BusinessDay

Crypto & money: Notes & arguments (1)

Renowned American economist Hyman Minsky once said “everyone can create money; the problem is to get it accepted.” It remains perhaps the most significant litmus test in determining whether anything qualifies as money.

The history of money is long and deep. But the concept of money is not widely understood. In his 2020 book “Money: The true story of a made-up thing”, author Jacob Goldstein describes money as a “shared fiction.” As profound as that seems, it is probably true. If it were not, money would not been as varied as it has been over the course of history.

It is easy to understand why gold and silver would be considered valuable. But what qualifies stones, shells, and pelts to be stores of value and media of exchange? Hitherto, they were just mundane objects. Then a group of people decided they shall henceforth be money. And they were. For a while, at least.

If cryptocurrencies are getting all the attention lately, it is perhaps because what was once scoffed at or ridiculed, is increasingly gaining acceptance, flaws and all. Now central banks, from the Fed to the People’s Bank of China, are racing to create digital versions of their fiat currencies.

In his 2020 book “The Currency Cold War: Cash and cryptography, hash rates and hegemony”, British digital finance thought leader David Birch makes a distinction between electronic money (“e-money”) and electronic cash (“e-cash”).

e-Money like debit cards move between bank accounts. With e-cash, however, you are able to do all that you would ordinarily do with physical cash. The only difference being that e-cash is in digital form.

So, when you send e-cash to someone, for instance, like physical cash, the recipient can do whatever he or she wishes with it: put it in a bank account, smartphone, USB drive, etc.

Examples of e-money are M-Pesa and Paypal. Cryptocurrencies like Bitcoin and Ether are examples of e-cash.

If cryptocurrencies are getting all the attention lately, it is perhaps because what was once scoffed at or ridiculed, is increasingly gaining acceptance, flaws and all

Cryptocurrencies have many features that differentiate them from fiat currencies. Still, the primary distinction is perhaps that they are designed to eliminate the need for a third party. There are no middlemen. In theory, at least.

In current fiat systems, a central bank issues the currency and commercial banks intermediate to create new money. With cryptocurrencies, there are no central banks. And there are no commercial banks sitting pretty in-between.

In his 2008 white paper titled “Bitcoin P2P e-cash paper”, pseudonymous author and bitcoin founder Satoshi Nakamoto described bitcoin as “a new electronic cash system that’s fully peer-to-peer [P2P], with no trusted third party.”

Nakamoto described bitcoin’s main properties as follows: (1) The P2P network would prevent double spending, a hurdle that repeatedly seem too high to scale with earlier e-cash efforts (2) There would be no mint or other trusted parties (3) Participants can be anonymous and (4) New coins would be made from hashcash style proof-of-work.

More fundamentally, bitcoin “would allow online payments to be sent directly from one party to another without the burdens of going through a financial institution (Nakamoto, 2008).”

The raison d’etre is freedom. It is important to set out this motivation at the outset. Because even as central banks begin preparations to issue their own digital currencies and crack down on cryptocurrencies in tandem, the desire for a decentralized financial and economic system would likely continue to fuel the evolution of bitcoin and other cryptocurrencies.

All cryptocurrencies are underpined by cryptography and blockchain. The cryptography that underpins e-cash prevents double-spending. The immutable public ledger or blockchain that it sits atop enables you to know who has what and all of those who have what. Both of these features provide cryptocurrencies with digital scarcity, an elusive feat hitherto.

The bias for bitcoin is deliberate. It is the first cryptocurrency of note. And thus far, it has proved to be resilient against hacking and other forms of mischief by detractors. But for its relatively high volatility, its use-case as a viable currency would have by now been assured. Regardless, it is increasingly seen as “digital gold”, with similar potential utilities as a reserve currency and inflation hedge.

There is little doubt bitcoin and a couple of other cryptocurrencies are already viable media of exchange and stores of value. Cryptocurrencies certainly now qualify as commodities and an alternative asset class, for sure.

Dr Raji is a non-resident senior associate with the Africa program at the Centre for Strategic and International Studies, Washington D.C. (Twitter: @DrRafiqRaji)

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