Cryptocurrency refers to a form of digital payment using a technology called “blockchain,” which is a decentralized technology that manages & records transactions. These transactions are maintained on an online ledger not controlled by any bank or central authority. For more on blockchain technology → Forbes Advisor, “What is Blockchain” (June 29, 2021).
Cryptocurrencies (also referred to as “altcoins” — meaning, cryptocurrencies that are not Bitcoin) are a rapidly advancing technology that will likely play a large role in the future of the digital economy, along with Web3 and NFTs, but we’ll save that for another day.
Bitcoin (with a capital ‘B’) is the first and now, one of many cryptocurrencies, sharing all of the qualities of crypto currency generally (i.e., decentralized, transactions maintained on the blockchain, and able to be transacted peer to peer without a 3rd party).
However, Bitcoin is unique to any other cryptocurrency in it’s ability to act as a store of value and savings for the long term. So what makes Bitcoin so special? First, I think it’s useful to discuss (1) the concept of money generally and (2) the modern international monetary system.
Past civilizations relied on trade as much as we do today, albeit on a more local and much smaller scale. Communities needed to trade with each other for items that they could not readily produce themselves, but which they needed or desired. However, it’s easy for us to see where “money” comes in useful, for example:
- Trader A has furs and wants fruit.
- Trader B has fruit and wants building materials.
- Trader C has building materials and wants furs.
In this example, if Trader A and Trader B come into contact to trade, neither has what the other wants or needs. Also, if Trader B wants to sell fruit, but needs to travel to Trader C to do so, the fruit will likely rot and become worthless to Trader C by time they arrive.
So how does money facilitate trade? The idea of money is so engrained in us that we don’t even realize that it was a crucial societal development. To be an effective form of money, it must have the following attributes:
- Durability —Able to retain it’s value and be resistant to destruction or degradation over time & space. (i.e., not perishable fruit);
- Portability — Able to be transported from one place to another;
- Divisibility — Able to be divided into sub-parts for smaller transactions;
- Uniformity (or “Fungibility”) — Able to be interchanged with other money of the same nature without distinction in value. (ex. each dollar bill is worth $1.00);
- Scarcity — Able to retain value due to its limited supply (which makes money desirable enough to accept for goods & services); and
- Acceptability — Able to be used widely due to mass acceptance of the item as money.
Once something achieves all of these prerequisites to function as “money,” it facilitates trade, allowing for increased quality of life. Civilizations have used various items as money including sea shells, precious metals and gems, coins, and paper currency notes. These items also typically follow a similar pattern to adoption as money: (1) acquired as a collectible item, (2) used as a store of value, (3) used as a medium of exchange, and (4) used as a unit of account. For more on the evolution of money→ “The Origins of Money”, Nick Szabo (2002).
All that is said to say — money hasn’t always been what it is now, and will continue to evolve with societal and technological advancement.
As discussed, money emerges as an intermediary tool that facilitates trade, allowing for the growing, global economy that we live in today. With that global economy, however, comes additional difficulties, particularly as international trade and cross-border finance has grown ever more complex.
Today, the US dollar is the world reserve currency. This system was established via the 1944 Bretton Woods Agreement after World War II, when the US was at the height of it’s global dominance. In order to promote and stabilize trade relations in the after-war period, the prevailing nations came together to agree upon a international monetary system. Under this new Bretton Woods system, the US dollar was pegged to the price of gold at a set rate ($35 per ounce), and other dollar-holding nations would peg their currencies to the dollar. This system reduced exchange rate volatility internationally, but also allowed the US to gain disproportionate influence on the global economy.
Governments like stable/fixed exchange rates because they facilitate international trade, but are hesitant because it limits the use of domestic monetary policies to achieve economic or political goals. By being the reserve currency, the US could have the best of both worlds. Although the dollar was the standard the world operated from, the US could still create (print) more dollars as needed to achieve it’s domestic policy goals (i.e., wars, social programs, corporate subsidies).
However, by printing more dollars than could be balanced with the agreed-to gold standard, the US eventually defaulted on it’s promise to the global financial system. In 1971, due to the inadequate gold reserves, President Nixon took the US off the gold standard by halting all redemption of dollars for gold and devalued the dollar. This marked the end of the Bretton Woods System, moving the US onto a purely fiat, or government-issued currency, standard. For more on the Bretton Woods Agreement → Investopedia, “Bretton Woods Agreement and System” (April 28, 2021).
Since 1971, the US has had free reign to print as many dollars needed to fund its domestic and trade policies. The dollar still remained strong in relation to other nations, so demand for dollars remained high. Other countries still hold dollars and buy US Treasury Bonds that funded (partially) the US’s expenditures. Before 1971, there was a natural limit to how many dollars could be printed. Today, with the dollar not backed by any hard asset (i.e., gold), but merely the “full faith and credit” of the US government, the federal debt is now a run away train — sitting currently over $28 trillion dollars.
At it’s current debt levels, which are continuously increasing, the US cannot reasonably expect to ever pay it down (ex. by exporting more goods than it imports, collecting taxes, and/or reducing federal spending).
So what does that mean for the future of the US dollar?
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