Fed Economists Try To Portray Bitcoin As A Fiat Currency by Demelza Hays, Foundation For Economic Education

A University of Pennsylvania economics professor and an advisor to the Philadelphia Federal Reserve recently released a working paper claiming that Bitcoin is a fiat currency. Their paper investigates a hypothetical economy of privately competing currencies where entrepreneurs “can issue their own fiat currencies in order to maximize their utility.” Jesús Fernández-Villaverde and Daniel Sanches suggest that Bitcoin and other cryptocurrencies are actually more “fiat” than public monies because they cannot be used to pay taxes in most countries.

Bitcoin Doesn’t Need Violence

It’s time to set the record straight: Bitcoin is not a fiat currency. There are not different degrees of “fiatness,” as the authors imply, and privately issued-currencies are the opposite of fiat currencies created by government legislation.

Bitcoin is an open-source software that allows individuals to trade without an intermediary. Deemed the first “cryptocurrency,” Bitcoin has seen its spot price soar to $750/Bitcoin in recent days. Bitcoin’s market cap of almost $12 billion has garnered interest from investors, academics, and regulators.

Private currencies, such as Bitcoin or the Vodafone mPesa, are not examples of fiat currencies, even if a commodity such as gold or silver does not back them. Several cryptocurrency pundits have accepted the notion that Bitcoin is a fiat currency for this very reason. While it’s true that Bitcoin is not backed by a commodity, this fact only fulfills half the requirements of the definition of fiat. Fiat comes from Latin, and means, “it shall be.” A fiat currency means the government declared the currency to be legal tender even though the currency does not have a commodity backing. Fiat monies include the U.S. dollar, the British pound, the European euro, and the Chinese Renminbi, amongst others.

You Keep Using That Word

In the paper “Can Currency Competition Work?” Professor Fernández-Villaverde and FED advisor Sanches find that the optimal strategy for entrepreneurs who produce private currencies is to limit currency production to a constant nominal supply. If an entrepreneur prints too much currency, the demand for the entrepreneur’s currency will decrease because the money becomes worthless. The authors mention that the market naturally limits the over-issuance of private currencies because entrepreneurs who produce worthless currencies will eventually go out of business. Unlike private currencies, fiat currencies remain on the market even though central banks overissue. This is because a government can force individuals to use a government-issued currency via a fiat law. If the government creates a cryptocurrency with a “manageable” supply and declares that cryptocurrency to be legal tender via fiat, then that would be an example of a fiat cryptocurrency.

The authors claim cryptocurrencies are more “fiat” than public monies, such as the U.S. dollar, because they cannot be used to pay taxes in most sovereigns. However, fiat is primarily a noun, not an adjective. Contrary to what the authors imply, degrees of “fiatness” do not exist.  A currency is either enforced by government fiat (decree) or not. Bitcoin is not enforced by government mandate.

Retro-Fiat

Bitcoin should actually be considered a “retro-fiat currency” because there is no central authority that could force people to use it. The term retro-fiat refers to the American free-banking era from 1816–1863 when “wildcat” banks issued private currencies that were convertible into gold or silver. These commodity-backed currencies flowed freely between states before the US government enacted legal tender legislation in 1862 and granted a monopoly in minting money to the government in 1863. Such a term as “private fiat” is an oxymoron because only the government can legally force individuals to involuntarily use a currency. Bitcoin is a modern example of a retro-fiat currency because cryptocurrency users transact voluntarily without the legal pressure of a government fiat or mandate.

From a legal perspective, governments have categorized Bitcoin differently. Some governments, such as Switzerland, consider it to be a currency; others, like Australia, claim it is an intangible asset. Regardless of the various legal views of Bitcoin, it is not a fiat currency. If the U.S. government, or any other government, enforced the use of Bitcoin with legal tender laws, the value of Bitcoin would plummet. Its decentralized nature is exactly what gives it value. Cypherpunks would simply switch to a new “permissionless” cryptocurrency that evades government oversight and regulation. Although academia may quibble over the theory of privately competing currencies for decades to come, one thing is for sure: Bitcoin is not a fiat currency.

Submitted via Young Voices.

Fed Economists Portray Bitcoin As A Fiat Currency