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The bigger picture

Cryptocurrencies and Bitcoin: folly or the future?

A battle of ideas is raging among investors and speculators, fought with equal conviction about the merits and defects of Bitcoin and cryptocurrencies. According to the founder of the Celcius Network, "People giving venture capital to crypto believe it will save humanity from itself."

It is easy to confuse cryptocurrency with a state-owned digital currency. Because most US dollar payments are made with a piece of plastic, the USD is already a digital currency. That governments will in time have a digital currency is probable, simply because they can. However, the US Central Bank is quick to point out that this is not currently being considered.

Some 1,500 cryptocurrencies are currently being offered in the world. The primary concern of the G20 is to protect the consumer against fraud, global terrorism, illegal arms sales, human trafficking and narco-trafficking. However, US regulators, in consultation with the G20, are deliberately dragging their feet and not producing any clarity in regard to regulation.

The term ‘cryptocurrency’ is misleading. As a ‘currency’, they fail as a store of value or a medium of exchange. Though ostensibly ‘crypto’, they cannot deliver security and scalability and at the same time be decentralised. Crypto-entrepreneurs widely trumpet consumer access to the stock market through smart contracts, but unlike common stock or bond holders who have a direct claim on an asset and contractual rights, these consumers have no rights nor claim. If this situation is to continue unchecked it will magnify counterparty risk on a global scale, the very risk that brought down the giant insurance company AIG in 2008 during the financial crisis.

Due to its decentralised construction, Bitcoin is acknowledged to be different from other cryptos because it is not an efficient method of payment: Bitcoin can process five transactions per second, while Etherium can process 7 and Visa 25,000! Billions of people use Visa, WeChat, PayPal, and iPay, driving down costs. These services are the result of fintech revolution, not Crypto, nor Blockchain.

Because the technology used in Crypto is in its infancy, we can only speculate about its future development and usage. Technological advancement is, by its very nature, deflationary. No one could have assured us. several years ago, that we would be making free telephone calls across the world via the internet.

Like gold, Bitcoin may make the investment case as a hedge against the devaluation of Fiat paper currency and loss of purchasing power. As with any commodity, scarcity of supply and demand drives prices, and scarcity of supply is used to support the case for an increase in the price of Bitcoin.

With 55% of Bitcoin mining controlled by three miners, the risk of oligarchic control is real. If Bitcoin is held in securitised form within a portfolio, it may prove to help preserve purchasing power over time and act as a hedge against other assets. Since its launch in 2009, the price of Bitcoin has spiked to USD 20,000 and crashed to USD 6,000 on its way to surpass USD 30,000.

Therefore, those who hold Bitcoin as the panacea for the global financial system had better be prepared for a rough and ugly ride.

As for "saving humanity from itself", pride goes before a fall!

The author is a member of the Society of Trustees and Estate Practitioners and an investment counsellor. He can be contacted at jb@ehh.gi. The comments and observations by the author are a reflection of his opinion and do not constitute an offer to buy and hold securities, nor does he receive any remuneration of any kind from names referred to.