12 October 2022 | ZebPay Trade-Desk
A country’s central bank and regulators decide the legal tender in an economy. This means that any form of value they deem fit as legal tender can be used to pay for goods and services. For example, Rs.10 bills and Rs.2 coins are legal tenders in India. Making Bitcoin (BTC) legal tender means that anyone who wants to pay for a cup of coffee can use BTC to do so. Without a central bank declaring Bitcoin legal tender, the risk of accepting BTC for goods sold would be on the merchants. When the central bank has explicitly declared bitcoin legal tender, it becomes an official form of value exchange within the economy.
The rise of Bitcoin and few other decentralised cryptos has also prompted several central banks to consider digital assets to be a more robust alternative to fiat currencies. As a result many countries including China, UK and USA and India are working on their Central Bank Digital Currencies (CBDC). For these countries, the reason for adopting digital currencies is to achieve better traceability and control of each currency unit in the economy. This traceability will help them calculate taxes more accurately and identify money launderers, but more importantly, it will help them spot any accumulation of wealth and develop policies to keep it in their economies.
Nevertheless, central banks are getting into digital currencies. There are countries with more fundamental problems that a digital version of fiat currency cannot solve. For example, countries like Argentina and Venezuela have suffered from hyperinflation for years and an appreciating currency can help in economic recovery. There are also countries like El Salvador, Panama, Guatemala and Honduras where a large percentage of GDP is contributed by remittances. This paves the way for a form of value sharing that is not constrained by national borders. For example, 24.07% of El Salvador’s GDP in 2020 came from remittances.
Another consideration for countries is the level of financial integration in their economies. Hyper-local experiments in creating an ecosystem for Bitcoin have had some success in countries like El Salvador. Since remittances are a major contributor to their economy, digital assets can not only contribute to financial inclusion but also provide savings on remittance costs. It should also be noted that regimes implementing Bitcoin as legal tender have claimed to offer financial inclusion to their citizens. However, financial inclusion must often precede mobile phone and internet penetration. Without the digital infrastructure, a digital currency alone will not be able to solve the problem of financial inclusion.
Which Countries Have Adopted Bitcoin As Legal Tender And How Did They Do It?
El Salvador is the first country to adopt Bitcoin as a legal tender. Aside from the macroeconomic factors outlined above, the country had a leader willing to experiment with bitcoin. He has been a loyal crypto ambassador ever since. The next country to follow in the footsteps of El Salvador to adopt BTC as legal tender is the Central African Republic. The Central African Republic is rich in natural resources such as gold and diamonds and has an economy of US $2.3 billion. However, financial inclusion is quite low and they rely on remittances. Alongside Bitcoin adoption, the country also announced that 20% of its treasury will hold Sango Coin (SANGO), a digital currency that will reflect the health of the country’s natural resources.
Both El Salvador and the Central African Republic aim to make money transfer cheaper. El Salvador President Nayib Bukele predicted $400 million in savings from remittances as the country transitions to bitcoin infrastructure. With Bitcoin’s Lightning Network, payments could be cheaper than existing methods.
From a macro perspective, these countries’ currencies are generally struggling to hold their value against the United States dollars. El Salvador switched to using the US dollar as its currency but soon found that most of its exports went to the United States and that a weak dollar did more harm than good. Unlike other Latin American economies, El Salvador did not have very high inflation before the dollar was introduced. Furthermore, they had no control over monetary policy around the USD, which is controlled by a centralized entity in another country. Hence, the country looked to BTC to solve its key remittance-related problems without being affected by fluctuations in the US dollar.
The narrative most of these countries have for adopting Bitcoin is the lower cost of remittances for a largely unbanked population. This could be a superficial reason as most of these countries have very low mobile and digital penetration. So unless they can set up Bitcoin ATMs across the country, it wouldn’t be practical for them to scale BTC as their default currency. The other challenge is the volatility of the crypto market. As BTC fell more than 70% from its all-time high of November 2021, El Salvador made multiple purchases of the crypto. However, the fall in bitcoin prices has been relentless and most of these positions currently remain at losses. A country’s treasury spending citizens’ money on a volatile asset that can lose between 70% and 80% of its value in six months cannot be a sign of sound economic policies. Due to the weak liquidity situation, the country’s ability to borrow more money from international markets is also severely hampered.
On the flipside, Bitcoin guidelines & regulations are in large part decided via the means of national regulators. Due to the decentralised nature of crypto, the ban on BTC in one national jurisdiction does not directly impact its legal status in another jurisdiction. However, when a country like the US is tough on crypto through regulations, the market reacts. The resulting price action may affect all countries using Bitcoin as a legal tender or reserve currency.
There have been several bans on BTC, Altcoins and crypto mining around the world. China banned cryptos in 2021 in light of its central bank’s digital currency which also affected bitcoin mining. As a result, the BTC hash rate dropped in 2021. However, the industry was revived by a surge in Bitcoin miners in the United States. In 2022, India took a tough stance on cryptos.
If you look at history, every time this asset class is banned in one part of the world, a different region seizes the opportunity. Given that the innovations in the Crypto world are advancing at a rapid pace, it is extremely difficult to contain the growth of BTC and digital assets in general. Countries that want to ban cryptos, to protect their citizens are likely to be unsuccessful. A more collaborative and democratic approach will help achieve the goal of protecting retail investors.
Disclaimer : This report is not intended to be relied upon as advice to investors or potential investors and does not take into account the investment objectives, financial situation or needs of any investor. All investors should consider such factors in consultation with a professional advisor of their choosing when deciding if an investment is appropriate. The Company has prepared this report based on information available to it, including information derived from public sources that have not been independently verified. No representation or warranty, express or implied, is provided in relation to the fairness, accuracy, correctness, completeness or reliability of the information, opinions or conclusions expressed herein. This report is preliminary and subject to change; the Company undertakes no obligation to update or revise the reports to reflect events or circumstances that arise after the date made or to reflect the occurrence of unanticipated events. Trading & Investments in cryptos viz. Bitcoin, Bitcoin Cash, Ethereum etc.are very speculative and are subject to market risks. The analysis by Author is for informational purposes only and should not be treated as investment advice.