16 January 2018

Cogito Ergo Non Serviam

Crypto-Currencies Fall on Government Threats

In a case of delicious financial irony, crypto-currencies like Bitcoin, Ethereum and Ripple dropped like rocks in the last trading session. Bitcoin was off 18% at one stage, Ethereum fell 23% and third place Ripple was down a third. The reason was the threat of government regulation, one of the things virtual currencies were created to avoid. It seems that some people don't understand that politics will always trump economics and finance if there is sufficient reason.

The Guardian reported, “Cryptocurrencies enjoyed a bumper year, with bitcoin hitting a high of about $20,000 in 2017 as mainstream investors entered the market and an explosion in ICOs drove demand for bitcoin and Ethereum.

“The latest tumble left bitcoin down more than 40% from the record high in mid-December, wiping about $130bn billion off its 'market cap' – the unit price multiplied by the total number of bitcoins that have been released into the market.”

South Korean Justice Minister Park Sang-ki said at a press conference, “There are great concerns regarding virtual currencies and justice ministry is basically preparing a bill to ban cryptocurrency trading through exchanges.” This would change the market radically as 5% of all Bitcoin and 10% of Ethereum trades are against the Korean Won.

Meanwhile, the ChiComs are considering a similar action. “A senior Chinese central banker says authorities should ban centralized trading of virtual currencies as well as individuals and businesses that provide related services, an internal memo from a government meeting seen by Reuters showed.” Reuters went on to reveal the official was not just an analyst but rather was Vice Governor Pan Gongsheng of the People's Bank of China. Beijing has already banned initial coin offerings, shut down local exchanges and limited mining of virtual currencies.

The purpose of virtual currencies was originally to create a currency that was secure (block-chain technology), private (that is, no government hands on it) and to get around regulations like UN sanctions or trade embargoes.

Rather than replace traditional currencies, virtual currencies have become an investment vehicle in their own right. Much like trading the US dollar against the British pound, one can trade a virtual currency against other such currencies or traditional units of exchange. However, the failing of virtual currencies is that one can't go to the supermarket and buy a container of milk with it. Bitcoin goes for around US$12,000. There is no way to make change in bitcoin, and who wants US$11,996 in change?

The trouble, of course, is that an unregulated investment vehicle is subject to all kinds of frothy trading and the inevitable price collapse that follows. The price collapse of the last few hours was only a foreshadowing of what could happen.

In the end, governments decide what property rights exist in a market. One can buy and sell heroin anywhere, but enforcing one's rights to it is problematic since it is illegal in most jurisdictions. Governments create fiat money, and by fiat, they can define virtual currencies as currencies, assets, or meaningless code that isn't covered by law.