Kenneth Rogoff, professor of economics and public policy at Harvard University and recipient of the 2011 Deutsche Bank Prize in financial economics has predicted that central banks may be forced to create their own digital currencies in order for them to regulate the payment system and tilt the playing field in view of the growing stature of the cryptocurrency, bitcoin.
“It is hard to see what would stop central banks from creating their own digital currencies and using regulation to tilt the playing field until they win. The long history of currency tells us that what the private sector innovates, the state eventually regulates and appropriates. There is no reason to expect the virtual currency to avoid a similar fate,” Rogoff said in an article published in the worldeconomicforum.org.
While acknowledging that the cryptocurrency Bitcoin is the biggest bubble in the world today, or a great investment bet on the cutting edge of new-age financial technology, he said his best guess is that in the long run, the technology will thrive, but that the price of Bitcoin will collapse.
Rogoff noted that what would happen to Bitcoin and other cryptocurrencies would depend on a lot on how governments react.
“Will they tolerate anonymous payment systems that facilitate tax evasion and crime? Will they create digital currencies of their own? Another key question is how successfully Bitcoin’s numerous “alt-coin” competitors can penetrate the market,” he asked.
He noted that it is folly to think that Bitcoin will ever be allowed to supplant central-bank-issued money. It is one thing for governments to allow small anonymous transactions with virtual currencies; indeed, this would be desirable.
“But it is an entirely different matter for governments to allow large-scale anonymous payments, which would make it extremely difficult to collect taxes or counter criminal activity. Of course, as I note in my recent book on past, present, and future currencies, governments that issue large-denomination bills also risk aiding tax evasion and crime. But cash at least has bulk, unlike virtual currency,” he highlighted.
He said in principle, it is supremely easy to clone or improve on Bitcoin’s technology but what is not so easy is to duplicate Bitcoin’s established lead-in credibility and the large ecosystem of applications that have built up around it.
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“If you haven’t been following the Bitcoin story, its price is up 700% over the past 12 months, and 1,800% in the past 24 months. At over $5,000 (as of October 12), a single unit of the virtual currency is now worth more than three times an ounce of gold. Some Bitcoin evangelists see it going far higher in the next few years,” he noted.
He said most experts agree that the ingenious technology behind virtual currencies may have broad applications for cyber security, which currently poses one of the biggest challenges to the stability of the global financial system, adding that for many developers, the goal of achieving a cheaper, more secure payments mechanism has supplanted Bitcoin’s ambition of replacing dollars.
“For now, the regulatory environment remains a free-for-all. China’s government, concerned about the use of Bitcoin in capital flight and tax evasion, has recently banned Bitcoin exchanges. Japan, on the other hand, has enshrined Bitcoin as legal tender, in an apparent bid to become the global center of fintech,” he noted.
Rogoff said the United States is taking tentative steps to follow Japan in regulating fintech, though the endgame is far from clear, adding that Bitcoin does not need to win every battle to justify a sky-high price.
“Japan, the world’s third largest economy, has an extraordinarily high currency-to-income ratio (roughly 20%), so Bitcoin’s success there is a major triumph.”
He indicated that in Silicon Valley, drooling executives are both investing in Bitcoin and pouring money into competitors, saying that after Bitcoin, the most important is Ethereum.
As of mid October, Ethereum’s market capitalization stood at $29 billion, versus $86 billon for Bitcoin. Ripple, a platform championed by the banking sector to slash transaction costs for interbank and overseas transfers, is a distant third at $10 billion. Behind the top three are dozens of fledgling competitors.
He said the move by the Japanese government to force Bitcoin exchanges to be on the lookout for criminal activity and to collect information on deposit holders would strip Bitcoin of its near anonymity, which would be hard to justify its current price.
“Were Bitcoin stripped of its near-anonymity, it would be hard to justify its current price. Perhaps Bitcoin speculators are betting that there will always be a consortium of rogue states allowing anonymous Bitcoin usage, or even state actors such as North Korea that will exploit it,” he noted.
He added: “Would the price of Bitcoin drop to zero if governments could perfectly observe transactions? Perhaps not. Even though Bitcoin transactions require an exorbitant amount of electricity, with some improvements, Bitcoin might still beat the 2% fees the big banks charge on credit and debit cards.”
