The recent bullish trend in the market for Bitcoin has seen the fledgling currency really capture the eyes of the general public. In many ways, the cryptocurrency can be seen as technology’s answer to today’s fiat money, and in the same vein it has been suggested that it could grow into a new global currency, coming into greater worldwide use for transactions. Fascinating though the prospect may be, for me there are several reasons why I doubt this could happen, which relate both to how a global shift to Bitcoin could be implemented and also to how this new economic paradigm could actually work once implemented. The first of these reasons is its volatility, and with that, I’ll begin.
Reasons why to me it is unlikely Bitcoin can become a new global currency
- Its volatility. It is likely that over the past few months bullish speculators on Bitcoin have made substantial profits, and if the price signal of the free market is anything to go by, the upward trend in Bitcoin price shows more people are accepting its viability as a currency. However, it is this very appreciation of the currency that is a great example of the point I am trying to make: at the current moment, Bitcoin is far too volatile to be held confidently by consumers. Take the example of the pound sterling. In the immediate aftermath of the Brexit referendum, the movements of the pound were taken as an unusual sign of volatility, perhaps signalling uncertainty regarding the future trajectory of sterling exchange rates. When we compare this with Bitcoin, which has previously risen against the dollar by 50%, 33%, and 20% in 23, 60 and 63 days respectively, we can see just how unusual Bitcoin’s price movements are compared to a widely-used currency. In a potential transition period whereby Bitcoin begins to come into common use, it may be economically rational for consumers to choose not to hold Bitcoins and instead to hold currencies that are far less volatile against others. This is because sharp rises and falls in the value of the currency can significantly reduce or increase purchasing power (in countries where Bitcoin has not become as mainstream) from one day to the next. In turn, this can create uncertainty regarding future spending and hence a reluctance to hold Bitcoins as a reserve currency due to this uncertainty, limiting its potential to be a truly global currency.
- Limitations of monetary policy. A potential counterargument to the point raised above is that Bitcoins will stop being produced when the supply of them hits 21 million. This actually promotes price stability, and means that in the long term, the point above is moot. Fair enough. What I would say to that is it then becomes very difficult for central bankers to use monetary policy tools (such as lowering the interest rate) to stimulate aggregate demand, in, for example, the aftermath of a recession. A big point often raised about Bitcoin is that it does not lie under the jurisdiction of any government or central bank, so therefore they cannot influence the money supply and hence it would be hard for political consensus to be reached on the adoption of Bitcoin as a national currency. For the sake of the all-important flexibility of monetary policy, then, I would argue that it is not only unlikely that bitcoin will become any country’s national currency, but it is also essential that it does not. However, it is true that Bitcoin can be widely accepted for transactions without becoming a national currency – but the point below indicates to me that this is unlikely to happen.
- Trust. In my previous article, I talked about how paper money nowadays was backed by the trust of its users. On the surface, bitcoin can seem somewhat familiar to the fiat money I mentioned: it is not backed by any tangible commodity and hence only relies the trust of societies that use it to function as a store of value, a unit of account and a medium of exchange. However, recent happenings make this trust somewhat hard to attain for bitcoin. Firstly, the volatility which I mentioned above can create uncertainty over the future prices of bitcoin in terms of other major currencies, potentially scuppering its use. Secondly, with figures such as Jamie Dimon, the CEO of JPMorgan Chase, claiming that bitcoin is “only fit for use by drug dealers, murderers and people living in places such as North Korea.”, public perception of the currency as a means to enable criminal activity may limit its general use. Factors such as these contribute to a general lack of acceptability in transactions, which severely limit bitcoin’s potential as a worldwide currency. Similarly, the failing of Bitcoin exchanges like Mt Gox also can contribute to this lack of trust and acceptability.
To summarise, Bitcoin is indeed a hugely interesting, and potentially revolutionary, new currency. However, I hope I’ve done a good job of illustrating why I think it is unlikely to be a new global currency. Regardless, I think it’s really important to keep a huge eye out for it; to me one of the most interesting developments in the global economy is how the fledgling currency does. Let’s just wait and see.