Store of Value vs. Electronic Money: Is Bitcoin Really a Currency? — AAX Academy
In late 2008, Bitcoin’s creator Satoshi Nakamoto published the BTC whitepaper, in which he described the digital currency as a “peer-to-peer electronic cash system.”
However, Bitcoin’s use as money or a currency has been a controversial topic in the cryptocurrency space.
While some call Bitcoin the most perfect form of money ever created, others argue that the digital asset can’t be used for everyday payments.
For that reason, we will explore what makes an asset a currency, whether Bitcoin possesses these characteristics, and investigate the question of using BTC as electronic money.
What Are the Core Features of a Currency?
To start out, let’s examine what a currency is along with its core features.
A currency refers to any form of money used as a medium of exchange for goods and services when it is in circulation. Simply put, it’s an asset that the citizens of a nation can utilize to settle their everyday payments.
The key characteristics of a currency include:
- Durable: A currency has to be durable enough so people can reuse it numerous times in the future without it significantly deteriorating in quality.
- Divisible: It’s also crucial for a currency to be divisible so people can easily use it for common transactions. For example, a $20 bill can be easily exchanged into two $10 or four $5 bills.
- Portable: No matter how valuable an asset is, it will only function as money if the holder can easily move it (either physically or electronically) from one place to another.
- Recognizable: To use it as a medium of exchange, the authenticity and the quality of the currency has to be easily identifiable by the parties involved in the transaction. If the asset lacks this characteristic, a third party must be hired to evaluate the instrument’s value, which significantly increases the transfer fees.
- Scarce: To maintain its value, a currency’s circulating supply has to be limited. While central banks can still print new bills, the whole process for fiat money is heavily regulated to prevent a significant loss of value and hyperinflation.
- Uniform: To be interchangeable, a currency’s units have to be relatively uniform in value and quality. For example, making the $1 coin from gold and the 50¢ coin from copper (or vice versa) could disrupt future transactions’ reliance and consistency.
- Generally accepted: For an asset to function as a currency, it has to be generally accepted by both individuals and businesses. For example, no matter how valuable they are, diamonds can’t function as money as the majority won’t take it as payment.
- Stable: A currency has to feature a relatively stable or gradually increasing value so the parties involved in a transaction know (without additional assessment that could increase the transaction costs) how much they receive or pay for a good or service.
- Difficult to counterfeit: To use something as money, it has to possess certain qualities that make it hard for people to counterfeit it. If it can be easily forged, numerous fake assets could enter the market, decreasing the asset’s value and increasing transaction costs significantly due to third party quality evaluations.
Does Bitcoin Have the Characteristics of a Currency?
To evaluate whether Bitcoin can be used as money, let’s first see how the core features of currencies apply to the digital asset:
- Durability: Bitcoin “lives” on the blockchain in electronic form. For that reason, it remains durable until its network is operating without the need to worry about quality deterioration.
- Divisibility: Bitcoin is highly divisible, with its smallest unit being 0.00000001 BTC or 1 satoshi (1 BTC equals 100 million satoshis).
- Portability: A user only needs a compatible device (a smartphone, desktop, or tablet), a cryptocurrency wallet, and an internet connection to access and move his Bitcoin holdings, making it easy to transfer BTC.
- Recognizability: Bitcoin transactions are recorded on the blockchain, which allows anyone to recognize and validate the coins’ authenticity.
- Scarcity: Bitcoin’s supply is capped at 21 million on the protocol level, with the number of newly minted coins being limited and gradually decreased over time as part of a deflationary mechanism called the Bitcoin Halving. Since no one is able to increase the production of new BTC, Bitcoin has even better scarcity features than gold or other precious metals.
- Uniformity: Every Bitcoin is created equal, and all its units possess the same qualities.
- General acceptability: Unlike fiat currency, Bitcoin is not generally accepted as a means of payment. However, due to its growing popularity, the digital asset is increasingly adopted as a payment method worldwide.
- Stability: Bitcoin is definitely not a stable asset as the cryptocurrency is often exposed to high volatility and extreme price swings. However, volatility has gradually been decreasing since the digital asset’s launch, and institutional players can improve its stability in the long run.
- Difficulty to counterfeit: Due to the Bitcoin blockchain’s nature, it’s impossible to counterfeit BTC at the moment. While there is a small chance someone will be able to find a way to forge new coins at some point, it won’t be in the near future.
Based on the above, we can conclude that Bitcoin possesses all the characteristics of a currency except for the features concerning stability and general acceptability.
Interestingly, both of these have the chance to change in the future as Bitcoin adoption increases and cryptocurrency matures as an asset class.
What Benefits Do Bitcoin Payments Provide to Users?
Compared to traditional ways to transfer funds, Bitcoin offers multiple benefits to users, such as:
- Lack of intermediaries: Bitcoin features peer-to-peer (P2P) transactions, meaning that they are conducted directly between the sender and the recipient without any middlemen, third-parties, or intermediaries. As a result, BTC transfers are cheaper and faster.
- No banking or cross-border fees: Instead of a centralized company or financial institution, Bitcoin’s network is maintained by the miners, which means that users do not have to pay banking fees for utilizing the coin. Furthermore, Bitcoin doesn’t differentiate between local and cross-border transactions, allowing parties to send and receive international BTC transfers without additional costs.
- Global access: Bitcoin’s blockchain is public, meaning that anyone worldwide with a compatible device, internet connection, and a crypto wallet can access and use it.
- Fast transfers: Blockchain networks are continuously operating, allowing transactions to be processed even on weekends and bank holidays. Unless the network is congested, Bitcoin transactions take around 10 minutes to confirm.
- Improved privacy: While Bitcoin transactions are definitely not anonymous, users benefit from increased privacy compared to traditional financial services.
Due to the above benefits, an increasing number of merchants have integrated Bitcoin as a payment method.
Bitcoin Doesn’t Necessarily Have to Be a Currency
While it has similar characteristics and offers multiple payment-related benefits to users, most do not use Bitcoin as a currency.
Instead, they view BTC as a store of value that they invest in or trade for profit.
Similarly to precious metals like gold and silver, the majority of Bitcoin users prefer to hold onto their coins instead of using them to pay for products and services.
For that reason, Bitcoin is best described as digital gold with features that allow the cryptocurrency to be used for payments as well.
Also, it’s important to mention that, while they offer the same related benefits as Bitcoin for payments, multiple altcoins feature more robust networks that are much better optimized for everyday transactions than BTC.
For that reason, payment-focused altcoins function more like a currency and can be used more efficiently for common transactions than Bitcoin at the moment.
However, that could change in the near future as Bitcoin’s volatility decreases with growing institutional interest. Also, the Lightning Network, the layer 2 scaling solution seeking to achieve cheap and rapid BTC transactions, can boost the digital asset’s efficiency for payments.
As a result, it might turn out that Bitcoin will establish itself as the currency of choice on the internet at some point in the future.
Originally published at https://academy.aaxpro.com on January 25, 2021.