the emergence of digital currencies will challenge the monopoly position of financial institutions in payment business, cross-border transactions, and bank credit, to a certain extent, reduce bank deposits, exacerbate financial disintermediation, and change the profit model and liability composition of traditional financial institutions. Intermediate business income of financial institutions such as industry may be negatively affected, resulting in corresponding changes in the scale of financial statements and institutions of financial institutions.

  • Digital currency challenges to central bank accounting and finance

Impact on the "two tables" of the Central Bank. The central bank digital currency is mainly divided into wholesale type and general type. Judging from the impact on the "two tables", there is a large difference in the impact of the two types of central bank digital currencies on central bank accounting and finance. Among them, the universal digital currency will cause enterprises and institutions and individuals to become creditors and debtors of the central bank directly, which will have a significant impact on the financial intermediation model. The central bank ’s balance sheet needs to add “Credit rights to non-financial enterprises and institutions and individuals” "And" non-financial enterprises and institutions and personal deposits "and other accounting subjects, the central bank's balance sheet will also significantly expand, and even evolve into" financial industry balance sheet ", and financial disintermediation will make financial institutions' balance sheets face Contraction pressure. At the same time, under the universal central bank digital currency, the intermediary role of monetary policy transmission in financial institutions will be greatly weakened. The central bank can directly adjust the money supply of the real economy through the contraction and expansion of digital currencies, resulting in the central bank ’s balance sheet Obligations of financial institutions and deposits of financial institutions have shrunk significantly.

For wholesale legal digital currency, the traditional currency management thinking is followed, which is usually based on the "central bank-commercial bank" dual system. The accounting subjects involved in currency issuance include cash in circulation, fund transactions, commercial bank deposits, and issuance. Funds, etc. are not fundamentally different from cash issuance. You only need to add a digital currency detail account, which is accounted for separately from cash. Taking the idea of ​​digital currency recently issued by the Central Bank of China as an example, it mainly focuses on the replacement of M0, that is, the issuance of digital currency instead of the issuance of some banknotes. Digital currency is the same as legal currency as cash, and it belongs to accounting monetary funds. In short, under this model, digital currencies and traditional paper currencies will be reflected in the accounting books at the same time, and the short-term impact on the central bank's balance sheet size and institutions will be limited. The long-term impact depends on the substitution effect of central bank digital currencies on cash.

Impact on the financial strength of the Central Bank. On the one hand, legal digital currency can reduce the circulation cost of currency such as currency issuance, circulation, withdrawal and storage in the long run; on the other hand, legal digital currency can be used as a substitute for other non-deposit financial assets and increase the currency in circulation. To expand the tax base for minting. At present, the digital currency design of China's central bank is non-interest-bearing and can be equivalent to paper money. If the fiat digital currency sets a certain interest rate in the future, it may lead to a decrease in demand for banknotes, to a certain extent offsetting the expansion of fiat currency to the minting tax, which will affect the revenue of the central bank. If the central bank's minting tax is greatly reduced and there is no other source of income to supplement, it will exacerbate the financial losses of the central bank, weaken the financial strength of the central bank, and even endanger the implementation of monetary policy and financial stability. In addition, from the perspective of the internal system of the central bank, the legal digital currency will trigger changes in the central bank's existing accounting and financial system standards, capital operation and risk control systems, accounting management and accounting supervision.

  • Challenges of digital currencies to market participants

Unclear accounting confirmation and measurement rules affect the authenticity and accuracy of digital currency values. Market participants other than central banks and financial institutions, as the main holders of digital currencies, face challenges mainly due to the unclear accounting rules leading to large fluctuations in the price of private digital currencies and the irrational characteristics of transactions. It is difficult to obtain true and accurate accounting information. reflect. From the perspective of accounting confirmation, private digital currency is essentially a new form of commodity in encrypted form. However, the current accounting practice has different accounting confirmation methods for private digital currencies (such as Bitcoin), some accounting for them as financial assets, and some accounting for intangible assets or inventory.

However, these three accounting methods all face many difficulties and challenges. Private digital currencies may not fully meet the requirements of the existing standards for financial assets, intangible assets, and inventories in terms of the basic characteristics, role, and purpose of holding assets. It can be seen that the diversity of accounting methods for private digital currencies will seriously affect the comparability of accounting information. At the same time, from the perspective of accounting measurement, the price of private digital currencies fluctuates greatly, transactions are irrational, and the transaction volume is small. There are moral and legal risks in the transaction market. The market price does not have the characteristics of accounting fair value. Therefore, private digital currencies are affected by price volatility and accounting lag. If they are subsequently measured using the fair value model, their large price volatility will directly lead market participants to make incorrect judgments on accounting information.

Accounting information disclosure rules are uncertain about increasing the risk to information users. Market participants holding digital currencies, whether they are used as monetary funds, financial assets, intangible assets, or inventory accounting, will interfere with the presentation of financial statements, reduce the comparability of accounting statements, and even cause the accounting statement data of the above four types of assets Distortion, making digital currency supervision more difficult. In terms of accounting information disclosure, from the perspective of foreign countries, the International Accounting Standards Board (IASB) stipulates its disclosure requirements from different applicable accounting subjects, and provides guidance on fair value measurement, major accounting judgments, and disclosure of events after the reporting period. Regulations, but the digital currency accounting information disclosure rules still have a large subjective choice, and the uncertainty of accounting information disclosure will increase the risk of market participants. From a domestic perspective, there are currently no standardized requirements for the disclosure of digital currency accounting information. Enterprises only disclose in accordance with the original standard disclosure requirements for classified subjects. The disclosure requirements for digital currencies are almost blank. Due to the electronic nature of digital currencies, the absence of disclosure requirements will increase the risk of users of accounting statement information, including market participants and regulators, once system or network risks occur.

policy suggestion

  • Actively promote the construction of basic digital currency accounting standards

At present, the development of accounting standards at home and abroad has lagged behind the booming development of digital currencies. Major international accounting standards setting bodies such as the International Accounting Standards Board and the American Financial Reporting Standards Board (FASB) currently provide only principled guidance. China's accounting standards also lack The specific requirements of digital currency accounting rules have led various accounting entities to have greater subjective judgments when performing digital currency accounting confirmation, measurement, presentation and disclosure, leaving room for rent-seeking for potential accounting manipulation. Therefore, it is suggested to accelerate the construction of basic digital currency accounting standards, clarify the core rules of digital currency accounting confirmation and accounting measurement, scientifically and reasonably increase corresponding accounting subjects, and regulate the accounting treatment of digital currency income changes held for investment, so as to effectively solve Private digital currencies are affected by price volatility and accounting lag.

  • Improve transparency and comparability of accounting processing and information disclosure

Unlike the clearer cash attributes of fiat digital currencies, private digital currencies are essentially a new form of commodity in encrypted form. Due to the large price fluctuations, it is easy to cause market participants due to information asymmetry if information disclosure is insufficient. Make the wrong judgment. Therefore, it is recommended to standardize the information disclosure requirements of digital currency holders, including project composition, reasons for division into corresponding subjects, accounting policies related to digital currency accounting processing, and methods for determining fair value. For the presentation of digital currencies in financial reports, it is necessary to formulate reporting requirements adapted to the characteristics of digital currencies and to increase the comparability of financial reports; in the notes to the financial statements, the details of the initial cost of digital currencies, changes in fair value, or profit or loss should be disclosed. , And reveal the risks associated with holding and trading digital currencies.

  • Strengthen coordination in financial supervision, tax regulations, accounting standards and other fields, and give play to the role of digital currency accounting information in supervision

At present, financial supervision, tax law rules, and accounting standards are often separated from each other. For example, there is a large gap between accounting standards and financial supervision regarding disclosure of accounting information. At the same time, financial, tax, and accounting laws and regulations have not The introduction of regulatory measures for digital currencies makes it easy for digital currencies to be monitored in a blank area. It is recommended that while intensifying research and regulatory design of digital currency issuance and transactions, actively promote cooperation in multiple fields of society, coordinate the relationship between financial regulatory standards, tax regulations, and accounting standards, comprehensively measure risks, and implement continuous and accurate supervision. Reduce the operational space for regulatory arbitrage using accounting methods.

  • Strengthen the financial strength of the Central Bank and prepare for the introduction of the central bank's digital currency

Facing the development trend of China's legal digital currency, the central bank should start by improving its own management mechanism. The first is to study the impact of statutory digital currency issuance on the "two tables" of the central bank, measure the changes in the size and structure of the liability end that may result from it, and pay attention to the impact of fluctuations in coinage taxes on the central bank's financial stability and market systemic risks . The second is to improve the independent financial budget system, strengthen the central bank's financial strength, enrich its capital, improve its financial buffer mechanism, withdraw sufficient reserves and replenish capital to enhance its ability to withstand financial risks. The third is to improve the central bank's own accounting management system, do a good job of the existing supporting systems of the central bank's accounting and financial system, capital operation and risk control system, and accounting management, and do a good job of accounting management in advance for the launch of the central bank's digital currency. ready.