Bitcoin, as a decentralized digital currency, has developed from a niche investment to a significant factor in the global financial system in recent years. The underlying technology, the blockchain, allows transactions to be carried out securely and transparently without the need for a central authority such as a bank. This has the potential to significantly change the traditional monetary system, especially in an environment where trust in central institutions is increasingly waning.
The growing acceptance of Bitcoin can be seen in various areas: both institutional investors and private individuals are increasingly viewing Bitcoin as a hedge against inflation and as a long-term store of value. Especially in times of uncertainty on the financial markets – such as during the global financial crisis in 2008 and most recently the COVID-19 pandemic – many people have increasingly taken refuge in Bitcoin to protect their assets from the devaluation of their national currencies.
The key question that arises is how the global financial system could change if Bitcoin continues to gain in importance. Central banks in particular, such as the European Central Bank (ECB) and the US Federal Reserve (Fed), are increasingly faced with the challenge of maintaining their monetary policy if Bitcoin acts as an alternative reserve currency. The possibility of “hyperbitcoinization”, i.e. the complete shift of capital into Bitcoin, would fundamentally challenge the ability of central banks to control money.
Relevant article: Global regulatory efforts for Bitcoin and crypto assets – The good or the ugly?
Challenges for central banks from Bitcoin
A key element of traditional monetary policy is the ability of central banks to control the money supply and print new money when needed to stabilize the economy. However, if Bitcoin continues to rise in value and more and more people and businesses invest in Bitcoin, this could severely impact the role of central banks.
An example of the potential impact can be seen in the USA. To finance government spending, the US government issues government bonds that are bought by investors. These bonds carry an interest rate and the government undertakes to repay the borrowed money plus interest to the bondholders in the future. In recent years, however, fewer and fewer foreign countries such as China or Japan have bought US government bonds. In 2008, at the beginning of the global economic crisis, foreign investors held around 40% of US government bonds. Today it is only 14%. This decline is dramatic and is forcing the US central bank to buy up more and more of these bonds itself.
What does this mean in concrete terms? The Federal Reserve is creating new money to finance these bonds, which is fueling inflation in the US. A major part of the problem is that the constant issuing of new government bonds and printing of money reduces the purchasing power of the US dollar. Since the 2008 financial crisis in particular, the dollar has lost massive amounts of value as a result of these measures. If this trend continues and Bitcoin attracts more and more people as an alternative, this could lead to a significant weakening of the power of central banks.
Relevant article: The Federal Reserve’s Interest Rate Policy And The Opportunities And Risks For Markets And The Economy
The role of government debt and Bitcoin as protection
A key point that the FED and other central banks see as a threat to Bitcoin is the rising national debt in countries such as the USA. The USA currently has debts of around 36 trillion US dollars. The interest payments on this debt alone amount to around one trillion US dollars per year. This huge interest burden has become a major problem, as the USA is no longer able to cover the interest costs through tax revenues alone. In order to pay this interest, it has to take on new debt, which further increases the interest burden and sets off a downward spiral.
In such a situation, Bitcoin poses a significant risk. Bitcoin offers investors an opportunity to invest their capital in an asset that, unlike the US dollar, has a fixed and limited quantity. While the dollar is incessantly inflated as new money is constantly being printed, Bitcoin is limited to 21 million units. This means that, unlike fiat currencies, the value of Bitcoin could remain stable or even increase in the long term. The more people see this scarce commodity as a safe haven, the more capital could be withdrawn from the traditional financial system and invested in Bitcoin.
Relevant article: Bitcoin should be a strategic reserve says German MP
Fiscal repression as a possible countermeasure
Faced with this threat, central banks are looking for possible ways to limit the impact of Bitcoin on their ability to control money. One of the proposed measures is the introduction of taxes on Bitcoin ownership or transactions. This idea is based on the reasoning that by taxing Bitcoin holders, the government could generate additional capital to cover its deficits.
This type of tax measure is referred to as “financial repression” as it aims to influence the free market through government intervention. The thinking behind this is that the state could siphon off some of the wealth accumulated through Bitcoin to bridge its own financial shortfalls. In practice, this could mean that Bitcoin owners would be forced to sell part of their holdings in order to pay the taxes imposed by the state. This would not only put pressure on the value of Bitcoin, but would also result in the state controlling a larger share of the capital.
Another possibility being discussed is a complete ban on Bitcoin. This would be a drastic measure aimed at completely eliminating the use of Bitcoin as an alternative to fiat currencies. However, such a ban would come with significant legal and political challenges, especially in countries like the US where Bitcoin is already widely used and accepted.
Relevant article: Is Bitcoin suitable as a financial asset? – A comprehensive analysis
The political dimension of Bitcoin in the US
While central banks see Bitcoin as a threat, there is a strong lobby in the US that supports Bitcoin. Large financial firms such as BlackRock, one of the largest asset managers in the world, have begun to recognize Bitcoin as a legitimate asset class. BlackRock has even introduced Bitcoin ETFs that allow investors to indirectly invest in Bitcoin. The CEO of BlackRock, Larry Fink, has publicly stated that Bitcoin is a hedge against inflation, especially in countries with weak currencies or authoritarian regimes.
This support from the financial world is a strong sign that Bitcoin is not just a fringe phenomenon, but is increasingly seen as a serious alternative to traditional currencies. Furthermore, Bitcoin is playing an increasingly important role in the political discourse in the USA. In the presidential election campaign, Donald Trump and Kamala Harris have discussed Bitcoin as a symbol of financial freedom and independence.
The political debate surrounding Bitcoin shows that the currency not only has a financial dimension, but also an ideological one. In the US, there is a growing movement for more economic freedom and against central bank control. Bitcoin fits perfectly into this narrative as it gives people the opportunity to store their capital outside of the state control system.
Relevant article: The US and Bitcoin – A strategic move?
Technological aspects and comparison with existing systems
Interestingly, the traditional financial system is in many ways more inefficient than Bitcoin. The US Federal Reserve’s clearing system, known as “Fedwire”, processes an average of only 7.3 transactions per second. This is remarkable as Bitcoin, despite its decentralized nature, has a similar transaction speed of around 7 transactions per second. This shows that the centralized financial system is not necessarily more efficient than Bitcoin’s decentralized system.
In addition, the traditional central banking system incurs high costs. Securing the system requires large sums of money that go into bureaucracy, surveillance and protection by the military and other state institutions. Bitcoin, on the other hand, works without these expensive structures and still offers a secure and transparent system for transactions.
These technical advantages of Bitcoin make it a real alternative to existing financial systems, especially for people looking for a more efficient and cost-effective system. While central banks rely on military and bureaucratic structures to protect their systems, Bitcoin is based on the free market and voluntary use by its participants.
Future developments and the upcoming debate
The future of Bitcoin and its role in the global financial system is still uncertain. The debate on how governments and central banks will react to the growing importance of Bitcoin is in full swing. While some states may ban or heavily regulate Bitcoin completely, others will seek ways to integrate Bitcoin into their financial systems.
What is clear, however, is that Bitcoin poses a serious challenge to the traditional financial world. Whether Bitcoin will prevail as an alternative reserve currency or whether central banks will be able to control it through regulation and taxation will shape the coming years. In any case, Bitcoin will remain a key player in the changing financial landscape.
Author
Ed Prinz serves as Chairman of https://dltaustria.com, the most renowned non-profit organization in Austria specializing in blockchain technology. DLT Austria is actively involved in the education and promotion of the added value and application possibilities of distributed ledger technology. This is done through educational events, meetups, workshops and open discussions, all in voluntary collaboration with leading industry players.
Disclaimer
This is my personal opinion and not financial advice.
For this reason, I cannot guarantee the accuracy of the information in this article. If you are unsure, you should consult a qualified advisor you trust. No guarantees or promises regarding profits are made in this article. All statements in this and other articles are my personal opinion.