The Right Moment: Why Sanctions Are Good for Cryptocurrencies

United Traders
Sep 4, 2018 · 7 min read

Alexey Markov of United Traders believes that digital money is becoming a new “safe haven” for unstable economies.

Many economies, and particularly those in the emerging countries, have been through a turmoil recently driven by sanctions, trade wars, and local conflicts. As a result, domestic currencies depreciate, and inflation goes through the roof. At the same time, we frequently see news of crypto trading hitting record volumes, while mass media report that these countries intend to create their own cryptocurrencies.

No wonder that population and governments of exactly these countries demonstrate an increased interest to the crypto market. Population seeks ways to protect their diminishing savings amid loss of trust to domestic currencies, and Bitcoin may become a safe haven in a tough economic environment. Governments, however, want to keep their control over cash flows.

Venezuela: Digitizing Confetti Money

Venezuela is the most illustrative example. The country boasts the largest crude oil reserves in the world, but its economy has been in deep trouble for several years now. Bloomberg named Venezuela the most miserable economy globally for the fourth consecutive year based on inflation and unemployment data. 80% of the population live below the poverty line. The country is in food and drug shortage crisis; truck drivers are forced to travel in convoys to counter road looters who even attack trucks carrying food. Inflation reached 20,000% since year start, and according to IMF forecast it will hit 1,000,000% (!) by the end of the year; Bolivar is worth nothing. GDP has been declining for the last five years, and the economy is expected to contract by another 18% this year.

Oil represents 50% of GDP and 95% of export revenues, and therefore, the decline in crude oil prices in 2014 was a hard hit for the already depressed country. In addition, country’s oil production has also decreased by 40% in three years from 2.5 mln to 1.5 mln barrels per day and is now at a 70-year low, while capacity utilization is only 30–40% due to persistent underfinancing: oil revenues are used for social spending.

Thanks to the populist policy pursued by Presidents Chàvez and Maduro, gas is worth pennies in Venezuela, and therefore, PDVSA, the government-owned oil company, has no money for its development, while fuel smuggling to neighboring countries is flourishing. And to make things worse, the country has no access to external funding due to the effective US sanctions.

With domestic currency depreciating by leaps and bounds and no legal method to buy any foreign currency, population and businesses are forced to seek ways to preserve their savings. And Venezuelans have demonstrated decent creativity over many years of economic turmoil: from the above mentioned gasoline smuggle to schemes involving international airline tickets. Apparently, cryptocurrencies are also quite attractive as a means for preserving wealth and income. Cryptocurrency payments for various goods are common in Venezuela. Some people claim to hold no domestic currency at all preferring to keep their savings in Bitcoin and exchanging it if and when needed. Although cryptocurrency market has lost over 70% of its capitalization, Bitcoin remains a stable safe haven when compared to now worthless bolivar. At the same time, regardless of the recent decline, digital currency’s price is still much higher now than in the last years, and the long-term growth trend remains valid.

On the other hand, overstating the extent of the “shift into crypto” would be a mistake. Many news websites reported phenomenal numbers recently detailing the growth of bitcoin trading volumes on the peer-to-peer platform LocalBitcoins in the Latin America and, in particular, Venezuela.

More often than not these numbers are stated in local currencies which is improper as they only show the devaluation speed of these currencies rather than crypto trading activity. One should look at trading volumes measured in bitcoins: most countries demonstrate the same activity slowdown as seen elsewhere in the world, however, public interest is on the rise in Venezuela reaching almost the record high levels seen earlier this year, which contrasts the global interest dynamics.

From Oil Pumping to Bitcoin Mining

Although the region is power-hungry and regularly experiences outages, electric power in Venezuela is very cheap, which has lead to a visible proliferation of crypto mining by locals amid declining incomes. According to a research by International Business Times, bitcoin mining costs in Venezuela including power consumption are the lowest globally ($531 per 1 Bitcoin). At first, authorities started fighting miners by arresting people and seizing mining equipment charging them with smuggling computer hardware and electricity theft. Miners used various twists and turns to hide their small “businesses” by using vacant apartments or splitting mining farms into parts to make power consumption growth less noticeable. The government has changed its attitude over time, elaborated legislation, and obliged all miners to register with state authorities. In addition, Venezuela has even gone so far as to create its own national cryptocurrency, Petro, which, however, gave rise to many questions (that only kept increasing since the launch six months ago).

Turkey: From Lira to Bitcoin

Another country that has been through tough times recently is Turkey. Lira has been falling for years, but the latest deterioration in US-Turkey relations and introduction of higher tariffs on Turkish steel and aluminum imports resulted in the most rapid devaluation of the domestic currency since 2001: by 18% in just one day on August 10. Lira has already lost around 60% of its value against US dollar this year. And this situation starts threatening the Turkish economy as foreign currency debt represents around 40% of its total external debt, meaning debt servicing costs will skyrocket together with the risk of default.

The current crisis in Turkey also coincided with increased activity in the crypto market. Although the extent of devaluation is not that catastrophic as in Venezuela, analysts found out that the Turkish Lira has become more volitile than Bitcoin. It is no surprise, therefore, that some people rushed into cryptocurrencies to rescue their money. And what distinguishes Turkey is more loyal attitude of the government towards digital money: people may buy and sell cryptocurrencies on local platforms. Trading volume on Turkish crypto exchanges — Btcturk, Koinim, and Paribu — has almost doubled at the time when lira was at its weakest point. By virtue of increased local demand Bitcoin prices, in momentum, were roughly $500 higher than on other global crypto exchanges.

According to a research done by ING International Survey Mobile Banking covering 15 countries, Turkey is far ahead in terms of Bitcoin and other cryptocurrencies ownership: 18% of country’s population have digital money. Although a research covering only 15 countries is in no way comprehensive, increased interest of the country’s population to cryptocurrencies is obvious. Some scam artists even tried to ride the wave by positioning a new cryptocurrency, Turcoin, as a national government-backed cryptocurrency and running related TV ads. By some estimates, they managed to collect up to $200 mln.

Digital Gold

The current situation reminds me of the emerging markets crisis in the late 1990s when a free fall of their domestic currencies exacerbated foreign currency debt problems in those countries, which resulted in a decline of the global economy and accelerated devaluation of national currencies. There is a widely spread opinion that the current economic cycle is close to its peak. With rising interest rates, the Fed is soaking up liquidity thereby reducing its balance sheet; the tax cut effect in the U.S. will be short-lived, while the enormous debt that only keeps increasing is here to stay. At the same time, voices encouraging use of alternative currencies in settlements grow ever louder: for instance, you can already buy crude oil for yuan, and Iran has stopped using US dollars in its settlements, and this is only the beginning. The future of the US dollar as a global reserve currency does not appear rosy.

Similar geopolitical shocks have historically forced capital to flee into gold driving metal’s prices up. Since its peak in 2011, gold has lost over one third of its value and despite recent developments not only failed to start rallying but continues its decline amid a stronger dollar. Investors seem to regard gold as not that much reliable and stable as an asset anymore. In this environment Bitcoin, called by some the new “digital gold”, appears to be an intriguing investment option for at least some portion of savings, and more so in troubled countries and in places with foreign exchange restrictions. At the same time, unlike gold, Bitcoin does not require any special storage or entrusting a centralized banking system to store your bullion — it is available virtually anywhere with Internet connection.

Currencies of such large countries as India and Brazil hit fresh historic lows. The ruble is weakening and the government is about to pass the law on digital currencies as early as September: potential cryptocurrency investors will be within the framework of the law. Let’s not forget anti-Iran sanctions and the talk about creating the country’s national cryptocurrency — the authorities announced that the project is ready to go live. At the same time, representatives of Russia and Iran discussed the use of cryptocurrencies as a potential SWIFT replacement.

The trend is obvious: crypto trading volumes and public interest to cryptocurrencies coincide with escalation of problems in troubled states. It is also clear that the entire crypto world is a fraction of the global economy: total trading volume even at the largest Turkish crypto exchange is only a few million dollars a day in USD equivalent. This is why, the above has not had much effect on global digital money prices. However, if this crisis expands and national currencies plunge, we will see more and more examples of successful crypto investments by ordinary people, and the rest will follow suit. And in case of a full-on global crisis, these developments would expand into not only emerging markets, but also into developed economies; inflow of money to the cryptocurrency market will increase by an order of magnitude. That’s why, to me, Bitcoin looks very attractive as a kind of insurance from possible financial shocks that the world has not seen for ten years now.

This article was originally published in Russian by RBC.


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