Cryptocurrency has seen significant innovation in a comparatively short period of time, as far as economics is concerned. Combining numerous fields of maths, technology, and economic science, blockchain networks have laid the foundations for a new wave of thinking in terms of fiscal and monetary policy. To many proponents of cryptocurrency the end goal is to see the realisation of a world more dependent on decentralised transactions, both stable and independent from centralised control. It is in fact these two characteristics that can be seen to motivate most currency transitions that have occurred through history, including the dropping of the gold standard and the adoption of the euro within the last century for numerous nations. When populations and governments are aligned on their needs given such metrics, transition is often seen to occur. Cryptocurrencies however do come with additional requirements, independent from a majority of previous transitions. This article seeks to investigate what exactly is required to see nation-wide integrations of cryptocurrency, and what lessons can be observed from the currently undergoing attempts of El Salvador and the Central African Republic.

FAQ

What is cryptocurrency?

Currencies built upon the foundations of blockchain networks can be described as cryptocurrencies. This includes Bitcoin and Ether as the most well known. They are known as such due to their increased reliance on tools of cryptography which have been enabled by innovations within the last few decades in the field of maths. Unlike fiat currencies that are entirely reliant on the legal authority of governments, cryptocurrencies allow for the possibility of a more decentralised yet ideally stable form of currency.

What are the ‘Three Functions of Money’?

These are the functions that must be fulfilled to ensure that a currency can be said to satisfy the properties of money. Unlike traditional forms of bartering, money relies on the ideals of: being a store of value, being a unit of account, and being a medium of exchange. All functions are heavily intertwined with each other, meaning it is rare for a currency to be able to completely satisfy one function without satisfying them all. Cryptocurrency to some degree supports the functions as described, but to be able to satisfy them to a significant enough degree requires wider adoption (currently cryptocurrency only accounts for about 2% of all monetary assets across the globe). Being a store of value would mean that the value of the currency can be seen to be stable. Being a unit of account would mean that the value of most assets within a jurisdiction are measured through said currency. Being a medium of exchange would mean that most assets within a jurisdiction could be purchased with said currency as a guarantee.

What are the ‘Four Requirements of Cryptocurrency Integration’?

While integration and transition to other currencies is typically only reliant on wide-spread adoption and regulation by a government in alignment with their populations, cryptocurrencies have additional specifications. El Salvador’s unanimity across all three branches of government in bringing about a transitions has not been sufficient to see the desired transformation due to a lack of these four requirements. They include: access to internet services, provision of computational resources, stability of the currency (nearly synonymous with the ‘store of value’ function of money but important to emphasise due to a lack of governmental control over the value of a cryptocurrency), and trust in the currency (which is seen in how adopted it is).

What is maximalism?

Cryptocurrencies have often been founded on the philosophy of decentralisation, which includes a decentralisation and diversification of separate currencies. However, some advocate for concentration of assets of proponents of cryptocurrency into one or two currencies; specifically Bitcoin or Ether commonly being cited. This is maximalism. While this would bring about potentially greater levels of centralisation, it may be the primary manner in which a single cryptocurrency could be stabilised to the degree necessary for a nation to transition from fiat currencies.

Contrast of Currency and Cryptocurrency

Blockchain, a concept first explored as a novel application of Merkle Trees to create immutable databases, extended to become mostly synonymous with cryptocurrency through Satoshi Nakamoto’s 2008 publication of the Bitcoin whitepaper. Taking the concept of an immutable database, combined with consensus mechanisms to allow decentralisation of such data storage, allowed for the vision of a decentralised currency. Many early adopters of Bitcoin and one of its many ‘descendants’, Ethereum, analysed the possibility of cryptocurrencies such as Ether (the currency of Ethereum) being used to supplant fiat currencies. Much of this analysis is focused into assessing the fit of these to the three basic functions of money; encouraged partially by growing disillusionment with the financial sector and government fiscal policy in response to the Global Financial Crisis and diminishing economic growth throughout the Western world.

Three Basic Functions of Money

Store of Value

It is important that any currency is seen to hold true as a store of value. Without such encouragement individuals will tend to avoid saving their resources for situations of economic downturn or personal circumstances. These avoided aspects are necessary for a strong and robust economy as rooted in the history of economic collapses caused by famine and drought when crops and water couldn’t be or weren’t stored in reserve. While economies in general have moved on from primary structures to secondary structures and more recently tertiary structures, similar underlying principles continue to apply. For instance a transportation company that transfers raw materials to factories will need spare currency in the case that there is an increased demand for said materials and as such additional transport is needed immediately. In these situations however, these principles appear to be unsubstantiated by cryptocurrencies, as it can be noted that they often have not remained stable stores of value.

There is the exception of course in reference to stablecoins that are backed up by fiat currency, but they are stable because the fiat currency they are backed by are judged to be stable. In another exception there is the case of algorithmic stablecoins, but certainly recent events can imply that an appropriately stable algorithm is either incredibly difficult to implement, or maybe not even possible to implement. Without considering these specific exceptions cryptocurrency on average is a risky investment that can either suddenly rise or drop in value within hours. On both a microeconomic and macroeconomic scale this is not desirable in satisfying the property of being a ‘store of value’; individuals cannot afford the risk that they suddenly won’t be able to pay rent on a given week, and governments cannot afford to be forced to default on debts. It is perhaps possible that only regulation aimed either at reducing volatility or increasing adoption (and by extension reducing volatility) could encourage individuals on a widespread basis to store value in cryptocurrencies.

Unit of Account

Any currency must exist as a unit of account. When individuals or organisations (including governments) are deciding on monetary and/or fiscal strategy they need to be able to ascertain a standardised manner in which to measure income and expenses by. This function can be considered to be a by-product of the satisfaction of the other two functions of money, or a by-product of the adoption of a currency (either in the form of legislation or consensus).

Medium of Exchange

Typically without an accepted medium of exchange in the form of some currency any transaction requires a double coincidence of wants: that one possesses the quantity and type of resource that the other wants and vice versa. Organising a double coincidence of wants can often be of such difficulty to bring about that intense bartering back and forth is necessary. It can be imagined that there would be many transactions that wouldn’t occur due to this difficulty, and many more transactions that may end up being unfair to one party or the other. Any currency should be capable of reducing the requirement of a double coincidence of wants to a single coincidence: that one possesses the quantity of money necessary. In this single coincidence system, instead of bartering what a transportation company may want in return for transporting raw materials it can be known the exact currency they are seeking (and given the ‘unit of account’ function is fulfilled as well) the exact quantity they need.

To be content in using currency for any given transactions however the sender and the recipient party’s needs must be met. From the sender’s perspective they need to be satisfied that no matter where they go for making transactions (either within some jurisdiction, or even internationally) that any parties they wish to transact with will always accept their currency. Without this satisfaction it is unlikely many individuals would desire to retain significant parts of their wealth into a currency that serves no intrinsic purpose beyond the value given to it in a transaction. If a currency does not have widespread acceptance it could be possible that something with intrinsic value such as food or raw materials would be used instead. From the recipient’s perspective they also need to be satisfied that the currency will remain an accepted medium of exchange in their own chosen jurisdictions. Importantly, becoming an accepted medium of exchange is derived from how ‘accepted’ or ‘adopted’ the currency is across a given jurisdiction, as the more individuals and organisations that rely on the currency the more likely it will be that these entities and other entities will be to continue reliance.

Growing Adoption

It can be seen that each of the three functions of money are significantly codependent on the others, and by extension are significantly codependent on the adoption of said currency. This is possibly an unsatisfying conclusion, reducing a currency to only serving as a true source of money if it is already widely accepted by those in a jurisdiction as serving as a true source of money. In other words, a currency is only truly money if it is truly money. Of course cryptocurrency is not the first transition in currency, or type of currency, that has ever occurred in history, signifying that there must be some commonly derived method or set of methods that have been employed previously to achieve a transition. Typically these methods have either involved the interventions of absolute monarchs or dictators, but some more recent examples have occurred in democratic jurisdictions.

Historical Transitions

WW1 & Great Depression

During WW1 and the inter-war period, most nations around the world commenced what was at the time considered a dramatic conversion from gold standards to central-bank controlled currencies. These decisions were primarily made on the basis of trading the stability of gold for the fiscal independence of fiat currencies. For the great powers involved in WW1 (whom all begun or ended the war as democracies), the cost of war, the arms-race prior to the war, and reparations following the war, caused large-scale inflation and eventually significant unemployment. Many of these powers were encouraged by their populations to seek fiscal policy that would bring about full-employment and reduce the cost of living. Nations that resisted this first wave of population influence, or who didn’t suffer from the destabilising effects of WW1, were prompted to drop the gold standard for the same reasons of fiscal independence when the Great Depression convinced their populace’s that the gold standard was not stable enough to avoid recession entirely.

Some other factors such as the shifting influence of the UK and USA, and the breakdown of trade across global empires, did play their part in the dropping of the gold standard. Overall however the alignment of populations and their governments on the need for fiscal independence and a degree of increased decentralisation from the international market drove these transitions in currency. Therefore it could be concluded that it is a gradually increasing demand among populations and their (democratic) governments to seek increased fiscal independence and decentralisation that brings about a transition. To this extent it would be the case that cryptocurrency promises increased decentralisation, as many individuals have been drawn to, that would cause change but by the same notion the fiscal independence of nations would be overridden (if a complete transition occurred). This would suggest that there may be competing interests in whether a cryptocurrency is eventually adopted as a currency or not by jurisdictions. The dropping of the gold standard has not been the only major occasion in recent democratic history that has seen currency change however.

Adoption of the Euro

When the European Union begun the process of releasing a new currency for a majority of their member nations, in the form of the euro, there were significantly different incentives and motivations involved. At this point, in 1999, Europe was still suffering from numerous impacts of WW2 that had dragged on their economic recovery in a new world. Reliance on the Marshall Plan, and trade deficits in general with the USA, as well as continued reparations and reconstruction as a consequence of WW2 and the Cold War (especially in the Warsaw Pact which had not benefited from the Marshall Plan) left many of the member nations experiencing rising inflation, unemployment in contrast to decreasing economic growth - stagflation. Many individual currencies were too volatile, vulnerable to corruption, and dependent on foreign reserves, to sustain any concentrated recovery. Therefore in promise of stability with the payment of the loss of fiscal independence across many of the member nations, the euro was proposed and brought into being to achieve the self-sustained European economic recovery that had previously proven impossible. It can be said once again that at this juncture the populations and governments of these nations aligned on a choice for economic transition, but for contradictory reasons to the choices made about six or seven decades prior to drop the gold standard.

Summary

Where dropping the gold standard had afforded fiscal independence, adopting the euro arguably took more away, and where instability was provided, adopting the euro arguably provided less stability in return. This isn’t to say that upholding the gold standard was a preferable choice over adopting the euro, or that one decision makes the other obsolete, despite contending with similar issues, but that the reasoning for each decision were drastically different. This would presumably imply that instead of there being a general society-wide trend of moving towards decentralisation and fiscal independence, that instead the populace is significantly more pragmatic in their motivations. At different points in history, for different reasons, there is a drive to seek either increased stability or increased decentralisation which then brings about government regulation to make a currency transition possible through wide-spread adoption. More often that not these reasons involve some event such as a war or an economic downturn; much like the Global Financial Crisis that spurred on the innovation of cryptocurrency initially.

Nations that are today currently vulnerable to the effects of war and economic devastation are most open to the possibility of a transition due to a combination of a reduced cost to remove the old system, and an increased desperation to try a new system. While events such as the dropping of the gold standard and the adoption of the euro are presented as successful moments that currency transitions occurred in response to these times of desperation, there are many more events that are either unsuccessful or have catastrophic consequences. It can in fact be said that most of these adoptions of a new currency go in this direction, with there often being a direct parallel between how founded the regulatory ability of a nation is and the success of said transition. It is important to emphasise however that this last point is not made to condemn the efforts of nations attempting to bring about change, but as a suggestion that simply because change is change does not mean it will tend towards success necessarily. There are a growing group of nations, suffering from war and/or economic devastation, that have been watching the innovation of cryptocurrency and are plotting a journey to adopt these currencies in some manner or another. Out of these nations, El Salvador and the Central African Republic are the first to have begun this process of adoption.

El Salvador

In news that surprised many across the world in 2021, El Salvador declared itself to be the first nation in the world to adopt Bitcoin as legal tender. This was done in conjunction with their previously adopted currency the US dollar. By keeping both currencies as legal tender El Salvador had allowed itself the opportunity to take a more gradual transition. As will be discussed later this was important for many reasons, including that most of the population have no means to access Bitcoin. However, as has been mentioned already one of the primary reasons for the importance of this decision is that Bitcoin provides no stability; often to such a large degree that individuals can afford a bus ticket in the morning but can’t get back home at night. Clearly this is in failure of the ‘store of value’ function of money, and to leave a nation entirely reliant on such a currency could be disastrous (not considering any other factors, including lack of internet access). Now making this point is perhaps rhetorical and repetitive, and leads back to the conclusion that a currency must become widely adopted before it can become stable and satisfy the functions of money. While the partial transition to Bitcoin has brought about economic instability, the fiscal independence and decentralisation of El Salvador’s economy has not undergone significant change as they have no more control over Bitcoin than they do over the US dollar.

Under the control of a president that has accrued significant control of all three branches of government in El Salvador, there has been nearly unanimous regulatory approval for clearing the way for Bitcoin to become legal tender in El Salvador. The removal of presidential term limits has also suggested that there will be a continued push to perhaps fully complete the transition to Bitcoin, or to hold it as the primary currency at the least. There are few instances where a government can be said to be unanimous in their approval of economic policy, let alone currency transition (though it can be emphasised that there are opposition leaders in the nation that are in opposition to these policies). However, as has been clear from looking at previous examples, the population must also be in alignment in the sake of national interest for something as significant as currency transition - El Salvador’s population appears to not be prepared. While there is approval for a more decentralised currency, free from corruption and the gangs, as mentioned earlier and to be discussed later aspects such as the lack of internet access make these ideals largely impossible.

Central African Republic

Much more recently than El Salvador, the Central African Republic has become the second nation in the world to adopt Bitcoin as a second legal tender. This nation bears many resemblances to El Salvador: previously completely reliant on a foreign currency in the form of the CFA (Central African Franc) which is pegged to the euro, with large degrees of gang and rebel violence, and with low amounts of internet access. Beyond the small capital of the Central African Republic it has been described that there is little government authority, and as such regulatory ability to bring about currency transition. As such there is a much smaller degree of consensus among the government and the populace in terms of adoption of a new currency, removing nearly all the criteria that have been identified as essential previously for a currency transition to occur. It is early days to draw many conclusions on how their adoption will perform but, as with El Salvador, few organisations are optimistic about it. While there may be many reasons for this reduced optimism, it could be proposed that the primary reason lies less in that either nation are incapable of currency transition (though they do both currently lack the consensus) but that they lack the specific requirements necessary for a transition to a cryptocurrency.

Necessities for Adoption

While regulation as brought upon by consensus among the government and populace of a given jurisdiction has been identified as the only necessity for bringing about currency transition, transitioning to a cryptocurrency has additional requirements. These four requirements include: access to internet for the populace, provision of computational resources among the populace, stability of the currency, and trust in the currency.

Introduction to the four requirements of implementation of a cryptocurrency as a national currency.

Access to Internet

There cannot be a cryptocurrency without internet access. Peer-to-peer networks rely on the capability of not only sharing blocks and consensus across distributed individuals, but also on this capability in a fast and efficient manner. About half of El Salvador’s population has no access to internet services, and nine in every ten Central African Republic citizens have no access as well. Without this access individuals cannot access funds, ensure their funds have not been stolen, and verify their assets. As such a cryptocurrency without internet access is, as one would imagine, significantly more restrictive than use of a physical currency (even for the unbanked).

Provision of Computational Resources

Once an individual has access to the internet it is generally possible (barring any additional requirements of the blockchain network itself) to use a cryptocurrency with any device that has such access. However, despite it being possible this is not necessarily the ideal implementation of a cryptocurrency, especially population-wide. It is clear that the security and decentralisation of a cryptocurrency is reliant on a majority of the users having the capability to run a node on the cryptocurrency’s blockchain network. Without running nodes there is no possibility for these individuals to contribute to the consensus of the cryptocurrency (hence no possibility to decentralise control of the currency as it the intention of cryptocurrency), and no possibility for them to ensure they can access their funds or make purchases without relying on those that can run nodes. The less individuals that run nodes, the more susceptible the cryptocurrency is to centralisation. While centralisation of a cryptocurrency is quite similar to the current centralisation of most national currencies, there is generally heavy oversight and other forms of accountability to ensure that a national currency stays aligned with national interests. In the case of El Salvador and the Central African Republic, whom both rely on foreign currencies already, the risk of a centralised cryptocurrency does not make too much of a difference here in terms of national interest alignment. It does make a difference in the case of making it more difficult to regulate a cryptocurrency however without the necessary computational resources.

Trust in Currency

If an individual trusts in the regulatory ability of their government, and is in consensus with a majority of the population and said government about the need for a currency transition, they will likely trust in the currency. Beyond this there is little that can be done to shift trust in a currency one way or the other, as humans typically don’t consider meaningful metrics in what they value in coming to ‘trust’ a currency.

Stability of Currency

Stability of a currency, as has been stipulated on numerous occasions throughout this article, is heavily intertwined with the ‘store of value’ function of money and by extension the adoption of a currency. Bitcoin and Ether, among many other cryptocurrencies, have little in the way of stability which would be for a variety of reasons including how little of these currencies exist in the world given the world’s population (and therefore how little needs to be done to cause a rapid shift in the cryptocurrency market).

Maximalism

Out of all the (measurable) monetary assets across the world only about 2% of it is stored in the form of a cryptocurrency (not inclusive of stablecoins as they are entirely dependent on other assets such as fiat currencies), of which about half is Bitcoin and a quarter is Ether. If compared simply to the liquid assets available within the jurisdiction of the USA, cryptocurrencies would only represent about 6% of monetary supply. Given that holding large quantities of a single currency across a diversified economy is the typical manner in which recessions can be avoided, and depressions blunted to only become recessions, and that the USA can hardly be described as immune to recessions, it can be seen on an abstract level why cryptocurrency is especially volatile. To picture it in another manner there is about \$100 stored in cryptocurrency (once again exclusive of stablecoins) per a person across the globe. Only about \$50 of Bitcoin or \$25 of Ether exists per person across the globe. This is not a significant enough quantity to support a stable and global market.

Visualisation of the distribution of cryptocurrency as a portion of the world supply of currency.

To counteract these current shortcomings may require a degree of maximalism among the larger cryptocurrencies, being Bitcoin and Ether. If concentrated efforts for instance were made to bring Bitcoin or Ether up to 5% of the global currency this would represent about \$250 worth of these currencies per person across the globe. Such a quantity would put said cryptocurrency among the top ten largest, and hence most stable, currencies in the world which would likely be a prerequisite to being able to achieve the three functions of money. An argument could be made for maximalism among these currencies, to encourage the proliferation of a significant market cap that could stabilise and incentivise activity in the cryptoeconomic system. From a philosophical point of view though, cryptocurrencies have been rooted in ideals of reduced maximalism and more decentralisation through a wider-range of currencies for the most part. It could be difficult to counteract these characteristics.

Some who do believe in maximalism do value it for its capacity to potentially become a ‘digital gold standard’. Stability of the currency would continue to increase, and at the same time fiscal independence and decentralisation to set a jurisdiction’s own policies would be decreased. Therefore maximalism may be able to find a start in this vision, where populations and governments may find alignment on such needs as there once was for a ‘physical gold standard’.

Fiscal Independence & Decentralisation

Significant mention throughout this article has been made of ‘regulation’ conducted by a government with support from a population in alignment. Many proponents of cryptocurrency however point to additional tools unlocked by an application of blockchain technology: DAOs and cryptonomics. There has been great interest, investigation, and innovation with regards to these two concepts especially since the creation of the Ethereum blockchain network. Gradually governments around the world have begun moving to an acceptance of the use of DAOs, and many cryptocurrencies and other blockchain projects have become increasingly reliant on such a structure. However, this article would go as far to suggest that a reliance on these tools, while potentially useful, is not a solution that can entirely replace the need for regulation. Recent events, and even historical events, have often demonstrated that in cases where cryptography is not possible and must instead be supplanted by cryptonomics (especially in the case of DAOs) there are usually unaccounted for exploits available to users with significant resources and/or interest.

Unfortunately, as robust as game theory can get in determining how to construct a robust system of governance, unlike cryptography it cannot mathematically be proven to account for all exploits to a reasonable degree. Ranging from the modest such as the rise of MEV in blockchain networks, all the way to the extreme such as the re-entrancy attack and LUNA’s collapse, there are many attacks that cannot even be currently imagined until they occur. While regulation is often founded on the same ideals of using a mix of game theory to cover loopholes and other attacks the difference comes into the degree of fiscal independence granted to allow for a response to unexpected circumstances. This doesn’t serve as a catch-all either as the Global Financial Crisis clearly demonstrated to many early adopters of cryptocurrency, and it does bring up additional problems of corruption, but for the most part fiscal independence and accountability have been a key difference.

Many jurisdictions beyond El Salvador and the Central African Republic looking to adopt cryptocurrencies look to an ideal future of decentralisation and freedom from corruption. However, they do not currently offer the fiscal independence or the stability needed to contend with the majority of economic crises. As such one would imagine that the ideal path to take is not a transition of currencies, but a transformation of currency to cryptocurrency. Digital currencies such as those being proposed by the US, China, and the EU, offer the foundation to transition to greater decentralisation and fiscal independence with less of an impact on stability at a more gradual pace.

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Investigation of Cryptocurrency as Legal Tender

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