Fiat Money, Cryptocurrencies and E-Currencies
Cryptocurrencies have been gaining acceptance in the global financial industry, and investor interest in cryptocurrencies as part of the overall portfolio of investment funds has also grown. Since the US’s first futures-based Bitcoin ETF* that started trading on the New York Stock Exchange (NYSE) in October 2021, others have followed suit and acceptance of BTC as payment and investment option has become widespread.
Underlying these developments is the question of the nature and value of cryptocurrencies, which brings us to the question of the nature and value of all the means of transactions currently in use. There is talk of cryptocurrencies going to surpass the use of fiat money, and governments are investigating and carrying out the issue of their own e-currencies. Soon we will all have our own e-wallet.
What exactly are the fundamentals of fiat money? What are cryptocurrencies, such as Bitcoin (BTC)? What are the differences, and how can one compare ? And what exactly are e-currencies that governments are putting into circulation in response to the ever-increasing digitalisation of our world? What advantages and disadvantages do these three money systems have?
Fiat money is a currency that is not backed by a commodity, such as gold. Governments have control over how much money is printed and put into circulation. The supply of fiat money is potentially unlimited as governments can decide how much money to print. Paper currencies, such as the US dollar and the Euro are fiat currencies. The value of fiat money depends partly on the relationship between supply and demand, and partly on people’s faith in their government. In countries that are politically highly unstable, we can often see massive inflation or hyperinflation, the loss of value of a currency.
In the past, money was backed by gold (and in some cases by silver). In the US, with the Emergency Banking Act of 1933, the government stopped exchanging currency into government gold. Currently, there is no country that still uses the gold standard, which means that fiat money is not tied to underlying assets, and it also does not have intrinsic value.
Cryptocurrency like BTC is not issued by a central authority, and due to its decentralised structure, it represents a unique financial system. Unlike fiat money, it cannot be controlled by a government or institution. What is similar to fiat money is that BTC‘s value also depends on people’s trust as it is not tied to underlying assets, and it also does not have intrinsic value. However, the trust has to be directed towards blockchain technology and the proof-of-work mechanism that everyone can verify, rather than towards a central government. Borderless transactions of small and large amounts can be carried out quickly, safely and with ease. The decentralised and open-source nature of BTC makes it a very secure system, as no single node on the network can make a decision. Every transaction needs validation and consensus of the entire network. The more people contribute to the network, the more secure the system becomes. Another feature of BTC that makes it valuable and guards it against inflation is its absolute scarcity, which is guaranteed by the limit of 21 million coins that can be mined.
E-currencies are digital currencies that are issued by central banks in response to growing digitalisation and the rise of cryptocurrencies over which they have not control. E-currencies are, apart from being digital, also a form of money that is issued and controlled by a central institution or government. Their supply is potentially unlimited and all characteristics of fiat money apply, except that e-currency is not tangible and therefore allows faster transfers, which is the one characteristic that is similar to cryptocurrencies.
* Exchange-Traded-Fund
References:
- https://academy.binance.com/en/articles/why-does-bitcoin-have-value
- https://www.atlanticcouncil.org/cbdctracker/
