Governments Won’t Sit Around AndLet Cryptocurrencies Boom

Livemint     31st May 2021     Save    
QEP Pocket Notes

Context: Despite its limitations, fiat money does have enough reasons to prevail over cryptocurrencies.

Premise of cryptocurrencies

  • Fixed supply: Meant to impart stability as, unlike government-backed fiat money, their supply cannot go up suddenly.
  • Flexibility: Allows individuals to work around the conventional financial system and let payments be made directly between payer and payee.
  • Permit transaction
  • Noble vision: That a day will come when cryptos will be real money.

Concerns regarding the current cryptocurrency paradigm

  • Extreme volatility: On 14 April 2021, bitcoin price touched an all-time high of $64,863 and with weeks, by 19 May, it had fallen by more than 50% to $30,682.
    • The trigger for this volatility is from China's talks about tighter crypto legislation to protect its financial system and entrepreneur Elon Musk's sudden concern about the environmental impact of Bitcoin mining.
  • Fundamental weaknesses in structure: While there may be a limit to the supply of each crypto, there is no limit to the supply of multiple cryptos. Thus, intended stability due to limited supply is not materialised.
  • Difficulties in establishing trust: Due to no intrinsic value or any external backing, and remains vulnerable to cyber-attacks, loss of customer funds, limits on transferring funds and inadequate market integrity.
    • Anonymity concerns: Raise a host of issues around consumer and investor protection, market integrity, money laundering, terrorism financing, tax evasion and the circumvention of capital controls and international sanctions.
  • Concentrated ownership: As a January 2021 report published in The Telegraph points out: "According to industry data, around 13% of all bitcoin… sits in the hands of just over 100 individual accounts."
  • Untenable in the democracies: It is untenable for democracies that the core of the monetary system to be based on private money whose creator would have privileged access to customer data or payments systems (like stablecoins).

Conclusion

  • Paper currency is here to stay: As long as taxes have to be paid in government-backed fiat money, its demand is going to stay.
    • John Maynard Keynes, in A Treatise on Money, said that all modern states had had the right to decide what is money and what is not, and they have had it "for some four thousand years at least".
    • Fiat money backed by countries, despite all the abuse it gets and is prone to, will always have more credibility (in most cases).
    • While exceptions like Nigeria do occur, where it makes sense to own cryptos rather than Naira, it must be remembered that some swallows don't make a summer.
QEP Pocket Notes