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Bitcoin: An Escape From Currency Debasement?

Although gold traditionally has been the alternative asset for those wary of fiat currency debasement, there is an emerging newcomer: virtual currency. Bitcoin, created in 2009 by Japanese developer Satoshi Nakamoto, is a self-regulated and anonymous online payment system with a fixed supply of currency.

The selling point of Bitcoins (BTCs) is their value cannot be artificially debased. Although the supply of BTCs will increase predictably in number though 2017 (the currency is still developing and needs to circulate enough BTCs to support its later ambitions), the limit is fixed at 21 million BTCs. After 2017, the increases are small half-steps towards the 21 million BTC target.

There is no central bank, operating under the influence of government, to manipulate the currency for political ends.

That said, Bitcoin still has a long way to go before becoming a real alternative to the fiat currency we use everyday. There are only a handful of merchants that accept BTCs directly, hackers present a real danger to your “virtual wallet” -- and since the Bitcoin is peer-to-peer and completely anonymous (each transaction has a randomly generated, thereby untraceable, key code) -- finding the perpetrators is essentially impossible. Also, volatile trading volumes while the currency is still in its infancy can pose serious exchange rate risk to users.

The Finns don’t seem to mind the risks though -- they are the highest per capita users of BTCs. Americans and Germans are the largest volume users.

The most recent Bitcoin news comes on the heels of the European Union’s bail-in/bailout of Cyprus. With deposit levies imposed on accounts above €100,000 to recapitalize the broken Cypriot banking system and the institution of capital controls to prevent a mass exodus of euro, it’s little surprise BTCs jumped in value against the euro this week. BTCs are not just an insurance policy against further confiscation, but also a way to evade the capital controls on traditional currency.

Bitcoin may soon break out of its virtual world and into hard currency. CNN reports that two BTC ATMs will go into service in the next weeks. Unsurprisingly, one will be in Cyprus, the other in Los Angeles.

Although Bitcoin as a currency seems more a novelty than anything else at this point, its attractiveness as an insurance policy against the plunging value of fiat currency is quite real. More than three-quarters of all BTCs in existence, valued at $83 million, have never been used in a transaction. Bitcoin users overwhelmingly see BTCs as a safe store of value, not necessarily as a superior means of exchange.

Although skepticism of Bitcoin’s longevity in functioning as an alternative currency or asset is both healthy and warranted, one need only look at the balance sheet of one’s own national central bank to feel similar doubts about traditional currency.

 

FRB assets

 

Source: Federal Reserve Bank of St. Louis