Economy

Explained | Why are so many investors rallying behind bitcoin?

The story so far:

Bitcoin, the most popular private cryptocurrency in the world, has been rallying this year, hitting an all-time high of over $66,000 last week. Many investors have been piling into bitcoin and they expect the bull run to continue. According to some estimates, over 10 crore Indians own cryptocurrencies, making India the country with the largest number of bitcoin holders in the world. India has recently also witnessed a number of bitcoin brokerages opening their doors to serve customers.

Why is bitcoin gaining traction in India?

Bitcoin and other cryptocurrencies have been growing rapidly in India despite the pessimism of the Centre and the Reserve Bank of India (RBI). In 2018, the RBI had banned banks and other regulated financial entities from dealing with clients who handled private cryptocurrencies such as bitcoin. However, the Supreme Court last year overturned the RBI’s order. This has cleared some of the uncertainty around the legal status of cryptocurrencies and contributed to the rapid rise in their trading volumes. Notably, trading volumes in popular cryptoexchange platforms such as WazirX grew multi-fold last year within weeks of the Supreme Court’s decision.

CoinSwitch Kuber, CoinDCX, Zebpay and BuyUCoin are some of the other more popular platforms that have come up to facilitate retail trading in cryptocurrencies. CoinSwitch Kuber and CoinDCX have in fact managed to achieve unicorn status with their valuations crossing the $1-billion milestone recently. These companies have bet on India despite looming regulatory uncertainties as they see huge potential for growth in a market with a predominantly young population. Blockchain, the technology that underlies many cryptocurrencies, has also found favour among celebrities such as Amitabh Bachchan and Salman Khan. These stars plan to launch NFTs (non-fungible tokens) to sell memorabilia that will carry their exclusive digital signatures validated using blockchain technology.

Will the rally in bitcoin last?

It depends. Bitcoin witnessed a similar rally in 2017, when its price increased by almost 20 times. This time around, the price has increased about six-fold in the last one year. At the moment, it is trying to decisively break above the highs that it scaled in April but it seems to be facing some resistance from sellers. Whether bitcoin will rise to further highs or crash to new lows is anyone’s guess. Its price over the long-run, however, will depend on its fundamental value as a currency.

Bitcoin enthusiasts see the rise in the price as a validation of their belief that private cryptocurrencies are a viable alternative to fiat currencies such as the dollar and the rupee. Hence they see further upside to the price of bitcoin. Their core argument is that unlike fiat currencies which are indiscriminately printed by central banks, the limited supply of private cryptocurrencies makes them a lot more valuable. In fact, the supply of many private cryptocurrencies is limited by design and this is an attribute that has attracted many to invest in them. Many even expect private cryptocurrencies to replace fiat currencies at some point in the future.

Bitcoin sceptics, however, argue that scarcity alone is not a sufficient condition for an asset to be widely accepted as money. They point out that the acceptance of bitcoin as a currency to purchase goods and services in the real world is still extremely low. One of the reasons for this may be the high degree of volatility seen in the price of bitcoin and other private cryptocurrencies. As Eswar Prasad, an economist at Cornell University, quipped, “It is as though your $10 bill could buy you a beer on one day and a bottle of fine wine on another.” Many people may not be willing to accept a currency whose value might drop sharply in the near future; in fact, some cryptocurrencies known as ‘stablecoins’ have come up to address this very problem. Hence the sceptics of private cryptocurrencies see the meteoric rise in the price of bitcoin as driven by speculative mania rather than by the fundamental value.

Other sceptics have argued that sovereign guarantee by the state is essential for any asset to be widely accepted as currency. It should, however, be noted that in the past commodities such as gold and silver gained acceptance as money even before any government declared them as official currencies.

What lies ahead for private cryptocurrencies?

The biggest threat to private cryptocurrencies going forward will come from governments. At the moment, governments possess an absolute monopoly over the issuance of money within their territories. This allows them to enjoy various special privileges that they would not otherwise. For instance, with the help of the central bank, they manage to fund their increasing budget deficits. Central banks also use their control over the nation’s money supply to manage aggregate demand in the economy. All such privileges that governments currently enjoy along with their central banks, however, would cease to exist in a world where private currencies actively compete against fiat currencies issued by the state. In such a world, people can readily switch to other competing currencies if they believe that their wealth held in a certain currency issued by a central bank is losing value rapidly. As more people refuse to accept currencies issued by the central banks, this will limit the spending powers of governments and their central banks. So it is highly unlikely that governments will allow private cryptocurrencies to flourish as alternative money. While national currencies at the moment do compete against each other, such competition is limited to a great extent by geographical and other barriers.

It should be noted that the Supreme Court had overturned the 2018 RBI order saying that under existing laws the RBI does not have the powers required to restrict individuals dealing in cryptocurrencies. However, this does not put an end to the primary uncertainty over the legal status of private cryptocurrencies. The Centre may well pass a new law that either completely bans or heavily restricts private currencies. China has already deemed all private cryptocurrencies as illegal and banned them. It soon plans to issue a Central Bank Digital Currency that is based on the same blockchain technology on which private cryptocurrencies work. More governments may adopt the same approach in the coming years.


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Printable version | Dec 7, 2021 5:37:08 AM | https://www.thehindu.com/business/Economy/explained-bitcoin-hits-all-time-high-many-investors-expect-the-bull-run-to-continue/article37177202.ece

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