A few days ago, when I read an article titled “cryptocurrency revolution” in Germany’s most prestigious economy online magazine written by Thorsten Polleit, an honorary professor of economics who incidentally is the chief economist of Degussa, I could not suppress my urge to translate his excellent article into English to have his perspective benefit a wider audience. After personally receiving his approval to publish per my request, I decided to post it here following a few words of my own on the matter:
As you can read below, Thorsten Polleit argues that the issuance of money, which essentially regulates the value exchange amongst other features, has primarily been in the hands of governments and central banks, however few people are aware of the fact that 97% of our money supply is created not by the government (or the central bank), but by commercial banks in the form of loans and fractional reserve banking.
On November 20th 2014 in the House of Commons, over 30 MPs of the UK parliament took part in a debate on money creation and society. Ever since the Bank Charter Act in 1844, this was the first time in 170 years the topic has been fully debated.
Shortly thereafter a study in the International Review of Financial Analysis, published in December of 2014 established for the first time empirically that banks individually create money out of nothing. The money supply is created as ‘fairy dust’ produced by the banks individually, “out of thin air”..
The above events are especially interesting when one rereads the article "The 147 Companies That Control Everything" which had been published by Forbes a few years earlier.
It describes how 3 system theorists took a “database listing 37 million companies and investors worldwide and analyzed all 43,060 transnational corporations and share ownerships linking them.”
“They discovered that global corporate control has a distinct bow-tie shape, with a dominant core of 147 firms radiating out from the middle. Each of these 147, own interlocking stakes of one another and together they control 40% of the wealth in the entire network. A total of 737 control 80% of it all. The top 20 are the following:
- Barclays plc
- Capital Group Companies Inc
- FMR Corporation
- State Street Corporation
- JP Morgan Chase & Co
- Legal & General Group plc
- Vanguard Group Inc
- UBS AG
- Merrill Lynch & Co Inc
- Wellington Management Co LLP
- Deutsche Bank AG
- Franklin Resources Inc
- Credit Suisse Group
- Walton Enterprises LLC (holding company for Wal-Mart heirs)
- Bank of New York Mellon Corp
- Goldman Sachs Group Inc
- T Rowe Price Group Inc
- Legg Mason Inc
“This is, say the paper's authors, the first map of the structure of global corporate control.” Do you recognize some banks amongst them?
Another angle to monetary power is what was titled: These 8 men are richer than 3.6 billion people combined in the “CNN money” publication last January. According to a new report from Oxfam International eight men now control as much wealth as the world's poorest 3.6 billion people.
Yes, this is the world we all live in right now! In this context, I share this translated article with you as promised:
The Cryptocurrency Revolution
Virtual currencies like bitcoin are difficult to understand, but a store of value nevertheless.
Initially laughed about, meanwhile officially accepted method of payment in several countries: Cryptocurrencies like bitcoin have a great future ahead of them, since they are superior to our traditional paper money from several aspects.
“First they ignore you, then they laugh about you, then they fight you, then you win.” These words are attested to Mahatma Gandhi (1869 - 1948). They are indeed a timeless truth, if one is to account for the voices that accompany societal transitions. An example that can be added to this are the reactions around the rise and distribution of cryptocurrencies.
The most known of them are Bitcoin, Ethereum, Ripple, NEM, Litecoin, Dash & IOTA. Initially not recognized and laughed about due to their aspiration to rise towards being the new money - the officially recognized method of payment, the public interest of cryptocurrencies has increased strongly. The countries are taking them serious and started to contain the attraction to cryptocurrencies in comparison to the federal “fiat-money” via regulation and taxation. But the attempt to ward off the currency competition the cryptocurrencies are representing, is doomed to fall by the wayside.
Because a real monetary revolution has been started. One needs to understand that the governments have successfully prevented a currency competition so far. Simply by enabling the central banks to be the forced monopolists for the currency production: Only the federal central banks and the commercial banks licensed by them are allowed to create and distribute money - out of thin air.
In addition to that the governments are discriminating alternative payment methods via taxation. If you are trading your Krügerrand gold coin you obtained years ago for 800 Euros for a coat that costs 2000 Euro you will have to - if you want to obey the tax code - pay taxes on capital gains of 1200 Euros (2000 minus 800 Euros). Understandably that payment via gold coins or other means of value exchange is less attractive than government money (which can also be considered fiat money and therefore federal monopoly money).
The problems with fiat money
The federal monopoly money is suffering from various economic and ethical problems:
- It is inflationary. Its ongoing expansion is reducing its purchasing power. For example the Euro fiat currency lost 27 percent of its purchasing power since its introduction on January 1st 1999. Whoever assumes their Euros are a store of value is erring drastically.
- The federal money induces a shift of income and wealth in a way that is not aligned with market based principles. Whoever receives the newly created money first is able to purchase goods at prices that are still unaltered. Those are the winners. Whoever receives the money at later stages is only able to purchase goods at already increased prices. Those (and everybody, that didn’t obtain any of the newly created money) are the losers. Usually people with lower incomes are the ones that are impacted by this. They are capped in terms of credit limits and hence are not able to be part of those first receivers of the newly created federal debt money. That is also the reason, why the federal money constantly increases the gap between the rich and the poor. Federal money is - to apply a modern terminology - very antisocial money.
- The issuance of federal money triggers disorders in the economic and financial system by triggering the famous and feared boom-&-bust cycles. The reason: The money supply increase via credit is distorting the interest rates. Entrepreneurs are being tempted to invest in ways that are only profitable when interest rates are kept low. The economy is thriving initially (“boom”), resulting in speculation bubbles. However, sooner or later the “illusion of wealth” is subsiding, leading to a downturn (“bust”).
- It is particularly problematic that the federal money is increasing the debt of the national economy. The debt is rising faster than the incomes. More debt is necessary, provided with decreasing interest rates, to prevent the credit bubble from bursting. The current politics of low interest rates by the central banks is nothing but “coincidental”, it is rather a logical consequence of the federal money supply.
Improvement via Cryptocurrencies
In light of the obviousness of continuously increasing problems around the federal money some clever minds have set out to create better money: Cryptocurrencies. They are cryptographically encoded and decentrally archived data protocols. Cryptocurrencies are produced without interference of any central authority (federal central bank) and funds transferred anonymously and cost-efficiently between sender and receiver.
Cryptocurrencies aren’t anymore just exotic concepts of various computer freaks, but already applied in daily usage. For example bitcoin, probably the most prominent of the cryptocurrencies, is recognized as “official legal tender” in Japan as of April 1st 2017. Likewise Australia has decided in the meantime to accept bitcoin as legal tender as of July 1st 2017.
From the perspective of monetary theory bitcoin has all the attributes to be able to rise as a generally accepted form of value exchange. If this will manifest is eventually a function of demand: In other words if the users consider cryptocurrencies more advantageous than fiat money. The presently rising awareness around the economic and ethical problems of the fiat money seem to confirm the assumption.
The performance levels of bitcoin transactions are still lacking those of the official fiat money. Also there isn’t any market yet for the financial products that are being offered in bitcoin to be able to invest and save. But all of this can and will likely develop: the driving force for that are an increasing amount of bitcoin users, which are switching over from using fiat money to cryptocurrencies.
Bitcoin is currently the leader amongst the cryptocurrencies. It was able to drastically rise in value compared to all fiat currencies. For example in december 2011 one bitcoin cost US $3.75. Meanwhile the price is at around US$ 2.500 - an increase in value of 66,567 percent: If one would have purchased US$ 1.000 worth of bitcoin, they would have increased to US$ 665.667.
However the bitcoin price increase developed during drastic price fluctuations. While the bitcoin supply development is relatively constant and clear - currently there are 16,4 million bitcoins in circulation, and there won’t be any more than 21 million pieces ever (they can be divided in smaller portions up to eight decimal points) -, the bitcoin demand is still relatively unstable. As long as that is still the case, one can expect the fluctuations of the bitcoin price to continue.
If however bitcoins become a “regular” portion of many people’s portfolio, the demand will likely stabilize and the strong price fluctuations compared to fiat money might subside. In light of this the volatility of bitcoin, which is often used by critics as unreliability argument, is solely an expression of its relative novelty.
Will the bitcoin price rally continue? This is not possible to evaluate from today’s perspective. There are however three factors supporting the likelihood.
First: The fiat money supply is rising and rising, while the growth rate of the bitcoin supply is already decreasing and heading towards zero soon. In other words there is a systemic increase in value proposition compared to the fiat currencies.
Second: Bitcoin provides a growing purchasing power - opposite to fiat money, which loses its purchasing power over time. The total possible supply of bitcoin production is limited. And in case the national economy grows, the products offered in bitcoin denomination will (have to) decrease. Decreasing prices means that the amount of products one can buy for one bitcoin are growing. This should increase the demand for bitcoins.
Third: In case of suppression or abolishment of cash, a cryptocurrency like for example bitcoin enables a user to avoid federal inspection of his accounts and protection of his privacy. Also the fear of frozen or confiscated bank accounts by governments will end. A factor that should not be underestimated, which could lead to increased demand for bitcoins.
Consequences for investors
In closing one aspect of development should not be overlooked: One can use the blockchain to create “colored” bitcoins. These can for example represent the ownership of a physical amount of pure gold. This way one can create a digital gold currency, that could be simply and conveniently able to be used for payment purposes like the solely digital cryptocurrency.
One advantage of the gold-bitcoin: A complete value loss is impossible, since gold is intrinsically valuable, even if it’s not being used as payment method, due to its non-monetary market value, since there is demand in the industry and the jewelry markets. Basically physical gold, once digitalized and available via the blockchain, represents the most perfect money in the history of mankind.
There is probably no necessity to explain, that the rise and distribution of cryptocurrencies, if the trends of the current dynamics continue, will have revolutionary consequences for society and economy. Blockchain-based cryptocurrencies are a disruptive force, which in the most extreme case might make the fiat currency lose it’s value entirely and render the state system in it’s current condition financially unsustainable.
What to do as an investor? Whoever obtains a cryptocurrency should know that he’s not investing but speculating. Because unlike with shares or bonds there are no tested or accepted ways of evaluation - the same accounts by the way for raw materials and art. It is not possible to even closely estimate, if the price, one is paying, is justified in relation to the “inert value” of a cryptocurrency.
Cryptocurrencies without any warranty
In addition there are no warranties that todays known cryptocurrencies will be able to become legal tender and not being replaced by other concepts; the risk of them turning into a total loss as immaterial crypto digits isn’t zero. However in contrast there is a chance that cryptocurrencies will sooner or later replace the fiat money. Whoever owns cryptocurrency in this process, will likely be rewarded with large value increase.
A senseful investment strategy, in order to react to these developments, is obvious and simple: Keep investing in “excellent businesses” and hold your breath. No matter if the currency in which deals are being done is called US-dollar, Euro, Swiss Francs or bitcoin: Excellent businesses achieve a positive financial profit after the inflation rate is substracted.
In addition you still have the chance to conduct business successfully, even if the current federal fiat money is being replaced step by step by one or many crypto-like currencies - which seems to be the most probable scenario, with which a long-term investor should get aquainted: We are dealing with a real revolution, induced by the cryptocurrencies.