Is bitcoin a fiat currency?

Today we turn our attention to bitcoin – the world’s first and most famous cryptocurrency. We’ll decide whether it’s a buy or not. But first I want to look at exactly what it is you’d be buying: is bitcoin more like gold, or is it just another fiat currency?

Yes, my friends. Today we’re going well and truly down the rabbit hole. If you’d rather not question precisely what the money in your wallet or savings account is – whether it really has any value at all – then stop reading now! Ignorance is bliss sometimes. It just depends whether you’re willing to be ignorant. Your call.

Why bitcoin surged 120% in 2016

Bitcoin was the world’s best performing currency last year.

It went up 120%.

Ditto for 2015, though it only went up 40% (which still makes it an outlier in the currency markets, and frankly the stockmarket too).

Of course, bitcoin has always been highly volatile. It’s been in a near constant state of frenzy, either buying or selling, ever since it burst on to the scene at the start of the decade.

At first I think it was fair to attribute most of the buying to pure speculation and novelty. People were experimenting and learning about the whole idea of a cryptocurrency. Low trading volumes (compared to the mainstream financial markets) coupled with the novelty factor made for extremely volatile price action.

But I think that period is largely over now. What we’ve seen in recent years is bitcoin becoming a real part – albeit a small one – of the global financial system. It’s become a way of people moving capital outside traditional fiat currencies and into something that – they perceive – to be superior.

What is a fiat currency?

A fiat currency is a currency that is unbacked by gold or any other hard asset. Its value is by fiat decree alone – the issuing government simply decrees the currency has worth.

If that sounds familiar, it’s because all currencies in the modern financial system are fiat. Once upon a time you could swap a pound or dollar for a fixed amount of gold (or sometimes silver). The currencies were tethered to hard assets. Not any longer. Now they’re tethered to a promise from the government.

That might not feel like it affects your life too much. So long as the shops (and pubs) of Britain accept your commerce in the form of pounds, what does it matter? Well, it means the government and central bank can massively increase the money supply by printing pounds without worrying about what they’re backed with. It frees the state to do as it pleases without any real monetary discipline.

In extreme cases this leads to people losing faith in the currency. If that happens, you get runaway inflation, or sometimes hyperinflation, as the “value” of the currency is destroyed.

Buying gold has traditionally been a way of protecting yourself against this. It moves your capital out of the fiat money system and into a real asset.

Some people are starting to view bitcoin in the same way as gold. Why?

Well, not because bitcoin is backed by anything. It isn’t. You can’t trade a bitcoin for an ounce of gold at a fixed price. But it does have two major advantages: it isn’t issued by a government and there’s a fixed ceiling on how many can exist. You therefore have the benefit of not needing to worry about a government starting a war, printing money to pay for it and trashing the value of your savings.

That’s the appeal. Although as Greenspan said last week, if someone were to hack the algorithm behind a bitcoin, that might have the same effect as a central bank printing money: it could lead to a loss of faith and value. Now there’s an irony! Central bankers are to fiat currencies what hackers are to cryptocurrencies!

So bitcoin shares some characteristics of a fiat currency and some of gold. In recent years the gold-like qualities have been dominant. People use bitcoin to get their money out of fiat currencies they’re losing faith in.

In that sense bitcoin becomes a barometer of people’s faith in the system. How intense that feeling is depends on the currency, of course. Last year that mostly meant China and Venezuela. In China it’s hard to get your money out of the country and people fear a devaluation – bitcoin provides a neat and anonymous solution. Venezuela is in a full-blown currency crisis. Any port will do in that storm.

Digital gold

None of that answers my original question though. Is bitcoin a buy?

Well, according to one of our in-house tech experts, Sam Volkering, the answer is yes. Not as a short-term speculative opportunity, but as a long-term play on the rise of cryptocurrencies over fiat.

Sam’s been preparing a report on the topic for you. It’s not quite ready yet. But here’s a little detail on why Sam’s so excited, from the as yet unpublished draft:

Through 2011, bitcoin, and bitcoin mining, was like a gold rush. There were even a few businesses that began accepting payments in bitcoin.

Infamously, in 2010, a computer programmer, Laszlo Hanyecz, paid a fellow bitcoin user 10,000 bitcoin for two Papa Johns pizzas. At the time, that was about $25 worth of bitcoin. But, according to today’s prices, those two pizzas cost Hanyecz US$7.5 million.

But Hanyecz, much like most of the bitcoin community back then, never expected the price in fiat currency of bitcoin to go parabolic. When it went from 1 cent to 10 cents, it was crazy. When it went to US$1, it was insane. $10 and then $20 was just hysteria.

But that was only the beginning.

In late 2013, when bitcoin hit an equivalent price of US$1,242, the world stood up and took notice. The same day bitcoin hit US$1,242, the spot price for physical gold was US$1,240. This digital currency was worth more than gold. For many, it was digital gold.

Early in 2014, I was a guest on The Rick Amato Show on the One America News Network TV station. Amato was interviewing me as its technology expert. Little did I know that it was also bringing in (at the time a nominee for governor of California and the mayor of Laguna Hills) Andrew Blount.

I was explaining the long-term benefits of bitcoin as an alternative monetary system, used to pay for a whole range of goods and services in time.

We had a bit of a debate as to the legitimacy of bitcoin. Blount likened bitcoin to bubble gum wrappers at the time. That was all they were worth in his eyes. He forecast that, by the end of 2014, bitcoin wouldn’t exist.

As you’d expect, I disagreed with him. My position was, and still is, that bitcoin will be around far longer than either he or I will be alive.

In fact, I don’t envisage a day in the future when there isn’t bitcoin. Considering all coins won’t even be in circulation until 2140, that’s a good indication of its longevity.

Bitcoin is, and always has been, a unit of exchange over the internet. It is, in its purest form, anti-government, and anti-central bank. It provides the perfect basis of an alternative financial system.

I’m also of the view that the fiat currency value of bitcoin is unimportant for the future. It matters little long term what bitcoin is worth in USD, CNY, AUD, GBP or whatever currency you choose. One day, you will be able to freely spend bitcoin as you do the currency you’re paid your wages in.

However, there is a transitional period to this day where the fiat value is important, giving us perspective as to the purchasing power of bitcoin.

For example, while the current price of bitcoin is US$747 long term, I can see it being the equivalent of US$50,000.

The likelihood of that outcome is enhanced if we continue to see more severe, ongoing financial turmoil in economies around the world.

As I said before, it’s the perfect alternative payment system. Imagine what could happen if there is a collapse of the current global financial system. If there is another debt crisis, or more “Trump shock” in countries like France, Germany, Austria and Italy. When that happens, in my view bitcoin stands to gather strength and momentum.

Want to know more? Sam’s report will explain everything, right down to how to set up a wallet and buy your first bitcoin. Look out for it!

In the meantime, is bitcoin a fiat currency or digital gold? And can you ever see it going to $50,000? Write to me at nick@southbankresearch.com.

Until tomorrow,
Nick O'Connor's Signature

 

Nick O’Connor,
Associate Publisher, Capital & Conflict

Category: Investing in Bitcoin

Share this article:

Copyright © Southbank Investment Research 2017. All rights reserved

Southbank Investment Research. Registered office: 2nd Floor, Crowne House, 56-58 Southwark Street, London, SE1 1UN. Registered in England and Wales with company no. 9539630 and VAT no. GB 629 7287 94.

Terms and conditions | Privacy & cookie policy | Contact Us | Top ↑