Gresham’s Law states that “bad money drives out good”. This law is as old as the nineteenth century when metal coins started replacing silver shillings in the markets of England. Another relevant example for this law would be crypto currencies if offset with paper currencies and other modern non-digital modes of money.
As crypto currency cannot be physically held in hand, the resource allocation for the same is next to nothing. The same cannot be said for currencies issued by sovereign bodies across the world. It is postulated that the two distinct forms of money in question are either equal in their nominal price, or at a fixed exchange rate. Hence, the most efficient resource is used wherever possible. Bitcoin (BTC) is the most prominent crypto currency in the world, which holds about 20% of global wealth in its form. Presently, bitcoins are viewed as a peer-to-peer version of e-cash, which would authorize online payments from one party to another, without having to go through a financial institution. It is popular among users as it is transparent and no authority regulates the system.
The principle of Gresham’s law requires two commodities of value which are then deemed as bad money and good money each. Hence, the question arises, is crypto currency bad money or good? Many scholars have debated this since the rise of crypto currencies, ever since 2008. Avid users of course side with bitcoins, among other crypto currencies as the transparent and anonymous system lets them operate and make huge profits. As a matter of principle, crypto currencies do not have any relationship with banks and other financial intermediaries. Governments grew apprehensive of this as it bypasses their monopoly to control and regulate currency creation. Therefore, the first comparison between bad and good money can be drawn upon bitcoins and other crypto currencies, in opposition to fiat money.
In addition to bitcoin being an illegal tender and priced volatilely, it also poses a bankruptcy risk due to the unregulated framework of its design. But the biggest pro of this currency is its stable supply and definite amount. Satoshi Nakamoto, the creator of BTC believed that a finite amount of bitcoins would empower the currency to be deflationary in nature, as the buying power would only increase. Many players believe that as the transaction growth of bitcoin is an increasing trend, the coming years would be the age of “hyperbitcoinisation”. This would be supplemented by the fact that people wish to exit fiat currencies due to the rise in right-led governance across the world. Additionally, bitcoins are practically portable, divisible, durable and fungible. All factors lead to a widening user base, wherein the technological and commercial aspects act as a cherry on top.
While bitcoins have a plethora of positives, many people are still apprehensive of this virtual currency, as it comes with many risks even when used legitimately. The biggest risk is the risk of bankruptcy for businesses, which cannot depend on such a volatile currency. Initially a transactional currency, under the scrutiny of regulating bodies affiliated to the government, it also poses a significant tax risk, where the consumers can be liable to pay additional taxes due to the currency’s illegal status as a tender. This prods them to hoard the bitcoins instead of transacting them which reduces market liquidity.
The strengths and weaknesses of the system are attributed both to the exchange platform as well as the currency design in itself. Both crypto currencies and fiat money co-exist in present times, and the extinction factor lies in the hands of the government, as assuming a free market would not be practical in this scenario. Major world financial institutions are alarmed by the growing popularity of bitcoin, and the competition would only restrict the government’s ability to over-issue their form of currency, as fiat money is inflationary in nature. To completely ban crypto currency, usage has to be lower, and the government should successfully maintain low inflation to make their decision welfare- enhancing.
The general trend of bitcoin trading has showcased that many bitcoins are taken out of circulation, as their asset value rises. Its deflationary nature is one of the primary reasons why consumers wish to take money regulation into their own hands. While it is still early to comment on the extinction of either form of currencies, be it crypto currency or fiat money, it is for sure that crypto currencies are set to take off in the coming years and that governments across the globe will play a quintessential role in determining whether their monopolising power will be run down, or they will come to terms with virtual currencies wherein cryptographers and financial institutions would find common ground.
– Ms. Soumya Kaushik