The SWIFT Institute recently published a working paper titled, “Virtual Currencies: Media of Exchange or Speculative Asset?” It examines whether or not virtual currencies--most prominently Bitcoin--posed a threat to macroeconomics or fiat currency.

The paper, however, illustrates the analysis of an innovative technology from the perspective of those with experiential bias mired in years spent in the industry and hinders the ability to see the “full picture.” In this brief, I will analyze some of the points brought forth by the SWIFT Institute and add the missing perspective needed to realize the full potential of this technology.

“An empirical analysis of prices and user accounts (wallets) of Bitcoin supports the theoretical result and finds that Bitcoin is mainly used as a speculative investment rather than a medium of exchange.”

Keywords: Bitcoin; virtual currency; digital currency; alternative currency; medium of exchange; asset class; safe haven”

Vocabulary is key to communicate anything and especially so when attempting to convey the specifics of such an innovative technology. Now, let’s talk about why accounts, virtual currency, and digital currency are misleading, or outright wrong when describing both the currency and technology of Bitcoin.

Digital (and virtual) currency has been around since the digitization of communication. Today, nearly all currency is digital; only a fraction of sovereign currency exists in the physical medium. Although Bitcoin is considered a digital currency, it is more accurately described as a cryptocurrency. Cryptography is what makes Bitcoin unique; it is where the differentiation between every other virtual or digital currency becomes apparent. Cryptography is what controls nearly every aspect of Bitcoin--from the production to the distribution. As there is no central entity or bank controlling the production of Bitcoin, one of the greatest values comes from trusting the math and not the centralized institutions’ policy decisions.

Referring to where one stores their Bitcoin as an account is akin to saying that you have a leather account in your back pocket or purse. A key differentiation between cryptocurrencies and digital currencies (the digital value held in your online checking account) is not the medium in which it exists, but instead the platform it exists on. Moving from a liability-based system (one which is based on account management) to asset-based (in the form of bearer instruments), trade has the potential to usher in even more substantial and advantageous differences.

An account is managed by a third party, a bank. A wallet holds value directly and is only accessible by the person who is in control of it. Although a seemingly inconsequential word choice, the reality of the difference is of crucial importance.

“Virtual currencies open up a new type of dual currency regime in which two currencies with no intrinsic value, virtual currency and fiat currency, coexist.”

Intrinsic value refers to the actual value of an asset based on an underlying perception of its true value. In terms of both tangible and intangible factors, intrinsic value is subjective and only determined by the value someone is willing to pay for an asset at a given time. How valuable is a glass of water to a man sitting in a boat in the middle of an alpine lake? How valuable is that same glass of water to that same man after being stranded in the middle of the Sahara for 4 days, without another glass in sight?

Value is based on circumstances. The authors of the paper are blinded by privilege and sit on top of crystal clear alpine lake, with more water to drink than is imaginable by most. Not only can they already complete their day-to-day transactions digitally, but they can access financial products custom made to fit their financial needs. Their investment portfolios are tailored to reduce risk and allow for steady growth over a lifetime, guaranteeing stability upon retirement. They make monthly contributions to different investments, automatically, based on the risk they want to assume and the return they seek.

This reality is a given for those privileged enough to be born in a geographic location with institutions in place. For the vast majority of humans, however, the possibilities of financial security are completely unimaginable. As of writing this article, there are 18 countries in Africa alone that have inflation rates over 7%. Financial services are not yet accessible to billions of people on earth, an opportunity that is many times greater than the userbase of Facebook.

There is intrinsic value in a technology that has the potential to help someone escape generational poverty, especially in countries where the national value evaporates at 7%+ per year.

The final point misidentified by the SWIFT Institute is the presence of a Central Bank Digital Currency. We’ve recently seen Adam Ludwin of Chain address over 100 central bankers at the Federal Reserve about why they should be racing to adopt new cryptofinance technologies. The World Economic Forum states that there are working groups at 90 central banks around the world looking into the topic.

In July, the Bank of England (BoE) published a report on the macroeconomics of central bank issued digital currencies which fleshes out the pros and cons of central banks issuing their own digital currencies. The BoE concludes that there are numerous benefits, which you can read in detail in an earlier post.

Upon the introduction of a CBDC, the BoE predicts many consumers will switch from storing value in bank deposits to holding it in a digital currency.

This is the analysis that the SWIFT Institute should be conducting. When our assets and national currencies go digital, they will compete with their counterpart- liabilities. The digitization of legal tender will have widespread impact on macroeconomic conditions. Today’s financial services are liability and account-based. They require central switches, reconciliation between institutions, and plenty more on top of counterparty risk. An asset-based system changes all of this however, as people start transacting as they do with cash today, except in a completely digital medium that reduces costs to near-zero.

Bitcoin may not be a threat as a transactional medium to national currencies, but how will the digitization of national currencies impact fractional reserve banking and consumer deposits?







