Bitcoin is NOT money Yet, Could it become Money or Will it go "Bust"?

Crypto-currencies such as Bitcoin have no non-monetary use.

That need not prevent bitcoin from achieving and maintaining the status of money. But the question is: is it likely to succeed without it? If so, bitcoin might be a steal today. If not, its value could go to zero tomorrow.

To become accepted as money, bitcoin would need to displace established currencies—but only partially.

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Austrian economist Carl Menger taught that communities have a natural tendency to gravitate toward the use of one single good as money—the one which proves most marketable as a medium of exchange.

As a result, there is a tendency for the whole world to gravitate towards one form of money (gold, for example). But this tendency can be countered by local forces that make one good more marketable in one community, while a different good may be more acceptable in another (whether those communities are defined geographically, or by common interest over the internet).

Today, governments exert just such local forces

Each government effectively requires the adoption of the fiat currency of its choice as money in its jurisdiction. They do this in several ways, but the main one is that each government acts as a principal committed user of its chosen currency. Each government demands that taxes be paid to it in its chosen currency. And each makes payments in its chosen money, so distributing that money widely among holders of government debt, government employees, contractors, welfare recipients etc.

Together, demand generated by the necessity of paying tax in the government’s chosen currency, and its widespread distribution, greatly enhance the marketability of the chosen money in that jurisdiction. The result is a world with numerous fiat currencies, many of which are traded globally, but each of which tends to dominate in its issuer’s jurisdiction.

So, can bitcoin become the dominant form of money?

Globally, within one country, or for a particular segment of the economy (for example, online transactions, cross-border remittances, or illegal activity)? Perhaps. Bitcoin does appear to have some of the attributes that enhance a good’s marketability as money: it is divisible, fungible, recognizable, portable, and potentially can be stored securely and with relative ease (although not yet: wallets keep getting hacked). But for all of its positive attributes, bitcoin faces to two big obstacles that hinder its rise to money status:

1. The lack of a big committed user

Which leads to the risk of version-hopping.Governments are major committed users of their chosen money. So long as a government appears stable and is committed to demanding taxes and making payments in one currency, that currency has a significant advantage in marketability over potential rivals—including bitcoin. Bitcoin has no major committed user that can be relied on to sustain its marketability as money, at least not one to compete with stable national governments as in, say, the US or China.

Venezuelans may have good reason to trust the bitcoin community over their own government, but next year they might prefer ether or bitcoin’s younger and faster brother “bitcoin cash”. With no major player committed to bitcoin, there will always be the risk that a new and better crypto-currency appears, and that users migrate to it. The last ones to get the memo will be left holding 21mn pieces of valueless encrypted data. The new crypto-currency might even be managed by a government. Clearly “Fedcoin” would lack the libertarian appeal of a currency independent of a state. But, like it or not, government backing is a net positive for marketability.

2. Volatility, not just now but also in the future.

The current volatility of bitcoin is often cited as a reason to avoid it. If this volatility was to be expected only during the currency’s initial adoption phase, it wouldn’t be a fatal drawback. But there are reasons to believe bitcoin will always be relatively volatile compared with fiat currencies like the US dollar or renminbi. The main one is that major central banks tend to adjust the supply of their chosen money more or less in line with changes in demand for it. They do not aim to make their money a good store of value over the long term, but they do try to keep the value of their money fairly stable over the short to medium term—with most targeting gradual inflation of about 2% per year.

This approach has served well enough to make the major currencies of today marketable as means of exchange. Gold may hold its value better than the US dollar over the long-term, but the dollar is clearly less volatile in the short to medium term, making it much easier to use as money than gold.