Is Bitcoin really a currency? Is it the future of international transactions? Is it a good investment? We get these questions often. If you strip away the sensational side stories around Bitcoin, you get a far less compelling story.
Bitcoin’s best attraction is as an electronic means of payment, and in this vein could foreshadow how transactions are processed in the future.
Outside of its promise as a future payment system however, Bitcoin is a tough sell. Ironically, the advantages that supporters of Bitcoin tout also result in serious shortcomings. Bitcoin’s lack of regulation has been on spectacular display with the recent loss of funds at the Mt. Gox exchange in Japan. There are certainly debates to be had regarding government oversight, but the complete absence of any authority, is a wide open invitation for fraud, tax evasion, and theft.
Bitcoin’s other claim is that the system is designed so that after all coins are “mined” there will not be any more, thus keeping the currency safe from central bankers who may devalue the currency with a flood of supply. However, the limited supply of Bitcoins -- 21 million after all are mined, with 11 million already in circulation -- turns the currency into the digital equivalent of a metal-based currency system. Say all you want about central bankers’ ability to conduct monetary policy, but all major economies decided long ago to abandon metals-based currencies due to the volatility of their economies under a fixed stock.
In that respect, Bitcoin has been shocking. For the last three years, Bitcoin’s volatility has averaged 120%, while the typical G10 currency volatility has ranged from 7% to 16%. The last time currency markets experienced 120% volatility, was with the Argentine peso during that country’s 2002 default.
So while Bitcoin holds promise as yet another innovation in payment systems, it cannot escape the basic laws of behavior and economics in two ways; the tendency to cheat in the absence of a watchdog, and the volatility that arises with a limited commodity.
My view: Bitcoin may be here to stay, but in its current form will be relegated to the world of illiquid, speculative investments, rather than a functional replacement for established currencies.
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