Aritra Banerjee, NMIMS

By Aritra Banerjee MBA Core, NMIMS Mumbai

For decades, government-issued currencies, or fiat money as they are popularly known, have been the cornerstones of economies around the world. Fiat money has no intrinsic value of its own and is valuable only because the government backing it pledges to maintain its value and/or the transacting parties agree on its value. Most currencies, including the US Dollar and the Indian National Rupee, are fiat currencies and therefore, almost all the transactions around the world are conducted using fiat money. However, a little over a decade ago on 12th January 2009, the world of finance witnessed a landmark event that challenged this status quo. It was on this day that the creator of Bitcoin, using the name Satoshi Nakamoto, sent 10 Bitcoins to cryptographer Hal Finney and thereby recorded such a transaction for the first time ever in human history.

"Cryptocurrencies offer unprecedented opportunities but due to its riskiness the blockchain-based asset has still got a long way to go before being universally accepted and realizing its true potential.

Since that historic day in 2009, Bitcoin, one of the best-known cryptocurrencies, has been used in millions of transactions across the world and has experienced a stupendous rise in stature. Today some experts even believe that it has the potential to replace the U.S. dollar as the world’ s reserve currency in the future. In more ways than one, the growth story of Bitcoin has been a microcosm of the rise of cryptocurrencies as a whole. In just 7 years, the market capitalization of cryptocurrencies has increased by 7038.04% from $10.62 billion in 2013 to $758.06 billion in 2020. This rapid expansion means that cryptocurrencies are no longer small enough to be ignored. In fact, such is the potential that how the world of finance shapes up in this new decade would be greatly dependent on the kind of impact that cryptocurrencies have or are allowed to have.

Source: Statista

Two Sides of the Same Coin

Simply put, a cryptocurrency is just another medium of exchange like the U.S. dollar or the Euro. However, unlike these traditional currencies, it is completely digital and uses encryption techniques for the creation of monetary units and verification of funds transfer. One of the major technologies that make the existence of cryptocurrencies possible is the blockchain. Being a decentralized ledger of all transactions across a peer-topeer network, blockchain enables participants to confirm transactions without a need for a central clearing authority. This decentralization is one of the main reasons behind the growing popularity of cryptocurrencies. Decentralized currencies are free from the shackles of national monetary policies and immune to inflation or deflation. Since these decentralized cryptocurrencies do not need banks or middlemen for successful transactions, they are also protected from the risks of bank failures or exorbitant transaction fees. A decentralized cryptocurrency would even facilitate easier international payments as they are not constrained by exchange rates and would incur negligible transaction fees compared to the current system. However, it is in the field of financial inclusion where the potential benefit of the decentralization is the most pronounced. Globally, today the number of people who have access to the internet outweigh the number of people who have access to traditional banks. Thus, a sizable part of the unbanked/underbanked population can access the internet. By simply obtaining a cryptocurrency wallet through the internet, these people can now use financial services and establish credit, something which they couldn ’t do before. Evidently, a cryptocurrency has many benefits that a fiat money is unable to provide but ironically enough, some of its major strengths also create difficulties for it when it comes to widespread acceptability. For instance, the decentralization of cryptocurrencies ensures that the network is in control of the transactions rather than a government or institution and this provides greater confidentiality to each transaction. Yet, this confidentiality also means that, in comparison to traditional currencies, criminals and other people with vested interests can hide their nefarious dealings more easily with cryptocurrencies. Naturally, it makes governments and central banks wary of cryptocurrency transactions. More importantly, central banks fear that a widespread adoption of cryptocurrencies can make their monetary policies ineffective and result in the diminishing of their influence on the economy.

A related apprehension is that cryptocurrencies can make the entire banking system irrelevant and lead to a massive destruction of revenues and jobs that the banking system generates . Unsurprisingly , many countries like Bangladesh and Macedonia have already declared cryptocurrencies as illegal1 . India too , is set to go down the same road by banning all private cryptocurrencies through “ The Cryptocurrency and Regulation of Official Digital Currency Bill , 2021 ” . Instead , it aims to have a central bank digital currency ( CBDC ) of its own that would be introduced , maintained and regulated by the Reserve Bank of India , the country ’ s central bank . While , the digital currency would be based on the same blockchain technology , it would differ from the cryptocurrencies like Bitcoin as

it would be regulated by the RBI .

Nonetheless , with the passage of time , on an overall basis , the scepticism around cryptocurrencies has reduced and the unprecedented events of the year gone by have helped the popularity of this new - age fintech application grow . In the pandemic year , even as the U . S . Dollar slumped , cryptocurrencies soared . This has led many to believe that 2020 marked the start of an era that would see cryptocurrencies scale new heights .

What lies ahead

The fans of cryptocurrencies have several reasons to be optimistic. Firstly, of late, giant multinational companies like JP Morgan Chase and PayPal have shown great interest in cryptocurrencies. In 2019, JP Morgan Chase announced its plans for its own cryptocurrency JPM Coin and recently in 2020, PayPal allowed its users to use cryptocurrencies. In addition to this, 2020 saw the erosion of trust in all traditional currencies as countries across the world resorted to massive money printing in order to deal with the effects of the COVID-19 pandemic. However, sceptics on the other side of the spectrum point out that the future of cryptocurrencies isn’t as fascinating as its fans think it to be. The sceptics believe that the fundamental reason behind this is the fact that crypto assets can serve as either useful hedges or handy means of payment but not easily both. For the latter, stable coins, such as the crypto assets that are pegged to the dollar, have proven useful. They are relatively stable but as a trade-off they have had to create institutional layers to preserve the value which has made them riskier and less transparent than the dollar-based system itself. Additionally, they would always carry the risk that their peg to the dollar may someday be broken. Further, given the scepticism of the central banks, with more popularity these stable coins may attract more regulations which can limit many of its advantages over the traditional banking sector and thus make them less attractive.

On the other hand, crypto assets like Bitcoin are not pegged to any national currency. They can be popular as vehicles for hedging and speculation but given how rapidly their value can rise or fall, it would be extremely risky to use them for the bulk of one’s transaction. Traditional currencies like the dollar or the Indian Rupee are far less volatile and hence much safer to use. Several major corporations have added crypto assets. In the future, crypto assets may become like gold and account for a good chunk of their balance sheets and hence imply a high price for the main crypto assets. However, even these corporations would not reject the idea of a heavily regulated crypto assets and crypto-linked financial institutions. Greater regulation would dampen down many of the advantages of a crypto asset and in turn, impede their growth. In other words, with growing popularity, many of the main benefits of cryptocurrencies would be subdued. In fact, mainstream financial institutions can even replicate the success of cryptocurrencies by introducing electronic reserve currencies. Therefore, cryptocurrencies may still have a long way to go before it can truly replace the U.S. Dollar as the world’s reserve currency. Nonetheless, 2020 has shown that cryptocurrencies are evolving into a formidable challenger to traditional currencies and as Ruchir Sharma pointed out in one of his articles, the message of 2020 to governments was clear: They should print money at their own risk because crypto rivals are gaining traction fast.