Cryptos Are Neither Currency, Nor Assets
Cryptos are anything but easy to understand. Since its inception cryptocurrency has generated both controversy and news. Its impact has been both overt and subtle.
While bitcoins may not be the ‘Tulip’ bulbs of 2020, a better comparison is to a sparkling & shooting star, alluring people, attracting investment even as it flickers. Many orthodox economists believe it’s a comet that will vaporize.
The future will judge whether it’s a star or a comet.
Demonstrates none of the characteristics; fails every measure of a currency
Over 2 crore enthusiastic Indian investors (mostly young, many with high-risk tolerance) are ‘invested’ in cryptos. India has about 500 startups ‘operating’, and over Rs 25,000 crores is at stake.
Most who trade, especially those who have ‘made’ money advocate that cryptos, particularly bitcoin, are a great currency, and the future of money. Maybe in the future.
As a currency, it has no history of being accepted as money, nor a chance of the sovereigns allowing it to be one. It lacks several key currency attributes for example the time-tested store of value (intrinsic worth). It has failed miserably. It fails several other standards. For the retail, the transaction cost is high, it lags, prolonging the transactions. Its tedious & cumbersome. In addition, there is a hint of uncertainty, even insecurity to the transaction and the process. The absence of financial and legal ‘backing’ only accentuates the uncertainty. Bitcoin cannot buy a car, pay someone’s tuition fee nor a house. Neither a meal nor a cup of coffee.
Let’s say it’s not transaction friendly.
The enthusiast believes Bitcoin and other cryptos are real assets. Yes, may be. But what is not real is the value assigned to it.
It hardly displays any virtues of an asset. It’s far too volatile to be considered a defensive asset like cash. Similarly, it neither generates the cash flow nor is a good hedge. Most precious metals shine when the world is dim. Gold holds value when the world is in a turmoil. It glitters when bears rule the stock markets. Cryptos add volatility to the portfolio; gold stabilizes it. Similarly, it’s impossible to assess it as a ‘growth’ asset because no one has any reasonable idea as to what it may return. Over the last decade its volatility has been about 20 times greater than global stock markets, 15 times higher than gold and about 30 times higher than the de facto ‘global’ currency (USD) index. High leverage makes it a poor diversifier. Those who espouse cryptos as assets must be living in a cocoon.
Momentum driven & unreliable ‘valuation’
Sure, it has gone up sharply in the last thirteen years; may climb even more. However, growth in valuation has been wobbly at best; and precarious, losing more than 80% of its value thrice; in 2011, 2013-15 and 2017-18. History is rhyming this year too. Many cryptocurrency fortunes have already evaporated.
Cryptos is not for the faint hearted. Speculators will eventually realize it’s a zero-sum game. Cryptos have the hallmarks of a classic bubble and are in the bubble territory; will hurt naive investors. It has. As always it is the retail and the laggard who will be at the wrong end of the stick. Those who believe in the idea of cryptos ignore data, see no bubble citing that the bitcoin is in its 2nd decade. However, history gives us several examples of speculative manias that ‘flowered’ for a longer period. Demise was swift in each of those cases though.
Thankfully the enthusiasts are dwindling, for now. But changing tides will attract a new set of followers, a classic bubble case.
How does one define Cryptos? If it’s not a currency (digital cash), and if it’s not an ‘investible’ capital asset, then what is it really?
Cryptocurrency has provided an opportunity, even incentivized those who evade taxes or launder money. Cryptocurrency’s role in criminal activities is only on the rise. There is a bigger danger lurking. In its current form, cryptos presents three challenges to the government, and society at large. It cannot be regulated. Its decentralized system has the potential to dismantle the monetary system. Its network renders the intermediaries superfluous, and by extension the elements of the government’s system. This can potentially trigger mayhem and destabilize an economy especially those with weak regulatory frameworks and feeble institutions. It can incentivize, help, and encourage the dishonest to circumvent capital controls and potentially (indeed has been) a putty in the hands of criminals. Major economies, refuse to recognize it as legal tender.
Governments distrust cryptos, eye its advance warily, are concerned.
Cash created by the central bankers has several checks, more balances, are backed by the full faith and credit of a sovereign government. The promise to ‘make the borrower whole’ in case of a default reposes trust and is key to commerce.
Negativity regardless, cryptos will leave a very important legacy. It has been a wakeup call for central bankers; and is both nudging and provoking them to look beyond; and act. They are seized of the challenges and are intensifying their effort to offer a more holistic solution that has what the cryptos offer with the security that the sovereign currencies offer.
Sovereign approval and effective regulatory framework for digital currencies and other innovative financial products like decentralized finance can transform the nature of money and finance. It will mean the emergence of a new and equitable monetary system that democratizes finance and enables a more efficient, more inclusive financial system by both enhancing & enabling e-business, e- investments, and e- payments.
Adequate, and necessary checks & balance
There is more work to be done. Digital access and financial literacy is key to ensuring that digital currencies and technological innovations don’t worsen inequality.
The policy framework will determine success. It may go downhill under excessive regulation and indifferent administrative mechanism. Similarly, the policy must provide the necessary checks & balance, that prevents illegal and illicit practices and equally avoid draconian clauses that ensure citizens’ transaction is neither traceable nor auditable.
