You got it wrong: There is no currency battle “Crypto vs. Fiat”

You got it wrong: There is no currency battle “Crypto vs. Fiat”

by January 9, 2018

Every so often I come across articles such as “7 Reasons Why Bitcoins Are Better Than Fiat Currencies” and thread headlines in discussion forums such as “This is why we hate fiat currency and why cryptocurrency should prosper”.

What authors of such contributions totally misunderstand is: typically, cryptocurrencies are fiat currencies.

The American economist and Penn State professor Neil Wallace put it on its simplest when he stated that “Fiat money is an intrinsically useless object that serves as a medium of exchange” (Wallace, 2017). And this is precisely what most cryptocurrencies are: intrinsically useless objects.

Generally speaking a cryptocurrency is a digital currency in which encryption techniques are used to control the generation of units of currency and verify the transfer of funds. Yet, in order not to throw out the baby with the bathwater, it makes sense to distinguish among those cryptocurrencies that do offer some sort of additional benefit to the user and those which do not provide any advantageous functionality. Bitcoin certainly belongs to the latter bracket whereas Ethereum with its smart contracts belongs to the former.


Crypto is technical infrastructure

Bitcoin Cryptocurrency CC

Image credit: Bitcoin, via Pixabay

What the crypto vs. fiat antagonists miss is that crypto stands for nothing but a new type of technical infrastructure. In the late 1950s Banks started to use computers for book keeping processes (Bohm et al., 2008). Books were being replaced by computers and physical money was increasingly being substituted by electronic money. As many countries are still far away from representing cashless societies this process continued for decades.

Then came 2008 when Satoshi Nakamoto published his paper on Bitcoin. Yet, this paper went beyond describing a new form of money, it expounded in detail a novel system using cryptography for peer to peer electronic cash, the so called Blockchain. For the first few years the paper and thus Bitcoin and Blockchain went unnoticed by the wider population. It took about four years until Bitcoin reached a million transactions per month, a number that the VISA transaction network processes in less than 90 seconds.

Yet, over time the new technology became ever more appealing to a growing user base as it has significant advantages over traditional monies. Among others, the number of units of money can be fixed, permitting effective inflation management. Second, it allows for immediate settlement, i.e. no third-party approvals or actions are required to complete a transfer. Third, the Blockchain prevents any sort of counterfeiting of money. Finally, the system is fully transparent: any user can see any transaction in Bitcoins since inception.


National cryptocurrencies as legal tender

It is the last characteristic, full transparency, that will soon make governments the biggest advocates of cryptocurrencies and let them jump the crypto bandwagon. As banks upgraded their operations from analog to electronic, so did governments and tax authorities. Officials will further pursue this journey as full transparency is a dream come true to any internal revenue officer.

The crypto currency issuing central bank not only knows who it issued the money to, but any law-enforcement officer could keep track of the money, virtually in real-time. The arguments brought forward for a crypto legal tender will be identical to those supporting the abolishment the 500 Euro note: it will be the cure to moonlighting, bootlegging, fencing, terror financing, tax evasion, prostitution and so on, and so forth – with compliments of Aldous Huxley’s Brave New World!

Some governments, such as Australia, Russia, Kyrgyzstan, and China are already toying with the idea of shifting parts of their national legal tender onto a crypto infrastructure and others will follow suit soon. Hence, what we will see in the near future are national monies, i.e. legal tenders, issued and operated on a crypto infrastructure, let that be based on the Blockchain, Tangle, Hashgraph, the Holochain or similar.


The epiphany moment

It is likely that one unit of the new national cryptocurrency will have the identical value as one unit of current national currency. Yet, it will solely exist in the virtual sphere. More importantly, just as the current money in circulation, the new money will be “neither a commercial commodity, a consumer, or a producer good, nor title to any such commodity” (Hoppe, 1994), in short it will be as already mentioned “intrinsically useless object that serves as a medium of exchange” and thus it will be fiat money.

As soon as governments lift their fiat money onto crypto platforms, the crypto vs. fiat antagonists will have to acknowledge that crypto currencies may well also be just that: fiat moneys. So where does this prevailing misunderstanding come from? I assume many people equate fiat currency with state issued money or legal tender. But this is not a necessary characteristic of fiat money. On the contrary, economists hold that fiat money has no particular legal status such as legal tender (Goldberg, 2005).

A positive side effect of governments shifting legal tenders onto crypto infrastructures will be an increased focus on the interface between traditional money and crypto currencies. In the long run, a substantial improvement of this very interface is key to avoid a liquidity crisis which may otherwise cause some cryptocurrencies to entirely collapse in the course of a sustained drawdown period.


Featured image via Pixabay