Bitcoin boom due to failed monetary policy?

Bitcoin ,Economics
November 11, 2017

Virtual currencies are in vogue mainly due to two factors. First, as a protest or as a hedge against authority-driven monetary policy decisions and second, as alternatives to deficits in some monetary systems arising out of political instability or other causes.

Let’s observe the first factor where an authority driven monetary policy decision caused incremental demand for Bitcoin. In a mere 18 days after the demonetization speech of Prime Minister of India Mr Narendra Modi (on 8th November 2016), price surged from $757 to $1020 per bitcoin while in the US it was still trending around $770 a piece (marking a clear premium Indians were willing to pay on the Indian bitcoin exchanges). An overnight thunderstike on the usage of Rs500 and Rs 1000 as currency (in the largest democracy in the world) resulted in a rude shock to the money supply in India.

Overnight almost 86% of the currency prevailing in India was declared illegal tender with the country just dependant on the 14% for the next horrendous 50 days till the Central Bank could monetize (read: print new paper money of latest denominations) the banks and the ATMs. For the educated, it was a no-brainer that they had to hedge themselves against a decentralised currency and hence the demand of Bitcoin rose up. While the total damage to the economy is still unknown due to the government protecting data towards RTI (Right to Information) under the sovereignty clause, an estimation for the first 50 days post demonetisation is put as such:

Fig.1 : First 50 Days: Impact of demonetisation to the Indian economy

Additionally, the new fondness for bitcoins has been a result of a cascade of global uncertainties that began with Brexit, leading to a weak Chinese yuan, followed by Donald Trump’s win and Modi’s crackdown on untaxed money, resulting in a precariousness of investments in local gold and real estate markets.

Now let’s visit the second factor wherein Bitcoin served as the best monetary tool due to political instability and poor monetary policies where inflation and payment problems (due to capital controls) drove consumers and businesses to alternatives. An overview of the Latin American situation in the previous year: political instability in some of the region’s largest economies, as well as a general slump in prices in oil and other commodities, businesses and consumers were facing a depression and, in the case of Venezuela, economic collapse.

The crisis facing Latin American economies did not begin in 2016. Argentina, Venezuela and Brazil ended 2015 with serious economic problems, including huge inflation rates — as high as 275 percent for Venezuela (63 percent for 2014), ~30 percent for Argentina (36.4 percent for 2014) and 10.4 percent for Brazil (6.3 percent for 2014).

Fig 2: Inflation Rate of Venezuela over 3 years

Fig 3: Meteoric rise in Consumer Price Index due to HyperInflation

As the crisis deepens in Latin America, some governments are tightening capital controls. The Brazilian government has announced a new tax over the payments sent out of the country (including remittances, tourism expenses and other services) that increases costs to 25 percent (and up to 33 percent). There are other major problems for businesses and consumers making both cross-border and local payments: settlements can take weeks and cost more than 10 percent.

The situation as a result wasn’t a surprise. In 2016, adoption of the digital currency broke records in Latin America. Payment processor BitPay reported a 510 percent gain in merchant transactions in mid-2015, but the most notable growth took place toward the end of last year. Latin American merchant transactions finished the year having grown by a staggering 1,747 percent from the beginning of 2015. Other key figures from Brazil’s bitcoin ecosystem showed bitcoin exchange trades surging by 322 percent and bitcoin wallet adoption growing 461.4 percent. Exchange trading in Mexico grew by 600 percent in 2015.

In the long run, the above two factors are hinting towards a New Economic Movement wherein Bitcoin proves as a refuge and as a saviour in a shining armour to support the day to day lives often crippled by governments and ever changing political scenarios which tend to have a domino affect not only in the nation concerned but also impact the globe.

Citations:

  1. https://www.forbes.com/sites/krnkashyap/2016/12/22/indias-demonetization-is-causing-bitcoin-to-surge-inside-the-country/#3112e72e7dfc
  2. http://bitcoinchaser.com/bitcoin-growth-market-uncertainty
  3. https://techcrunch.com/2016/03/16/why-latin-american-economies-are-turning-to-bitcoin/
  4. Sauer, B. Int Adv Econ Res (2016) 22: 117. https://doi.org/10.1007/s11294-016-9576-x

Leave a Reply

Your email address will not be published. Required fields are marked *