The story so far: The crash in the price of Bitcoin and other cryptocurrencies has put El Salvador’s government in trouble. The Central American country, led by President Nayib Bukele who is a self-proclaimed fan of cryptocurrencies, had adopted Bitcoin as an official currency in September last year. The crash in the price of Bitcoin has raised concerns over the government’s ability to repay its debt.
What is the problem in El Salvador?
The crash in the price of Bitcoin from around $69,000 in November last year to around $20,000 this week has caused losses to investors around the world. According to some estimates, the average cryptocurrency investor is deep in losses after the significant correction in the prices of cryptocurrencies. The crash in Bitcoin’s price has not spared the government of El Salvador either. President Bukele has been using taxpayer’s money to bet on Bitcoin. In fact, a lot of times when the price of Bitcoin crashed steeply, he had gone on popular social media site Twitter to announce to the world that he was ‘buying the dip’ (this refers to purchasing an asset after it has dropped in price). Even during the current crash, he has plunged into the market to buy Bitcoin and has urged citizens of El Salvador to be patient. It is said that the El Salvador government’s investment of over $100 million in Bitcoin has lost more than half of its value till date due to the crash.
Why did El Salvador adopt Bitcoin as an official currency?
In 2001, El Salvador had adopted the U.S. dollar as its official currency. After Bitcoin was adopted as an official currency in September last year, both Bitcoin and the U.S. dollar have been used as official currencies. The El Salvador government has been trying to encourage citizens to primarily use Bitcoin for their daily transactions. It even came out with a payments wallet named Chivo which gave out for free Bitcoin worth $30 initially to encourage people to use Bitcoin in transactions.
Analysts believe that the decision to adopt Bitcoin as an official currency may have to do with the El Salvador government’s inability to borrow in U.S. dollars. El Salvador’s public debt has risen to over 100% of gross domestic product and its recent attempt to borrow $1 billion using bonds backed by Bitcoin failed. The government’s bonds are trading at a steep discount and are classified as junk by investors. President Bukele has already had to rely on financial help from the International Monetary Fund (IMF) and the World Bank to meet his government’s spending needs. It should be noted that while the El Salvador government can tax its citizens to meet its need for dollars, it could turn out to be an unpopular move among citizens. Many believe that the President has mismanaged funds received from abroad during the pandemic and this has made international organisations hesitant to lend any more dollars to his government. The IMF had also opposed President Bukele’s decision to make Bitcoin an official currency.
Bitcoin offers a chance for the El Salvador government to cut down its reliance on the U.S. dollar to fund its spending. Greater adoption of Bitcoin in El Salvador will allow the government to tax and spend in Bitcoins instead of U.S. dollars. This maybe why the government is making various attempts to encourage the use of Bitcoin over U.S. dollars by its citizens. Mr. Bukele has also set up geothermal plants to power his Bitcoin mining facilities. He can use the mined Bitcoins to directly fund his government’s domestic spending if Bitcoin gains greater acceptance in the country. Otherwise, he can exchange his Bitcoin for U.S. dollars and use it to repay debt or even spend it on the domestic economy since the dollar is still the most commonly accepted currency in El Salvador. This is why the fall in the price of Bitcoin is worrying analysts. A crash in Bitcoin’s price against the U.S. dollar means that the government will have to sell its Bitcoin for fewer dollars, thus affecting its capacity to repay dollar debt.
How well has Bitcoin done in El Salvador?
Most citizens of El Salvador have been reluctant to adopt Bitcoin as a medium of exchange, that is, as money. Many citizens, it is claimed, registered on the payments wallet Chivo that was pushed by the government simply to sell off their free Bitcoin in exchange for $30. It should be noted that the acceptance of cryptocurrencies in general has been miniscule across the globe. This has been the case despite the fact that the supply of cryptocurrencies is limited by design, which could potentially help them maintain or increase in value over time. One big reason for the low acceptance of cryptocurrencies has been their extreme price volatility, making them an unreliable store of value. People in general are hesitant to accept something as money if they are not fairly sure about its likely value in the future.
- The crash in the price of Bitcoin from around $69,000 in November last year to around $20,000 this week has caused losses to investors around the world. It is said that the El Salvador government’s investment of over $100 million in Bitcoin has lost more than half of its value till date due to the crash
- Bitcoin offers a chance for the El Salvador government to cut down its reliance on the U.S. dollar to fund its spending
- However, most citizens of El Salvador have been reluctant to adopt Bitcoin as a medium of exchange, that is, as money
Published - June 20, 2022 10:53 pm IST
