Bitcoin analysis part 2: can it ever become a unit of account?
Money serves as a common measure that people use to set prices and record debts. Bitcoin is very unlikely to challenge national currencies like the US dollar for this purpose.
This article is the second in a series analysing Bitcoin. The other posts are linked at the bottom of this piece.
The most important function of money is arguably as a unit of account, the common measure that people use to set prices or record debts. So-called fiat currencies — ones that governments have declared legal tender, such as the dollar in the US, the pound in the UK, or the renminbi in China — serve this function effectively.
The fact that fiat currency reigns supreme across the world represents a huge obstacle to the mass adoption of any cryptocurrency. My view is that Bitcoin will never be able to displace the fiat currency of any well-managed economy as the unit of account.
To see why, consider the extent to which the dollar is embedded as the unit of account of the US economy:
- Retailers price goods and services in dollars
- Businesses calculate profits or losses in terms of dollars
- Employers pay their employees in dollars
- The government requires everyone to pay taxes in dollars
- People have liabilities denominated in dollars
- People own assets denominated in dollars
In short, everybody thinks about transactions in terms of their particular country’s national currency. The national currency is deeply woven into the fabric of society, not least because people have future obligations to pay their debts and taxes in terms of that unit of account. That means that people have an overwhelmingly strong incentive to use their national currency — or a claim on the national currency such a bank deposit—for all ordinary transactions.
Any currency that isn’t matched to the unit of account that you use for the majority of your transactions simply isn’t very useful. That’s why no-one chooses to use euros, pounds or yen for everyday purposes in the US. The simple fact that those currencies are not the dollar means that they are an inferior medium of exchange or store of value in the US.
While money’s role as a unit of account is abstract and therefore often overlooked, it’s critical. It severely limits Bitcoin’s potential for mass adoption as money.
Hyperbitcoinization
Some of the most hardcore Bitcoiners believe that the world will ultimately undergo “hyperbitcoinization”. This is a hypothetical scenario in which an economic disaster like hyper-inflation ravages a country, causing the entire population to lose faith in their national currency and switch to using Bitcoin as the basis of all economic activity.
For the reasons described above, as well as others I’ll get into in future posts, I think the concept of hyperbitcoinization is extremely far-fetched. Even if the global monetary system is rocked by a calamity, the existing national units of account will remain in place.
In short, I believe there is essentially no chance that Bitcoin will displace an established fiat currency for all three functions of money. When it comes to putting a value on Bitcoin, this rules out some of the most bullish forecasts based on the global money supply.
Summary
- Money’s role as a unit of account, the common measure that people use to set prices or record debts, is a slightly abstract concept but is arguably its most important property.
- Fiat currencies — ones that governments have declared legal tender, such as the dollar in the US, the pound in the UK, or the renminbi in China — are the dominant units of account in their respective countries.
- The national currency is deeply woven into the fabric of society, not least because people have future obligations to pay their debts and taxes in terms of that unit of account.
- People have an overwhelmingly strong incentive to use their national currency — or a claim on the national currency such a bank deposit — for all ordinary transactions.
- Any currency that isn’t matched to the unit of account that someone uses for the majority of their transactions is simply less useful to that person than their national currency.
Thanks for reading! If this has sparked some thoughts or if you think I’ve got something wrong, please let me know in the comments below.
Here’s the rest of the series:
