‘Bit’ of a currency

The spectacular jump in prices of Bitcoins — from $14 at the start of this year to around $900 now — has made this digital currency a phenomenon that cannot be ignored any longer. The fact that the market value of the outstanding issues of this ‘cryptocurrency’ has shot up from a mere $144 million to $11 billion during this period indicates a kindling of investor interest. True, it would be too much to see it emerging as an alternative to regular fiat currencies. Yet, there is a growing band of users of this digital medium of exchange that is not controlled by any central bank, but is issued and managed by a collective network of computer programmers who ‘mine’ the currency and track each transaction undertaken through it. Those swearing by it range from Richard Branson (who is willing to accept Bitcoins for future suborbital spaceflights through Virgin Galactic) to online gambling dens and trading platforms in equity and currency futures. But more significant are the endorsements of sorts from the US Federal Reserve Chairman Ben Bernanke (who recently sent a note to the Senate members stating that Bitcoins may hold “long-term promise”) and a deputy governor of the People’s Bank of China.

One reason for the success of Bitcoins could be that they meet the perceived need for a fast, secure and cheap payments system to facilitate the growing volume of global e-commerce transactions. Besides allowing money to be transferred across continents in minutes without any intervening banks to slow down the process, the system guarantees anonymity of those conducting transactions. But that also makes this channel extremely attractive for money launderers, drug traffickers and others seeking to keep their identities secret. An online drug retailer, Silk Road, was found using Bitcoins for transactions on its site. Central banks and other authorities are, therefore, bound to enforce greater supervision and increasingly insist on detailed client documents for transactions through Bitcoins. But lack of anonymity will take away a major USP that currently makes it attractive for many current users. As regulatory supervision on Bitcoins increases, the cost and speed of transacting will also be impacted.

Another reason why Bitcoins could be just a passing fad is that their prices are solely dependent on demand and supply. The Bitcoins already mined now number 12 million, as against the declared upper limit of 21 million. The limited supply will, then, push prices higher. In the event, Bitcoins would become more of an asset — a store of value — than a medium of exchange for genuine commercial transactions. As it is, speculators trading in this currency on exchanges such as Mt.Gox are driving up its prices. What the Bitcoin phenomenon, nevertheless, highlights is the potential for digital cyptocurrencies — and also the growing disenchantment with fiat currencies prone to debasement by central bankers and their printing presses.

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