Gate.io Blog Feature: Bitcoin as Fiat Money? Good Move By El Salvador?

Feature: Bitcoin as Fiat Money? Good Move By El Salvador?

17 June 13:19

Keywords: cryptocurrency, fiat money, El Salvador, Bitcoin

Preface
Whether a crypto coin can become fiat money or even replace what is issued by the central government has always been a hot topic in the cryptocurrency world and major traditional financial institutions. On June 9th, El Salvador passed a bill under the efforts of the young President Nayib Bukele to list Bitcoin as the country's fiat money, which once again sparked intense discussions around the world. Why did El Salvador, one of the poorest countries in the world, choose Bitcoin as its fiat money? What is the relationship between currency, fiat money, and cryptocurrency?

The Creation of Currency and Fiat Money
Currency is originally an intermediary commodity used to improve trading efficiency. In the early agricultural society, people usually directly traded in wheat, salt, cattle or sheep. However, there are various problems such as transportation and storage in this process, so people began to look for a "universal equivalent" that everyone could accept. The earliest ones include shells, salt, crops, etc. With social changes and technological development, precious metals such as copper, iron, gold, and silver have gradually been put into use as currencies.

With the further development of the economy and society, financial institutions such as banks have gradually emerged. The issuance of a widely recognized currency has begun by providing notes for deposited commodity currencies. For example, as early as the Northern Song Dynasty in China, there were banknotes such as "Jiaozi" to replace the iron-made money at that time, which facilitated the transactions of the people at that time.

Source: Sutori.com

Later, in order to better control the value of the stable currency and economic development, the central government and central bank began to take measures against currencies and issued fiat money. Common ones like the renminbi, the US dollar, and the British pound are all fiat money. This type of currency is different from commodity currencies. They do not have any intrinsic value. They only rely on government decrees to maintain their status as legal currency and circulate within the place of issuance. For example, the renminbi is issued by the People's Bank of China (central bank). In the "People's Bank of China Currency Management System" issued by the People's Bank of China in 1988, it stipulated: "The People's Bank of China is the only currency issuing authority in this country. The renminbi is the only legal currency in China. It is strictly prohibited for any other department to issue any form of currency".

Features of Currency and Fiat Money
As a currency, precious metals have occupied a long period of time in human economic history. Take gold and silver as an example. As inert metals, they are not susceptible to corrosion or oxidation and are easy to store. At the same time, due to the difficulty of mining, smelting, and forging, such metals are in short supply. As Marx said: "Currency is naturally not gold and silver, but gold and silver are naturally currency." But precious metals are not perfect as currency. Large amounts of precious metals are difficult to carry and are easy to be stolen.

Unlike precious metals, fiat currency has no value in itself and relies on the strong credit endorsement of the issuing institution. Taking "Jiaozi" as an example, such banknotes have a simple production process and are easier to carry and transport. But it can only be used within the territory. At the same time, when the dynasty was changed, the "Jiaozi" issued by the previous dynasty would lose its value because it lost the credit endorsement of the government behind it. And if the government prints it in large quantities, it will lead to the devaluation of fiat money and aggravate inflation.

The Birth of Bitcoin and Digital Currency
On October 31, 2008, Satoshi Nakamoto published a paper about blockchain and Bitcoin. Three months later, the first batch of Bitcoins were mined, ushering in a new era of digital currency. There are some opinions in the currency world that the birth of Bitcoin is related to the financial crisis that broke out at that time. In an email with a Bitcoin white paper attached, Satoshi Nakamoto wrote: "I am dealing with a brand new electronic currency system, which is completely dependent on peer-to-peer operation and does not require the intervention of a third-party trust agency."

Image source: medium.com

The 2008 financial crisis is also known as the subprime mortgage crisis. Subprime loans themselves are issued to people with poor credit or weak repayment ability. These people cannot apply for loans from banks, so they can only turn to other third-party institutions. At that time, the overheated stock market and real estate market began to collapse gradually, and lenders were unable to repay their loans, triggering a series of chain reactions. As the financial tsunami intensified and the crisis spread rapidly from the United States to financial markets around the world, the U.S. dollar was largely devalued. Exchange rate fluctuations intensified, a large number of investment funds around the world were forced to close, and lending institutions were forced to bankruptcy and liquidation. People began to distrust the government and traditional financial institutions. Perhaps Satoshi Nakamoto had foreseen such a problem with fiat money issued by the government and started to create Bitcoin.

Bitcoin: "Unwelcome" to Fiat Money
Although Bitcoin supporters have always believed that Bitcoin can become the world's currency, it has been counterproductive for more than a decade since its inception. Most governments have maintained a cautious wait-and-see attitude towards Bitcoin and cryptocurrencies. On the one hand, there are different opinions on the legitimacy of Bitcoin. On the other hand, the attributes of Bitcoin have not been unanimously recognized by all governments. Different governments have their own opinions on whether it is currency, futures, or foreign exchange. For example, China defines Bitcoin as a virtual commodity, India chooses to classify Bitcoin as an "intangible asset", and Switzerland is evaluating the possibility of Bitcoin as foreign exchange. However, before June 2021, no government has chosen to use Bitcoin as a currency.

At the 2021 Bitcoin Conference on June 5th-6th, El Salvador’s President Nayib Bukele promised to submit a bill to make Bitcoin the country’s legal currency. On the 9th of the same month, Bukele stated on Twitter that he had submitted the bill and finally passed the voting in the Salvadoran Congress with 62 votes out of 84, making El Salvador the first country in the world to use cryptocurrency as fiat money.

Source: Twitter

El Salvador: the Daredevil
According to data from the World Bank, as one of the poorest countries in Latin America, El Salvador has a GDP (National Gross National Product) of 27 billion U.S. dollars in 2019, and a per capita GDP of only 3572.4 U.S. dollars. The economic production is dominated by agriculture, and the industrial foundation is relatively weak. Foreign trade accounts for more than half of the GDP. It mainly exports coffee, cotton, and cane sugar to the United States, Honduras, and other countries, and imports raw materials, fuels, and other manufactured products from the United States, China, and Mexico.

In addition, El Salvador relies heavily on overseas Salvadorans’ remittances to the country. Research data from the World Bank shows that in 2019, nearly 6 billion US dollars of funds were transferred from overseas to the country through traditional transfer methods, accounting for one-fifth of the country’s GDP. Such a ratio is one of the biggest in the world.

Before 2001, the fiat money was the Salvadoran colon. According to Decree No. 201, Volume 349 of Government Gazette No. 241 of December 22, 2000, the U.S. dollar is adopted as fiat money and stipulates that 1 U.S. dollar = 8.75 colones. Since 2001, the US dollar has officially replaced the colon as the only fiat money in circulation.

Source: TheGuardian

Why Bitcoin
It is mentioned in the law on Bitcoins that approximately 70% of the population in El Salvador does not have access to traditional financial services. In other words, El Salvador is still a cash-based country, and most of its citizens do not have bank accounts or credit cards. At present, existing service agencies charge a 10% or more commission when making international transfers, and the transfer cycle is long and inefficient.

In order to change the relatively backward financial environment, President Bukele chose to use encrypted finance as an entry point to carry out reforms. First, he opened a green channel for the cross-border payment of encrypted finance. Stike, a subsidiary of Bitcoin Lightning Network Wallet Zap, once launched a lightning payment application in El Salvador. Subsequently, the state-owned bank of El Salvador also started using RippleNet for cross-border payments in March 2021.

According to data from Chainalysis, an American cryptocurrency research institute, in May 2021, the amount of Bitcoin transfers from Salvadorans overseas to the country was 1.7 million U.S. dollars. Although only a small part of the total, in the same period in 2020, Bitcoin transfer amount was only 424,000 U.S. dollars, a significant increase.

The Prospect of Bitcoin as Fiat Money
Since the bill was passed, there are doubts around the world. Moody’s, an internationally renowned rating agency, stated that El Salvador’s legalization of Bitcoin “brought risks to the stability of the country’s financial and monetary systems and lacked a coherent economic framework”. The International Monetary Fund also made similar comments, expressing economic and legal concerns about Salvador’s law.

First,we must re-examine the characteristics of Bitcoin as a currency. As mentioned earlier, only universal equivalents with a certain degree of scarcity and stability are more suitable for use as currency. Like fiat money, it needs to be endorsed by a strong sovereign and credit entity to ensure its circulation and preservation. Bitcoin mining is difficult and the circulation amount is limited. Although Bitcoins are limited in amount, at present, the price of Bitcoin is not stable enough, and susceptible to market fluctuations, which is detrimental to the real economy.

However, we cannot completely deny El Salvador's attempt. As the Bank for International Settlements (BIS) publicly stated: “We have been clear at the BIS that we don't see Bitcoin as having passed the test of being a means of payments. Bitcoin is a speculative asset and should be regulated as such". We still don't know what form the El Salvador government will adopt to promote Bitcoin in the country. Will more and more countries follow in the footsteps of El Salvador and start adopting Bitcoin? Let us wait and see.

Author: Gate.io Researcher: Gazer. C
*This article only represents the views only of the researcher and does not constitute any investment advice.
*Gate.io reserves all rights to this article. Reposting of the article will be permitted provided Gate.io is referenced. In all other cases, legal action will be taken due to copyright infringement.

Gate.io blog news:
Since the birth of Bitcoin, the discussion about whether cryptocurrency can become fiat money has never stopped. On June 9th, 2021, El Salvador officially passed a bill to list Bitcoin as the country's fiat money, which once again triggered intense discussions around the world. Gate.io researcher believes that we must re-examine the characteristics of Bitcoin as a currency. But for the moment, its price is not stable enough, and susceptible to market fluctuations. Such an act may be detrimental to the real economy.
Click for details:https://www.gate.io/en/blog/detail/107?ch=kx

Unbox Your Luck and Get a $6666 Prize

Feature: Bitcoin as Fiat Money? Good Move By El Salvador?

Select language and region

Fiat Currencies