Patrick Cairns
3 minute read
11 Sep 2017
7:28 am

What bitcoin isn’t

Patrick Cairns

And will never be.

It’s the question that everyone seems to be asking: “should I invest in bitcoin?”

One can understand the excitement. In March this year, one bitcoin traded at under $950. On September 1, it reached just a fraction under $5 000.

That is phenomenal growth in just a matter of months. It’s not surprising then that people are wondering if they shouldn’t get involved.

However, when asked exactly this question at the Sasfin Beyond Global Wealth briefing in Cape Town last week, global chief economist at UBS Wealth Management, Paul Donovan began his answer by questioning its premise:

“Going to Monte Carlo would be a better option,” he said. “It would be more fun.”

His point was that there is really no such thing as ‘investing’ in bitcoin. If you’re buying bitcoin, what you’re doing is speculating.

This is true for all cryptocurrencies, he argued, because of one very important fact: they are not, and will never be actual currencies.

As Donovan explained, any currency has to have two characteristics. The first is that it must be accepted as a medium of exchange.

“No currency has intrinsic value,” he said. “Currencies are only worth something because you can get something useful in exchange for them. Someone else must be wiling to accept them in return for goods and services.”

While it’s true that bitcoin and a number of other cryptocurrencies are accepted by some online retailers and other businesses, Donavan argued that there is a good reason why they would never gain universal acceptance.

“The largest transaction in almost any economy is paying taxes,” he explained. “Tax revenue is typically between 30% to 50% of any economy. But governments don’t accept bitcoin and never will, because they know that being the monopoly provider of money is a huge economic advantage. They will never throw that away. As a result you will never have these cryptocurrencies accepted as a medium of exchange for the single biggest transaction in any economy.”

The second characteristic of any currency is that it must serve as a store of value.

“If you are going to use something as a medium of exchange you want to have a reasonable expectation that what you can buy with it today, you will still be able to buy with it tomorrow,” Donavan explained.

This is why when an economy experiences hyper inflation, the currency essentially loses its status. The Zimbabwe dollar is an obvious example.

That is the extreme, however, because in a normal, high-inflation environment there is still an expectation that there are ways you can invest your currency for it to retain its purchasing power. It therefore still serves as a store of value.

In the case of bitcoin, however, its value as measured by its price against the US dollar is extremely volatile.

“For example, in 48 hours this week, bitcoin fell 20% against the dollar,” Donavan pointed out.

“You just have to look at that level of volatility compared to the volatility of genuine currencies to realise that this isn’t a store of value mechanism.”

This doesn’t however mean that Donavan doesn’t see value in the technology behind it.

“The blockchain is essentially an efficient transmission mechanism,” he said. “UBS and other banks, even some central banks, have adopted blockchain technology that speeds up transactions between the major banks of the world. But you need to separate the underlying technology, which is rather dull, from bitcoin itself, which might be exciting, but it’s not an actual currency.”

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