While the Bitcoin bubble may have burst, this is not necessarily the end for crypto-currencies, but perhaps it could be described as the ‘end of the beginning’. With both of the major underlying problems of bitcoin and other crypto-currencies – namely security and price volatility – being harshly exposed within the last six months, it is crucial that these areas are addressed if crypto-currencies are to become anything more than a passing fad.
The most obvious solution to both problems is to create a new cryptocurrency with a central bank to maintain price stability and a traceable transactions trail to help mitigate the chances of fraud. This, however, would make it a genuine competitor to fiat currencies, and this could bring a lot more pressure to bear from governments and central banks, who are rather fond of their monopoly over money.
Bitcoin’s limitations – a blessing in disguise?
In a sense, the limitations of Bitcoin could well be why most central banks have left it alone. Immediately after the Mt.Gox collapse, Federal reserve chair Janet Yellen said that the Fed lacked the authority to regulate Bitcoin because it’s outside the banking system. This view was echoed by the Danish central bank, which issued the following statement in a press release:
“Bitcoins are not money in a proper sense as there is no issuer behind them. Instead, bitcoins display the characteristics of a commodity to which users attach value. Unlike precious metals such as gold and silver, bitcoins have no actual utility value, bearing closer resemblance to glass beads.”
Basically, the Danish central bank felt that the bitcoin market was too small to be worth worrying about, with the risks falling on relatively small number of participants. And while $5.9 billion – the total value of all bitcoins at the current time – may seem like a lot of money, it’s less than 0.05% of the total US money supply.
The Danish view is a widely shared one, as this joint statement from Goldman Sachs economists Dominic Wilson and José Ursua demonstrates: “We would argue that Bitcoin and other digital currencies lie somewhere on the boundary between currency, commodity and financial asset. Our best definition would be that it is currently a speculative financial asset that can be used as a medium of exchange.”. However, they do argue that Bitcoin’s peer-to-peer technology could become a viable model for moving money around without the interventions of third parties to verify the transactions, such as banks.
The future of cryptocurrencies
Many see the future of cryptocurrencies as being one of regulation, central banking systems, and transparency, but while this might make them more acceptable to the general public, it could beg the question of whether there would be any point to them existing.
After all, if crypto-currencies were to start resembling fiat currencies, then the only real advantages of them – anonymity, freedom from government interference – would be gone. There would be little or no benefit for the consumer, and it’s unlikely that they would adopt a technology en masse just to keep up with the times.
Often, bitcoins are painted as a type of ‘money 2.0’ as opposed to the slow, clunky analogue world of fiat currencies. However it is worth bearing in mind that fiat currencies are digital too these days, and the vast majority of the money in circulation is stored in the computer systems of financial institutions, rather than in giant safe deposit boxes full of printed money. If people want to pay for things digitally, they have things like Paypal, and this -unlike bitcoin – is a system that already works quite well.
So, while the market for ‘underground money’ might still have a lot of room for growth, and this could yet drive bitcoin and other cryptocurrencies into a new phase of development, true mainstream acceptance is a long way off, and there is a good chance that it will never happen.
Other articles in this series
Guide to Crypto-Currencies Part 1 – Introduction
Guide to Crypto-Currencies Part 2 – The Bitcoin Bubble
Guide to Crypto-Currencies Part 3 – How Bitcoins Work
Guide to Crypto-Currencies Part 4 – Bitcoin Mining
Guide to Crypto-Currencies Part 5 – Transactions
Guide to Crypto-Currencies Part 6 – The Problem(s) With Bitcoin
Guide to Crypto-Currencies Part 7 – Solutions to Volatility
Guide to Crypto-Currencies Part 8 – Security Issues
Guide to Crypto-Currencies Part 9 – Bitcoin Alternatives
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