Fiat currencies vs crypto currencies: How they fare in addressing an uncertain future

As India takes the lead at the G20, the nation grapples with regulating cryptocurrencies amid global momentum for digital currencies.

By Dominic Anto Fernando

The global economy is expected to contract by more than 4% in 2020. The Covid-19 has disrupted economic activity in most economies, but optimism has set in with the announcement of several vaccines. The current economic crisis is the worst in close to 100 years.

IMF has identified 124 bank crises, 326 currency crises and 64 debt crises between 1970 and 2007. Since 2007, the world has seen the collapse of the housing bubble, Greek debt crisis, Turkey currency crisis as well as the crisis in developing countries like Venezuela and Brazil. There will be stimulus packages and incentives, BUT all these would not be able to prevent the world from plunging into a major economic crisis. Are we then addressing the core of the problem and calling out the elephant in the room?

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Debt is created by banks, paid back by debt-takers and then again banks issue new debt. This cycle keeps repeating until the debt-takers begin to default on account of below par income flow, and then the market ‘correction’ sets a loan-default trouble (may not be a crisis) at this stage. Where exactly does the problem start then?

As if economic crisis wasn’t enough, environmental problems such as the meltdown of the polar ice caps, global warming, forest fires and shrinking forest cover are threatening life on earth. Is there a relationship between the increasingly vulnerable economic cycles and worsening environmental standards in the last century? Guess we could flip back to the origin of money, humanity and some basic tenets of the world economy to chart out a way forward.

Are we placing humanity on an inherited problem of earlier generations or are we suffering from the laws of nature as we transverse along? The concept of currency is about 5000 years old, and human race is about 200,000 years old. Humanity evolved from being hunters to farmers to become space travellers. But even today, the equitable distribution of food and economy is a major concern globally. While 7 million people suffer from poverty and hunger, 2.8 million people die every year due to obesity.

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A primitive explanation to the problem

If the rule of the jungle and the cycle of life were to hold true, for every extra day that a pack of lions must live there must be a deer that will be killed. If the deer survives for too many days in succession, the lions die one by one. And if the lions hunt too many deer in a day, it doesn’t allow the deer to reproduce and replenish the stock of food for the lions. Hence the balance of nature between the deer (producers) and the lion population (consumers) is delicately placed on a natural replenishment rate of the deer population.

Now let’s imagine if the lion were to create the concept of money, which it could barter with each other for a deer-equivalent dollar, say a buck. The control over printing the buck could be with the wiser lions, but keeping the balance of the deer population would not be under its control. The stronger lions could keep earning more bucks in a day, than the weaker ones. The notion of earning more bucks in a day, gives the stronger lions the notion that it has secured the food for the bad days when it can’t hunt deer. But can the deer population, die or reproduce at the will of the bucks that the lion population is printing? Ultimately, if the entire deer population dies gets wiped out by the lions, what happens? The bucks held by the lions would be useless as they can’t find their food equivalent any more.

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When debt is being issued, the belief is that there will be more deer produced in the future to compensate for the deer being killed presently. When a loan is being repaid, the assumption is that the deer are being made to reproduce to compensate for an earlier mindless consumption.

Now let’s replace the lions with consumers in nature like humans, and the deer with the common resources that we are blessed with. Are we not headed to instability on this front as well, by creating a proxy for the natural resources with the concept of money?

Problems with fiat currencies

Pricing of non-exclusive (natural) resources that can’t have clear ownership established or can’t be traded to determine value, like soil, water, air or mines can’t be done in a rational process. Prices in present fiat currency is determined by speculation rather than value calculated by intrinsic characters of irreplaceability, replenishment, resource limitation or wealth creation opportunity.

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Credit market failure lies in the misalignment between the profit-seeking pursuits of banks and the development objectives of a society. With distributed generation and shared economy, the scale of capital investments required is lesser and debt stress on the banking system is also greatly eliminated. Misallocation of credit leading to social, ecological & economic instability could be avoided.

Fallacies acknowledged by economists

  • Zero-sum game: Resources (especially natural ones) are limited but money creation is not.
  • Order needs design.
  • Consumption is the key to growth.
  • Securities in reality make the economy, ecology and the future insecure

As the global banking bail-outs of 2008 and the subsequent Eurozone crisis have demonstrated, banking failures are extremely costly for states, taxpayers and citizens. And yet, to date states have shown little interest in revisiting the issue of who should create money. Then can crypto currency like Bitcoin, be a solution?

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Cryptocurrency as an alternative

Most of the conventional law makers have dismissed bitcoin as one without any intrinsic value, whereas the “fiat currencies have intrinsic value as they can be used to pay taxes”. The central control and authority are lost from a regulators’ perspective as transactions get recorded on a distributed ledger and no more is authentication necessarily centralised. The explanation given by various governments around the globe to bring down bitcoin and cryptocurrency has been demeaning in nature to the established system of economy planning done by central banks. More so, researchers globally identify that at least 40% of the investment in Bitcoins is due to uneasiness associated with conventional form of investing from one country to another or investments coming from unaccounted businesses.

Technical constraints: The conventional VISA transaction can carry out 60,000 transactions per second, bitcoins accept only 3. And very similar to gold-backed currency, Bitcoins have proven to be valued based on the rate of mining, hype created in the market and vulnerable to whole range of economic mishaps.

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Need for research on currencies

There have been ideas of currencies whose anchoring or intrinsic value signifies the limitations of the natural environment since the Egyptian pyramids. Currencies based on water, food and CO2 emissions have been in existence and those based on energy is being studied now.

Science tells us that energy can neither be created nor destroyed, and energy serves as an input for several goods and services in an economy. Energy also can play a proxy for the natural resources and become a proxy for drawing limits of consumption from the natural ecosphere to the mints.

Very little research has been done on the topic, perhaps owing to the lack of money flow into themes that invalidate the concept of money. But alas, what will bucks mean with no deer in the forest.

(Dominic Anto Fernando is a doctoral student at IIM Shillong.)