Finance

Check out the companies making headlines before the bell:
Coupa Software — Shares surged 11.6% after the business management software company surpassed earnings estimates in its recent quarter, and issued strong full-year earnings and revenue guidance. Coupa earned 20 cents per share compared with estimates of 9 cents per share, according to Refinitiv.

UiPath — Shares plunged 22.4% after UiPath issued third-quarter and full-year revenue guidance that was below expectations, though the robotic process automation software company beat earnings and revenue expectations in its most recent quarter.
Nio— The stock dropped 5.7% after the Chinese electric vehicle maker lost $409.8 million in the second quarter, implying significantly widening losses. Nio CFO Steven Wei Fang said the company dealt with cost pressures during Covid shutdowns in April and May.
Newell Brands — Shares dropped 5.4% after Newell lowered its third-quarter revenue guidance. The parent company behind brands such as Yankee Candle and Rubbermaid cited a “significantly greater than expected pullback” in orders as consumers deal with inflation.
Pinterest — Pinterest jumped 4.1% after Wolfe Research upgraded the social media stock to outperform, saying the company can execute on long-term user and monetization goals under its new CEO.
ChargePoint — Shares advanced 3.3% after Credit Suisse initiated coverage of ChargePoint with a buy rating, saying the stock can surge nearly 50% as the market for electric vehicle charging stations gets a boost from the Inflation Reduction Act.
AstraZeneca — Shares declined 2.6% after Morgan Stanley downgraded the stock to equal weight from overweight, saying the stock has a “more balanced” risk-reward profile.

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Britain’s new prime minister Liz Truss has said she is confident the U.K. can “ride out the storm” in her first speech in the position.
Truss listed tackling energy prices, securing energy supply and improving Britain’s health services as her top priorities.
The speech follows rumors of a £100 billion ($113 billion) energy stimulus package to help with the cost-of-living crisis.
By Tuesday evening, Truss had already started assembling her Cabinet, appointing Kwasi Kwarteng as finance minister, James Cleverly as foreign minister and Suella Braverman as interior minister.

LONDON — Britain’s new prime minister, Liz Truss, made her first speech Tuesday, promising to tackle rising energy bills and the cost-of-living crisis in the next couple of days.
“I will deal with the energy crisis caused by Putin’s war,” Truss told reporters on the steps of 10 Downing Street.

“I will take action this week to deal with energy bills and to secure our future energy supply,” she said.
Outside her new prime ministerial home in London, Truss also said she had a “bold plan” to grow the economy through tax cuts and reform that would “boost business-led growth and investment.”
Improving health services was the third priority listed by the former foreign secretary. “I’m confident that together we can ride out the storm, we can re-build the economy and we can become the modern brilliant Britain that I know we can be,” Truss concluded.

Kwarteng becomes finance minister

Truss was officially appointed as prime minister of the U.K. on Tuesday morning following a meeting with Queen Elizabeth II at Balmoral Castle in Scotland.

Truss’ predecessor, Boris Johnson, officially resigned from the role on the same day.

Truss beat rival Rishi Sunak, the former finance minister, to win the Conservative Party leadership race, with results announced on Monday.
By Tuesday evening, Truss had already started assembling her Cabinet, appointing Kwasi Kwarteng as finance minister, James Cleverly as foreign minister and Suella Braverman as interior minister.

Solving the cost-of-living crisis

There have been rumors of a £100 billion ($113 billion) energy stimulus package to help British people to deal with the worsening cost-of-living crisis.
But there are questions as to how such a package will be funded.
“No new taxes” was a sentiment repeated time and time again by Truss during the Conservative leadership campaign.

Dr. Salomon Fiedler, economist at investment bank Berenberg, has suggested implementing a package “may not be so easy.”
“If incumbent utility companies freeze prices now but individually keep them above costs in the future, they could be outcompeted by new entrants in the future which do not have to recuperate current losses and thus could undercut them,” Fiedler said.
“This does not look like a time-consistent strategy,” he added.
“Another possibility would be to fund the current freeze with a levy on all energy consumers in the future. But this would in effect be a new tax, requiring Liz Truss to go back on one of her key promises,” Fiedler said.

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Employees assemble food containers on a production line at the Newell Rubbermaid factory in Mogadore, Ohio.
Ty Wright | Bloomberg | Getty Images

Check out the companies making headlines in extended trading.
Newell Brands — The parent company of brands such as Yankee Candle and Rubbermaid saw its shares fall 3.8% after hours after revising its third-quarter revenue guidance, forecasting less than what it had previously expected. The company CEO said Newell has experienced “a significantly greater than expected pullback in retailer orders and continued inflationary pressures on the consumer.”

Gitlab – The software developer’s shares ticked up by 0.04% even after the company reported a narrower-than-expected loss for its most recent quarter. Gitlab also issued better-than-expected guidance for third-quarter per-share losses and revenue.
Coupa Software — Coupa shares surged 13% after smashing earnings estimates for its most recent quarter, posting a profit of 20 cents per share compared to estimates of 9 cents per share, according to Refinitiv. Revenue for the quarter also came in better than expected. The company’s outlook for full-year earnings and revenue were strong.

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It is 2pm Universal Coordinated Time (utc) on August 18th and all over the world people are dialling in to a fortnightly “core developers” Zoom call, which is broadcast live on YouTube to anyone who wants to watch. None of the participants have their cameras on. Most appear as just black squares with names—including one labelled Vitalik, behind which lurks Vitalik Buterin, the inventor of Ethereum. A handful of users have adopted a panda avatar, with cartoon faces swaying and smiling in time to their human counterparts. That they picked the monochrome bear is thanks to Hsiao Wei Wang, an Ethereum researcher, who created a meme showing two bears, one black and one white, doing the “fusion dance” from Dragon Ball z, a popular anime show. In the show the dance fuses two creatures into a single, stronger one. The panda—a combination of the two bears—has since become a symbol for “the merge”.The merge is the name the crypto-community has given to the point at which the Ethereum blockchain will transition from using “proof-of-work” as a consensus mechanism, the method by which all the computers maintaining a blockchain agree to add new transactions to it, to using “proof-of-stake”. They call it the merge because, for almost two years, a separate proof-of-stake blockchain, called the Beacon chain, has been whirring alongside the original Ethereum one for developers to test, improve and test again. The Zoom call is for the developers to agree on when the two chains will join together. The date and time of the event will depend on how much computer power is being used to maintain the blockchain, but should happen at around 1am utc on September 15th.This is no mere technical tweak. It is a complete overhaul of a $200bn piece of software that has been running for seven years, which will, if all goes to plan, be implemented with no downtime. People in crypto like to compare the process to changing the engine of an aeroplane mid-flight. Proof-of-work is hugely energy intensive, requiring vast amounts of computing power, and has resulted in blockchains, like Ethereum and Bitcoin, consuming as much energy as small countries. Proof-of-stake will require 99.9% less energy to maintain. The effect on emissions will be as though, overnight, the Netherlands had been switched off (see chart). More important still, the merge will, if successful, suggest that Ethereum has the capacity for self-improvement, opening the door to more sweeping changes.Crypto is in need of good news, for the past year has been a torrid one. A handful of dodgy deposit-taking ventures have gone bust, wiping out savings; a crypto hedge fund has blown up; a stablecoin was revealed to be anything but stable. The total market capitalisation of crypto has crashed to around $1trn, about $2trn lower than it was this time last year. Ethereum’s improvements would not unpick any of this destruction. But, by reducing its environmental impact and highlighting the potential for future improvements, it would suggest that crypto has a brighter future than many now appreciate.The idea for the Ethereum blockchain was first published in 2014 by Mr Buterin. As with Bitcoin, it is a large database of all the transactions that have ever taken place in the cryptocurrency. But Mr Buterin’s crucial insight was that the blockchain could do much more than that—it could also keep track of lines of code. This allows Ethereum to record transfers of the currency, but also of all the assets and functions that are maintained in “smart-contracts”, self-executing agreements in which a chain of actions follows when certain conditions are met. That Ethereum validates code has made it possible for developers to build a large network of financial institutions, like exchanges and lenders, in code on the Ethereum blockchain.The blockchain is maintained by about a dozen pieces of software, called “clients”, that are worked on by the core developers. The clients are built in a variety of programming languages, including Go, Rust, Java and C# , and the software is run by the “nodes”—computers that run the client software to maintain the history of the Ethereum blockchain. All decisions about what to do, and whether upgrades will be implemented, are made by a consensus among developers, ether-holders and people who have built applications on top of Ethereum or listed real-world assets on the blockchain. Any plans and code are published in real-time on GitHub, a repository for programmers. The core developers meet, as pandas or otherwise, to discuss potential upgrades every two weeks. Anyone can in theory become a core developer just by working on the software. The result is that developers are a rag-tag bunch. Some are employed by firms like ConsenSys, a Brooklyn-based blockchain-software firm established by Joe Lubin, one of the handful of people who helped found Ethereum after Mr Buterin published his white paper in 2014. Some are employed by the Ethereum Foundation, a non-profit organisation set up in Zug, Switzerland, in 2014 with the proceeds of the sale of ether tokens. Others are hobbyists incentivised to help out because they hold tokens. At least 122 developers in 30 countries have worked on the merge software. Ethereum is not a company, and Mr Buterin, for all his clout and importance as its creator, is not its chief executive. It is open-source—much like Linux, a free operating system, and Firefox, a web browser—but the ability to buy a stake in its success, through ether tokens, provides an incentive to get involved in maintenance. The extent to which governance is truly decentralised is not entirely clear. At the start of the project in 2015, Mr Buterin said that he was doing the vast majority of the research and thinking about what Ethereum should be, as well as a lot of the coding to make it a reality. By 2020 he said he was doing perhaps only a third of the research, very little coding, but most of the “high-level theorising”. In the last two years he has said that even the high-level theory “has been slowly but surely slipping away from me”.To implement a change like the merge requires sufficient consensus among the interested parties. All the major clients must agree to write the software, enough nodes must update their software and all the real-world applications layered on the blockchain—like stablecoins backed by dollars in bank accounts—must accept the new merged chain is the one that will maintain the status of their assets. It can be surreal to watch this happening in real time. It is as if The Economist started to live stream its editorial meetings and allowed subscribers to commission articles and select covers.Nor are all the interested parties in favour of the merge. Miners have invested as much as $5bn in hardware to run the proof-of-work consensus mechanism. On September 15th or thereabouts that hardware will no longer earn them much of a return. The way proof-of-work maintains the security of a blockchain is by incentivising hundreds of thousands of computers to solve a mathematical puzzle. The computer that first finds a solution alerts the other miners and, if they confirm the result, updates the blockchain and is paid. As such it pays, in lovely, freshly minted ether, to have lots of graphics cards. Proof-of-stake makes decisions about updating the blockchain by a vote among the holders of a cryptocurrency. Voting power, as well as the share of the rewards, depends on how much ether has been staked. If stakers misbehave, such as by putting through faulty transactions, their stake can be destroyed. Thus on September 15th the advantage of having lots of graphics cards will disappear. Instead, the advantage will be in holding ether. Miners could attempt to put off the merge by revolting. But the nodes appear to be mostly going along with the update. According to ethernode, a website that tracks Ethereum activity, around 75% have updated their software to be ready for the merge. The alternative is to attempt to “fork” the blockchain, by still running the old software and hoping that enough others do the same that the old version of the blockchain will continue to exist. A dispute over a hack in 2016 led to Ethereum splitting into two chains: Ethereum (the dominant one) and “Ethereum Classic” (a much smaller one). For a split this time, “there basically needs to be one single miner in the world who decides they want to continue with the proof of work,” meaning there almost certainly will be one, says Justin Drake of the Ethereum Foundation. The question is how many miners stick and how many twist. Chandler Guo, who supported the Ethereum Classic fork in 2016, is attempting to organise miners around a proof-of-work token called “ethw”. “I fork Ethereum once, I will fork it again!” he has said. Although the miners have reason to stay with the old way of doing things, the economics of trying a forked chain will probably not add up. It will only make sense to mine ethw if the value of the token is worth enough. And a version of Ethereum minus DeFi apps, stablecoins and developers is probably not worth very much. Institutions like Circle, a stablecoin operator, have thrown their weight behind the new approach, rather than any forks. In a statement on August 9th the firm said that it “intends to fully and solely support the Ethereum proof-of-stake chain post-merge”. Wallet operators and exchanges are also backing the proof-of-stake chain. These dynamics reveal the balance of power inherent in Ethereum. The developers cannot put through updates that are universally hated, because doing so would cause a messy fork; the miners cannot resist an update if everyone else supports it. The decisions made by those that run applications on top of the blockchain, like Circle, can help solve disputes between the camps. This is very different from traditional tech platforms. Apple can push through an update that neither iPhone users nor app developers like, and there is little either group can do about it short of ditching iPhones altogether. There is no such thing as a “forked” iPhone. The way Ethereum gets to a consensus is “kind of a messy and ad-hoc process”, admits Mr Drake. But there are enormous benefits if things go well. The impact of the overnight elimination of its energy needs will be thinly spread as Ethereum is mined all over the world. Almost half the nodes are in America; around a tenth are in Germany. Other countries, like Singapore, Britain and Finland, are home to less than 5%. But in some smaller countries where mining is disproportionately popular, like Singapore, it is possible energy prices could fall. The change also reduces the need for specialised mining hardware. Nvidia, a chipmaker, makes graphics cards for gaming that can also be used for mining ether. From May to July, in part fuelled by rumours of an impending merge, revenues from its chips fell by half compared with the previous three months. On eBay prices of second-hand graphic cards are tumbling.Since the network will no longer need so much energy and hardware to maintain it, rewards for validating transactions can be reduced. “With proof of work the scarce resource offered in return for rewards is computing power. That is very expensive because you have to pay for electricity bills and you have to cover hardware costs,” says Mr Drake. With proof of stake, the scarce resource is digital money. “So the maintenance cost is essentially the opportunity cost of that money, which is maybe 3% or 4%.” Thus Ethereum will pay out just 10% as many tokens per block validated by stakers post-merge as it did to miners before it. This change in the monetary system is probably one reason why, since the timing of the merge began to firm up in mid-July, ether prices have jumped. The currency has climbed by almost 50%, even as bitcoin and other crypto tokens have traded sideways. Ethereum’s boosters think a successful merge could pave the way for “the flippening”, when the market capitalisation of ether surpasses that of bitcoin for the first time. It is currently about half as valuable as its rival cryptocurrency, which is close to its highest share since 2017. The other big benefit is security. At the moment, to take control of the Bitcoin or Ethereum blockchain an attacker needs 51% of the total computing power used to mine the currency. Rough estimates put the cost of this at $5-10bn. To attack a proof-of-stake blockchain would require buying up and staking half of all tokens, which would cost around $20bn. Some think these benefits will come at the cost of centralising power, since under proof-of-stake big holders reap more rewards, increasing their holdings further. But, says Ben Edgington of ConsenSys, the blockchain-software firm, this argument is wrong-headed. Small stakes will earn less than big stakes, but they will hold the same percentage of total outstanding tokens through time, meaning their relative power will not increase. With proof-of-work there are also returns to scale from building huge mining rigs, which are more efficient. “There is no way someone could set up a competitive at-home mining rig,” notes Mr Edgington.Another risk is that the transition fails in some way, which could undermine public support. Mr Lubin, Ethereum’s co-founder, is unperturbed. He says “there has just been so much testing that I think the blockchain elements will go perfectly smoothly.” The only potential missing link in the transition, Mr Edgington thinks, is the wider community. Given the complications in installing new components, and the need to get to grips with a new way of working, some participants may be lost. But there will only be problems if more than 40% are, and that is unlikely, he says. Applications, such as exchanges, that run on top of the blockchain may, though, experience some hiccups. Major software updates reveal all kinds of bugs in previously sound-looking code. Important DeFi apps, like Aave, a lending platform, are readying themselves by suspending transactions in ether over the merge period.If all goes smoothly, the merge will be a step towards a much more useful technology. Many of the financial applications that operate on top of the blockchain are extremely efficient, in part because they automate the functions of a financial system. Smart-contracts automatically match buyers and sellers or borrowers and lenders at an exchange. An imf paper found that the marginal costs of financial intermediation by DeFi apps were about a third as much as rich-country banks and a fifth of emerging-market banks. But the efficiency for users is hampered by how slow and expensive using the Ethereum blockchain can be. At times when the network is busy the charges to have transactions recorded, called “gas fees”, can spike to as much as $100 for a single transaction. Upgrades after the merge are mostly aimed at improving scale and efficiency. In July, at an Ethereum conference in Paris, Mr Buterin joked that the path for the blockchain is first to “merge”, and then “surge”, “verge”, “purge” and “splurge.” The surge, next on the list, refers to “sharding”, which is the process of splitting a database into pieces to spread the load. This will allow the blockchain to process many more transactions and should reduce the fees required to use it. ”Ethereum today can process about 15-20 transactions a second. This Ethereum…it’s going to be able to process 100,000 transactions a second,” Mr Buterin proclaimed.The verge will implement a new kind of mathematical proof known as “Verkle trees” and make “stateless clients” possible. That will mean someone can run the software to operate a node without having to store the entire “state” of the blockchain, which is an enormous amount of data. The purge will remove old data on the blockchain’s history. The splurge is “all of the other fun stuff”, which could be anything that Mr Buterin and the cryptoheads fancy. A successful merge is the first step on the path towards all of these changes. It would prove that decentralised groups of people can do risky, contentious and important things. Time to find out if they can. ■ More

FedEx trucks at Indianapolis International Airport in Indianapolis, Indiana.
Kaiti Sullivan | Bloomberg | Getty Images

Check out the companies making the biggest moves midday Tuesday:
Illumina — Shares of the biotech company rose 2.52% after Illumina said it plans to appeal a decision by the European Commission prohibiting the company’s acquisition of Grail. That decision follows last week’s ruling by a U.S. Federal Trade Commission judge in favor of the deal.

Digital World Acquisition Corp — Shares of the blank-check acquisition company, which agreed to merge with Donald Trump’s social media company Trump Media & Technology Group, plunged 12.2%. The move came on the heels of a Reuters report that Digital World Acquisition failed to secure enough shareholder support for a one-year extension to close the deal.
Bed Bath & Beyond — The beaten-down stock continued its losing streak, falling another 18.42%. On Tuesday, the home-goods retailer appointed its chief account officer as interim CFO after his predecessor, Gustavo Arnal, died by suicide Friday.
Alibaba — Shares of Chinese e-commerce company slid 3.65% after China announced new Covid restrictions in its southern tech hub of Shenzhen starting Monday, and Chengdu announced an extension of lockdown curbs. A total of 33 Chinese cities are under full or partial lockdown as the country sticks to is zero-Covid policy.
FedEx — The transportation giant slipped 2.18% after Citi downgraded FedEx to neutral from buy. The bank anticipates slower volume ahead for FedEx and cited macro headwinds and challenges in the freight industry among the reasons for the downgrade.
Rollins — The pest control stock jumped more than 6% on the back of an upgrade to outperform from sector perform by RBC Capital Markets. The investment firm said in a note that Rollins’ business model is “recession-resilient.”

NextEra Energy — Shares of the utility company rose 2.66% after Morgan Stanley upgraded NextEra to overweight from equal weight. The investment firm said the company would be “one of the biggest beneficiaries of the Inflation Reduction Act.”
Dropbox — Dropbox gained 1.46% after Bank of America initiated coverage of the stock with a buy rating. The firm cited strong free cash flow for the call.

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Check out the companies making headlines in premarket trading.
Bed Bath & Beyond — The beleaguered home goods retailer dropped another 14.1%, adding to several straight days of losses. The latest move comes after CFO Gustavo Arnal committed suicide Friday. Bed Bath & Beyond said in a statement Sunday that Arnal was “instrumental” in guiding the company through the pandemic.

Norwegian Cruise Line Holdings — Shares jumped 1.8% premarket after Stifel called the cruise line a “long-term buying opportunity.”
FedEx — The transportation stock dipped 1.5% after Citi downgraded it to neutral from buy and lowered its price target, citing pressures to earnings per share growth this year.
Transocean — Shares jumped 3.4% after BTIG upgraded the oil services stock to buy from neutral, saying the offshore drilling contractor should improve its balance sheet thanks to better day rates.
Dropbox — Shares advanced 1.7% after Bank of America initiated coverage of the file storing and sharing service with a buy rating, saying strong free cash flow generation should be attractive to shareholders.
CVS Health — CVS is acquiring in-home health-care company Signify Health in an $8 billion transaction, the two companies said. Shares of CVS rose 0.6% in premarket trading; Signify dipped 0.2%.

Volkswagen — Volkswagen is intending to list sports car brand Porsche in an initial public offering later this year, which could be one of the world’s largest listings this year.
Anheuser-Busch InBev — The Budweiser maker rose 2.4% after HSBC upgraded the Belgian beer maker to buy from hold, saying the stock could surge 30% from here.

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For a second time this year, the People’s Bank of China announced Monday it would reduce the amount of foreign currency banks need to hold.
Such moves theoretically reduce the weakening pressure on the yuan, which has tumbled to two-year lows against the U.S. dollar in the last few weeks.
Upcoming political events in China and concerns about capital outflows prompted the PBOC’s latest move to slow the yuan’s pace of depreciation, analysts said.

The Chinese yuan has tumbled to two-year lows against the U.S. dollar in the last few weeks.
Sopa Images | Lightrocket | Getty Images

BEIJING — China’s central bank has sent a strong signal it wants to keep the Chinese yuan from weakening too quickly against the U.S. dollar, economists said.
For a second time this year, the People’s Bank of China announced Monday it would reduce the amount of foreign currency banks need to hold.

Such moves theoretically reduce the weakening pressure on the yuan, which has tumbled by more than 8% this year to two-year lows against the U.S. dollar.
Chinese authorities typically emphasize the yuan’s level versus a basket of currencies, against which the yuan has strengthened by about 1% over the last three months.
However, Beijing’s latest actions show how important the yuan-dollar exchange rate still is, Nomura’s chief China economist Ting Lu and a team said in a report Monday.
They gave two reasons:

“First, in a year of the once-in-a-decade leadership reshuffle and with elevated US-China tensions, Chinese leaders especially care about RMB’s bilateral exchange rate with USD because they believe RMB/USD somehow reflects relative economic and political strength.
“Second, a big depreciation of RMB/USD could dent domestic sentiment and speed up capital flight.”

China’s ruling Communist Party is set in October to select a new group of leaders, while solidifying President Xi Jinping’s power.

Tensions between the U.S. and China have escalated in the last several years, resulting in tariffs and sanctions on Chinese tech companies.
Meanwhile, China’s economic growth has slowed in the last three years, especially with the shock of the pandemic in 2020. Tighter Covid controls this year, including a two-month lockdown of Shanghai, have prompted many economists to cut their GDP forecasts to near 3%.
That economic slowdown has contributed to the weakening yuan, which can help make Chinese exports cheaper to buyers in the U.S. and other countries.
The U.S. dollar has strengthened significantly this year as the U.S. Federal Reserve aggressively tightened monetary policy.
In addition, the greenback — as measured by the U.S. dollar index — has benefited from 20-year lows in the euro and a similar plunge in the Japanese yen.

Levels to watch

“We think the PBOC might have tolerance for further CNY depreciation against the USD, especially as the broad USD continues to strengthen, though they might want to avoid continued and too fast one-way depreciation if possible,” Goldman Sachs analyst Maggie Wei and a team said in a report Monday.
The analysts said they expect the yuan to depreciate to 7 against the dollar over the next three months. Nomura’s foreign exchange analysts forecast a 7.2 level by the end of the year.
The yuan last traded near 7.2 against the dollar around May 2020 and September 2019, according to Wind Information data.
“I don’t think it will go far beyond [7], certainly sort of beyond the 7.2 that we saw during the trade war,” Julian Evans-Pritchard, senior China economist at Capital Economics said Tuesday on CNBC’s “Squawk Box Asia.”

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“I think that’s the key threshold,” he said. “I think the reason they’re reluctant to allow that to happen is, if it goes beyond that level, then expectations for the currency risk becoming unanchored. You risk seeing much larger-scale capital outflows.”
The PBOC on Tuesday set the yuan’s midpoint against the dollar at 6.9096, the weakest since Aug. 25, 2020, according to Wind Information. China’s central bank loosely controls the yuan by setting its daily trading midpoint based on recent price levels.

PBOC: Don’t bet on a specific point

The PBOC’s latest cut to the foreign currency reserve ratio — to 6% from 8% — is set to take effect Sept. 15, according to an announcement Monday on the central bank’s website.
Earlier on Monday, PBOC Deputy Governor Liu Guoqiang said that in the short term, the currency should fluctuate in two directions and people “should not bet on a specific point.”
That’s according to a CNBC translation of a Chinese transcript of Liu’s remarks at a press event on economic policy.
For the long run, Liu maintained Beijing’s hopes for greater international use of the yuan. “In the future the world’s recognition of the yuan will continue to increase,” he said.
— CNBC’s Abigail Ng contributed to this report.

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In recent military drills around Taiwan, China has simulated an invasion of the island, which it considers a “renegade province”. Talk of war has preoccupied Chinese bloggers, pundits and politicians ever since Nancy Pelosi, speaker of America’s House of Representatives, visited Taipei in August.Finance officials in Beijing have no doubt been prepping for a conflict, too. They have watched with dismay as America and its allies imposed crippling sanctions on Russian banks and kicked seven of them out of swift, a messaging network used to send payment instructions. A Chinese invasion of Taiwan could result in similar measures, freezing Chinese banking activity abroad. In a shooting war over Taiwan, no one knows who would win. In a financial war, an American victory seems assured.China’s dependence on the dollar has long been a source of frustration in Beijing. It not only cements China’s vulnerability to sanctions, but also exposes China to America’s macroeconomic whims. To many officials, it is perverse that their country, the world’s largest exporter and official creditor, should rely so heavily on the currency of the world’s biggest importer and borrower. For over a decade, China has tried to promote its own money, the yuan, as an alternative. Yet progress has been hampered by another source of Chinese discomfort: uncontrolled capital flows. China’s limits on the movement of its money—in place to prevent speculation—make the yuan difficult for the world to embrace. Thus few bankers think the yuan will soon replace the dollar as the world’s currency of choice. But that is not the only prize worth pursuing. Other goals are more feasible and more urgent. In particular, China’s technocrats aspire to build a payments system that is easier for its trading partners to use and harder for America to block. They might also hope that such a system could make the yuan more influential abroad, without compromising China’s capital controls at home.New technology might help. Since May 2020, China has been experimenting with a digital version of the yuan, now known as the e-cny. Residents of 23 pilot zones across 15 provinces can download “e-wallets” onto their phones. The wallets are provided by their banks or popular payment platforms, like Alipay. But the e-cny they contain represents a claim on the central bank itself. Over 260m individuals and 4.5m shops can now handle the digital yuan, according to the People’s Bank of China (pboc), the central bank. Thanks to promotions and handouts, the digital currency has been used in over 260m transactions worth about 83bn yuan ($12bn) since its inception until the end of May, with an average transaction size of about 300 yuan. China insists the e-cny is first and foremost for domestic use. Officials were spooked by innovations like Libra and Diem, the digital currencies proposed by Facebook. They also want a secure backstop, and perhaps a rival, to Alipay and WeChat Pay, the hegemonic private payment platforms. For this reason, the e-cny has been designed for retail use. It can be held by individuals and non-financial firms, rather than just banks.But a few Chinese scholars are willing to voice greater ambitions. Sun Lijian of Fudan University has argued that a digital yuan might help break the dollar’s monopolistic status and could be used to finance projects associated with the Belt and Road Initiative, China’s overseas infrastructure-building programme. Some of the biggest believers in the e-cny’s potential seem to be wary observers in America. A recent book published by the Hoover Institution, a think-tank, argues that the e-cny could play an important role in internationalising the yuan and “transforming the geo-economic landscape”. In particular, “it is likely that countries seeking to circumvent us sanctions will explore using the e-cny as an alternative channel for cross-border transactions,” it noted.The e-cny could help to internationalise the yuan in several ways. It could make it easier and cheaper for foreigners to make cross-border payments—and harder for America to block those transactions for geopolitical purposes. That would increase the appeal of the yuan, even if China’s capital controls remained in place. The digital yuan could also change the way those controls work, programming them into the currency itself.Within China, e-cny payments are for now quick and free. (The central bank may charge a fee in future, according to Caixin, a Chinese magazine, to operators of the wallets and linked services, if not to end-users.) The pboc has made no announcements about how an overseas user might receive a wallet. But China’s banking community is full of speculation. Some believe Chinese regulators will set up a special financial zone where users abroad could apply for wallets. Here, banks and other financial-services firms would be invited to create “know-your-customer” businesses in the screening of applicants. Foreign users might eventually be allowed to do this remotely through Chinese banks in their home countries.Once a foreigner has qualified for a wallet, e-cny transactions with other wallet-holders should be quick and cheap, even if they are separated by a geographical border. In the early stages, most transactions would be with Chinese firms or customers. But once the number of foreign wallet-holders reaches a critical mass, some payments need not have a Chinese user on the other side of the trade.Cross-currency transactions seem a more distant prospect. But China’s experiment with the e-cny has spurred many other governments to look into digital currencies of their own and how they might be exchanged with each other. Take, for example, mBridge, a programme set up by the Hong Kong Monetary Authority and joined by the pboc, the central banks of Thailand and United Arab Emirates, and the Bank for International Settlements, a club of central banks in Switzerland. One initial aim is to enable digital-currency transactions within the Greater Bay Area, a large region in southern China where three currencies (the yuan, the Hong Kong dollar and Macau’s pataca) now operate. The involvement of other central banks indicates mBridge’s long-term ambitions are much larger.Platforms like these could eventually help settle international payments at a fraction of the cost of the current correspondent-banking model. The technologies underlying digital currencies have been found to reduce the transaction, energy and storage costs connected with legacy systems. Moving away from centralised clearing and creating competition among various platforms could also help bring down costs. For China, the project is strategic, not commercial, and therefore it will almost certainly seek to undercut other systems on price, notes a recent paper by Ross Buckley of the University of South Wales, Douglas Arner of the University of Hong Kong and their co-authors. Such systems might also be less vulnerable to sanctions. America’s response to Russia’s war in Ukraine has demonstrated that Western powers can debilitate foreign banks with great ease by kicking them out of swift. America can also bar its financial institutions from dealing with a sanctioned country, making it impossible for that country’s banks to settle dollar payments with the rest of the world. Payments in digital yuan would use neither the dollar nor swift and could conceivably bypass commercial-banking institutions altogether.The e-cny might make America’s financial weapons less convenient and less precise, thus raising the bar to their use. But it would not spike them altogether. Even if America could not directly prevent an e-cny transaction from going through, it could still deny access to its clearing system to any institution using the e-cny in a way it did not like (ie, to serve a sanctioned country)—a powerful tool of deterrence and punishment. Since America could not monitor e-cny activity as closely as it can monitor dollar payments, some transactions might escape its notice. But if the inscrutable e-cny became too big a threat to its sanctions regime, America could in theory ban its use by any institution that wants to retain access to the American clearing system. That would force the world to choose between the dollar and the digital yuan. Lower transaction costs and less vulnerability to sanctions could make the e-cny more appealing to foreigners. Other characteristics of the digital yuan could make its overseas use less nerve-wracking for China’s authorities. China’s rulers worry less about capital leaving the country than about it leaving the currency. They are fairly relaxed about Chinese residents and firms accumulating yuan-denominated claims on the rest of the world. But they worry about runs on the currency, especially if those runs develop their own speculative momentum. Within China, regulators can limit the amount of yuan that residents are allowed to sell for foreign currency. They can also quiz residents about why they want dollars. Regulators do not have the same control over non-residents, especially if non-residents hold yuan in foreign banks.Several aspects of China’s existing financial plumbing betray this nervousness. Its own cross-border interbank payments system, cips, has been slow to admit foreign banks, for example. Within this system, yuan payments can leave China but stay within a trusted circle of largely Chinese intermediaries. Its “Wealth Connect” programme, introduced last year, creates another kind of closed loop. It allows rich individuals in China to buy investment products in Hong Kong, thereby gaining exposure to assets denominated in foreign currencies. But when they cash out of those investments, they may do so only in yuan. This stops people from moving trunk-loads of yuan out of China. The e-cny could enable another closed loop. Transactions in e-cny take place across the balance-sheet of China’s central bank. That makes it easier for the authorities to monitor the use of China’s currency even among non-residents. Because the e-cny can only pass between approved e-wallets, China’s authorities could also weed out potential speculators during the approval process. Digital wallets would be likely to encode a number of user characteristics, such as their country of residence and the industry they work in. These sorts of details could be used to either grant or deny people and companies access to yuan payments, or limit their payments to certain sizes. China could then be confident that any digital yuan circulating outside its borders would not fall into the wrong hands for the wrong reasons. .China’s digital currency is also “programmable”. The e-cny can be distributed with conditions, such as a timeframe for spending it. In theory any condition can be programmed into digital currencies, says Michael Sung of FreeFlow Finance, a cross-border payments company. Regulators could, for example, encode limits on how much could be sold for foreign currencies. That would help them to limit any runs on the currency, even if the yuan were held by foreigners beyond their conventional regulatory reach.Imagine, for example, that e-cny wallets were granted to a number of grain traders in Africa, alongside related businesses, such as farmers, pesticides vendors and logistics firms. Money lent to these companies could be programmed to be exchangeable only with approved companies within this supply chain. The pboc could also monitor payment flows closely. Cashing out the e-cny into other currencies with unapproved banks could be easily stopped.Such control and a god’s eye view of the currency could make the pboc much more comfortable with allowing greater flows of its currency into trade finance and supply chains. Charles Chang of Fudan University points out that authorities have already been experimenting with changes to yuan-convertibility rules in Hainan. Officials have said that Hainan will become a free-trade port by 2035. They aim to make the island province an offshore trade and finance centre, playing a similar role to Hong Kong. It is not hard to imagine this type of finance zone being used as a base to conduct digital-yuan trade finance, says Mr Chang.But will users outside of China want it? In poorer countries, probably yes. Securing financing in dollars in poor parts of Africa can be incredibly difficult. Supply is limited. Business owners often wait weeks and pay hefty fees and bribes for access. Many firms in poorer countries already opt for yuan-based trade finance when it is available. A switch to e-cny could only help, as long as there is ample supply of it and overseas users can get digital wallets.A restricted currency is naturally less appealing than an unrestricted one, just as food stamps are worth less than their equivalent in cash. So a programmed digital yuan would be less appealing than a currency free of such restrictions. But if China’s conventional currency remains hard to come by, because of the government’s nervousness about speculation and misuse, then the digital yuan could be a viable alternative. It would be less freely usable, but more freely available. Moreover, most users of a currency have no intention of panic-selling the currency unless everyone else does. So technological speed bumps designed to prevent runs need not be fatal to the digital yuan’s international appeal.Much of this is still in the realm of speculation. As tensions rise with America, the domestic rollout of e-cny will bring little comfort to Chinese technocrats who fret about imminent conflict. In the long-term, though, the digital currency will be more significant. It may eventually help the yuan span the world without leaving its lane. ■ More