- Will it be a total replacement, a semi-replacement or just a minor augmentation of our existing economies?
- What will the impacts be?
- What do we need to know?
- How should we prepare?
These questions and many others will be discussed in the GBA’s 2019 Symposium on The Future of Money, Governance & the Law
Many proponents of cryptocurrency claim that it will eventually replace fiat currency. Critics laugh and dismiss such statements as naïve pipe dreams. But, could it happen? What is the likelihood that crypto could replace fiat? (and to what degree?) And, most importantly, what should governments, institutions, and individuals do about it? Let’s address the issues related to cryptocurrency adoption and its impact on the government.
Cryptocurrency is too volatile
Cryptocurrency is volatile. It started out flat and remained that way for a long time, but crypto has exploded in value. Why? There are several reasons. For starters, people are losing faith in large institutions. The mismanagement of large financial institutions that were “too big to fail” required bailouts at taxpayers’ expense. Added to this mismanagement, some banks have resorted to fraud, further eroding the people’s trust. The media has added to this atmosphere of mistrust by continually reporting on political and intuitional corruption while putting forth content that has earned their reputation for ‘fake news’. The responding populism and libertarianism saw the rise of Bernie Sanders, Donald Trump, and Brexit. But, it is not only individuals that are rebelling against large centralized control. In the US, entire cities and now even states are telling the federal government that they will make their own laws by creating sanctuary cities, legalizing cannabis, or creating their own banking regulations. Many of these bold choices are in violation of federal rules, regulations, and laws. There is a major global trend toward decentralization. The rise in crypto adoption ties into more than just financial and economic analysis. This trend is philosophical, moral and global. It is pushing disenfranchised people to try their hand at crypto. This leads to skyrocketing prices followed by massive sell-offs, crashing prices, and disillusionment. But the trend towards decentralization is widening the pool of cryptocurrency owners, and larger adoption will eventually stabilize this cycle.
By comparison, the US Dollar is far more predictable in its value. Every year it diminishes. This is because governments spend more than they collect in revenue and consequently have to increase the money supply or go further into debt. Since politicians that increase taxes or cut spending do not usually get reelected, the problems are institutional (not political). So, we can depend on fiat currency diminishing in value every year.
On the other hand, cryptocurrency continues to increase in value.
The chart below shows the actual value of a dollar from 2009 (the year that cryptocurrency sprang on to the world stage) and the relative value of that same one dollar if it traveled through time in the dollar vs bitcoin economy. In other words, $1.00 in 2009 would diminish in value to only $0.85. However, that same dollar in 2009 converted into bitcoin would be worth over $2 million in ten years.
The truth is that many people are more secure knowing that their money will consistently diminish in value rather than realize the benefits of a monetary system with a decade of unprecedented increase.
Cryptocurrency is not (and will not) be used for payments
Why are people not using cryptocurrency for transactions? There are four primary reasons. They are:
- Speculation – It is true that most owners of cryptocurrency believe that the value will go up over time. That is why the number of owners continues to increase. Currently, about 30-40% of college students own cryptocurrency, and, since they believe that the value will go up, many are holding them. As the base number of crypto owners increases and the prices stabilize, more owners will be willing to spend their investments.
- Ease-of-use – Right now, most people do not know how to make a peer-to-peer cryptocurrency transition. While it is not difficult, if you don’t know how to do something, you are not likely to do it. However, every day, YouTube videos are being made explaining how to use cryptocurrency. Add to that phone apps, wallets, debit cards, and other infrastructure support are being developed to make it easier and easier to conduct a peer-to-peer crypto transaction. As these new tools become available, cryptocurrency ease of use will not be a problem.
- Scalability – Transaction costs and lags make bitcoin and some of the early generation blockchains impractical for immediate wide-scale adoption. However, the next generation of blockchains has much faster transaction speeds with much lower costs. The technical barriers to many existing constraints are falling fast.
- Regulatory – Right now, the IRS, SEC and other regulatory bodies make it either difficult or unclear on how to comply with tax and financial regulatory and statutory requirements. This hinders merchants and intuitional enterprises from wanting to accept crypto as payment. Even so, some states and governments are beginning to accept and process cryptocurrency transactions. As this technology and the ecosystem continues to mature, there will be increasing pressure on regulators and lawmakers to improve clarity and establish an orderly legal and regulatory framework for this burgeoning economic system.
Impact of peer-to-peer transactions
What happens if an increasing number of people use peer-to-peer transactions? Banks will no longer have visibility into transactions. Governments will not be able to use financial institutions to monitor, influence, and control. The increased use of cryptocurrency erodes the governments’ capabilities to govern. This affects several major functions. They are:
- Collecting Tax Revenue – In 2017, the cryptocurrency market cap went from $16 BIL to over $237 BIL according to CoinMarketCap and generated about half a trillion dollars in new wealth. However, Reuters found in a 2000 person survey, 57% percent of those surveyed realized crypto gains, but only 0.04% reported them to the IRS. In 2018 there was a dramatic downturn in the price of cryptocurrency. That same year, over 210,000 posts on the internet explained how to deduct losses in capital gains. If the government loses visibility in transactions, they lose the ability to tax.
- Enforcing Laws – Whenever there is a crime, what do investigators always say? Follow the money. Since banks are nationally regulated, they must comply with government requests to provide financial data about their customers. This oversight of financial data gives the government great capabilities to identify criminal activity and perpetrators. They use this capability to fight money laundering, terrorism, drug, and human trafficking. However, when individuals use peer-to-peer cryptocurrency, governments will lose this visibility, eroding their ability to enforce the laws.
- Governments manage the economy – Governments manage the economy mainly by controlling the interest rates charged to banks and controlling the supply of money. But the government has no influence on the supply of cryptocurrency. Anyone can create a new currency with a few lines of code. Cryptocurrencies and tokens can be assessed value. This technology enables the tokenization of value in completely new ways. The supply and value of this new type of asset have never been explored before. The supply of some cryptocurrencies is governed by math and algorithms while others are created by the whims and marketing capabilities of new authorities. We are now entering into entirely uncharted waters and the tools and techniques that governments have used in the past may not work in the future.
The government won’t let that happen
The concept of financial and governments institutions being “Ubered” out of control leads many people to believe that these governments would not allow it to happen. However, government leaders are not gods. There are many national leaders and governments that have lost power over the course of human history. None of them “allowed” it to happen. Sometimes forces bigger than the governments or their leaders prevail. Nobody disputes that governments want to maintain control and orderly society (benevolent or not). However, the very nature of a global distributed and decentralized network may be bigger than any one country.
Clearly, the increased use of peer-to-peer cryptocurrency will impact governments. We need to start to understand the impact and determine how governments should respond. Should they clamp down and drive innovation out to other more crypto friendly countries? Or, maybe governments should look for new models to generate revenue and govern their constituents. Governments could make money by generating their own coins that represent programs like space exploration or the environment or healthcare. Maybe governments could engage in some form of mining or other cryptos/token management model. There are many potential impacts and responses. One thing is certain. Change is coming and we need to understand it and prepare to adapt.