Cryptocurrencies – The Good, The Bad and The Ugly
In 2008, Nakamoto initiated Bitcoin using blockchain technology, i.e., a chain of blocks, to create a decentralised, publicly available, and cryptographically secure digital currency system. Following this, several other cryptocurrencies followed suit. These have recently been popularised and gained a lot of attention by businesses, investors and governments.
We have proposed a system for electronic transactions without relying on trust.?– Satoshi Nakamoto, Founder of Bitcoin
It is now one of the most debated and “promising” emerging technologies. So what is cryptocurrency? In the simplest terms, a cryptocurrency is a decentralised form of digital currency used to buy goods and services. Due to its decentralised nature, transactions are maintained in a public ledger using blockchain technology. Famous examples include Bitcoin, Ethereum, Dogecoin, etc. However, it has also been used as an investment or trade commodity, making it more than just currency.
In this report, I aim to address and clarify the following disputes and controversies surrounding cryptocurrencies:
Cryptocurrencies as legal tender
For a currency to become legal tender, it has to be defined by courts or central authority as coins or banknotes that must be accepted if offered in payment of a debt (European Commission, 2021). Within the eurozone, except for Denmark, the only euro has the status of legal tender. So, is cryptocurrency a legal tender? The answer is no. Despite having no legal tender status, parties can agree to use them as private money without prejudice to the official currency. Yes, one could also sell goods and services in exchange for monopoly money, as long as everyone in the market does the same. Thereby making cryptocurrencies an economic trade asset, similar to stocks and commodities. The key difference is that cryptocurrency is an absolute intangible asset backed with no real tangible substance such as gold or government bonds.
Having established that cryptocurrencies are an economical asset, it needs to pass the viability test for a good economic trade asset. Moreover, there is a case to be made for it to become a legal tender in the future.
Cryptocurrency needs to pass the legitimacy test to become an economic trade asset and a legal tender in future.
Pros and Cons of Cryptocurrencies
According to a recent report by Forrester (2020), cryptocurrency payment services using BitPay resulted in four significant benefits; increased sales from new customers
Engaging in cryptocurrencies could improve the firm’s positioning
Due to the underlying technology behind Cryptocurrencies and the decentralised network that spans across the globe, international transacting would be incredibly fast, paving the way for simple, real-time, and secure money transfers.
To date, many technologies, such as ERP and EDI (Electronic Data Interchange), have generated significant contributions toward improving a firm’s productivity and reducing operational costs (Dai et al., 2017). Similarly, the underlying technology, i.e., blockchain, should not be neglected. Potential benefits arising from an integrated blockchain system require additional investigation and research.
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After discussing the advantages, let us now analyse the threats and challenges of using cryptocurrencies. Unlike traditional currency or assets, cryptocurrencies are entirely unregulated. Neither the central banks control the flow of cryptocurrencies in the market nor the regulatory bodies, such as the SEC, oversee crypto exchanges. Hence, a legitimate regulatory oversight over cryptocurrencies is lacking. The liberalisation in financial systems in the past has always proven to be catastrophic, often leading to a crisis (see table below; ticks refer to factors that contributed to the crisis & vice versa for cross). The most notable example being Dogecoin because the currency was entirely based on a meme (McGabe, 2021), regardless of Elon Musk’s claims to accept it for its future space missions at SpaceX.
Due to its unregulated nature, such a system is highly vulnerable to manipulation, as confirmed by recent events. Elon Musk’s tweets can materially affect the prices, all whilst without enduring the attention or wrath of the SEC or any other regulatory agencies. A while back, having crowned himself ‘Dogefather’ in his SNL, he stated that cryptocurrencies are a Hustle (SNL, 2021). His series of erratic tweets have resulted in a fall of cryptocurrency prices by around 30% (Ostroff, 2021). Indicating his dominion over Bitcoin and Dogecoin, i.e., the concentration of power that can prove to be dangerous if it continues to remain unchecked. This is also ironic because the fundamental advantage of cryptocurrency is to have a completely decentralised system. Unfortunately, the evidence clearly indicates that in practice, decentralised characteristic doesn’t hold. Thus, supporting the argument that cryptocurrency markets would continue to be highly prone to manipulation without a lack of oversight.
The price of cryptocurrencies has proven to be significantly volatile, arguably one of the most speculative investment forms. As of today, the factors that influence its price are still unknown. Therefore, it is expected that such volatility will continue for the foreseeable future.
Regarding sustainability, it is undisputed that cryptocurrencies pose a significant threat to the environment and can be damaging to society. In order to ensure the security of data, the underlying blockchain system is highly demanding of storage and computational power. The use of such computational power comes at a cost, i.e., high power usage. Undeniably, cryptocurrency mining consumes more energy than countries like Sweden, and Netherlands (BBC, 2021). Regarding the latter, wherein miners have been bulk-purchasing computer components, primarily graphic cards (FT, 2021). Consequently, reducing the availability of such technology to consumers and fostering a market of exorbitant prices. Until these issues are resolved, cryptocurrencies will continue to remain environmentally unsustainable, both in the present and the long run.
Implications for Investors and Businesses
From an investor’s perspective, the cryptocurrency market is, without a doubt, regarded as a highly speculative market
For businesses, cryptocurrencies could reduce transaction costs associated with foreign currency transfers and transaction costs, as discussed previously. Simultaneously, it enables organisations to trade in real-time, which would allow for foreign payments in minutes rather than days. Alternatively, banks could reduce their transactional costs by mediating through bitcoin, foreign transfer of currencies. Thus, the primary benefit is increased speed of transacting abroad. The possibility of lower transaction costs will need further investigation.
A comprehensive framework for governance will have to be developed to mitigate the risks and environmental impacts of cryptocurrencies.
In conclusion, the evidence indicates that the benefits of using cryptocurrencies do not outweigh their disadvantages. For cryptocurrencies to become a fully digital global currency and a legal tender, a comprehensive framework for governance to mitigate its risks and environmental impact will have to be developed.
References
Disclaimer:?This report is provided for general informational purposes only and does not constitute legal, financial or any other form of professional advice. It is an independent and objective analysis of cryptocurrencies without any affiliation with or bias against it.