FINTECH FRIDAYS

27th August 2021

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The Future of Cryptocurrency Part 1

Recently, the cryptocurrency market passed a total value of $2 trillion, causing a lot of speculation about the future of cryptocurrencies and their role in replacing Fiat currencies (currencies issued by a central authority). A survey conducted by Forbes revealed that 76% of finance professionals believe that cryptocurrency could act as a replacement for these currencies in the not-too-distant future.

In the next two articles of Fintech Fridays, we try to dissect the opinions about the future of crypto, considering both the optimistic and pessimistic viewpoints, and leave the reader to decide where they stand. In this first article, we look at the ongoing issues with cryptocurrency, and next week we look at the positive side.

What are some issues facing Cryptocurrency?

The issues for Cryptocurrency can be broken into three main areas: regulation and control, adoption and security. 

 

Thus far, the regulation has not kept up pace with the development of cryptocurrency, but governments around the world are keen to control the market more tightly, to restrict illicit activity. If governments are unable to control a decentralised cryptocurrency market, it is possible they may issue their own central crypto or other digital currencies as a replacement (we have already seen some progress towards this goal). However, this defeats the original purpose of bitcoin and crypto more broadly: a peer-to-peer currency network.

 

Closely related to this is the ability to control the supply of cryptocurrency. With Fiat currencies, central banks have direct control over the supply of money and can therefore manage interest rates and the level of inflation in the economy. Contrastingly, most cryptocurrencies have a fixed supply so there is no flexibility to manage short-term fluctuations in the economy. A world without fiat currencies is also a world without monetary policy, which may be problematic.

 

While the uptake of cryptocurrency as a financial asset has increased, its adoption as a currency remains questionable. The three roles of money are a unit of account, medium of exchange and store of value. It is certainly plausible that cryptocurrency acts as a medium of exchange, but there is doubt as to whether it has fulfilled the other two roles. Currently, the price of cryptocurrencies are still quoted in terms of US dollars or other fiat currencies, so the value of cryptocurrency is not yet an independent unit of account. Also, a desired characteristic of money is stability, in stark contrast to the volatility of the crypto market. Because of this, some prefer to use the term crypto asset, rather than cryptocurrency.

The other reason why cryptocurrency may be difficult to adopt, especially as a replacement to fiat currency, is its complexity. While the underlying blockchain process is mathematically secure (at least for now), the majority of crypto theft has come from scams and digital wallet theft, due to user inaction.

 

There is an ongoing battle between those trying to break the security of digital wallets. However, because of the platform being decentralized, it relies on users being up to date with the latest security system, or else risk losing their money. Therefore, it seems unlikely that central authorities will entirely outsource the security risk management of a major currency to its everyday users.  

 

The aforementioned problems and concerns with cryptocurrency may seem as though there is not much hope for its future, but this is not to say these problems cannot be resolved or that the next innovation won’t lead to an even better digital currency. Indeed, there is also much to be optimistic about. Stay tuned for next week’s article, where we talk about these positives.

References:

https://investors-corner.bnpparibas-am.com/markets/what-is-the-problem-with-cryptocurrency-bitcoin/

https://nakamotoinstitute.org/mempool/bitcoin-as-a-store-of-value-unit-of-account-and-medium-of-exchange/

https://www.cnbc.com/2021/06/10/long-term-crypto-threat-quantum-computers-hacking-bitcoin-wallets.html

https://www.imf.org/external/pubs/ft/fandd/2018/06/central-bank-monetary-policy-and-cryptocurrencies/he.htm

The views expressed within this article are those of the authors and do not represent the views of the Finance Student's Association. All images and references in this article are for fair and educational purposes only. The content in this article is not intended as legal, financial or investment advice and should not be construed or relied on as such.