June 11, 2021

Five Future Paths for Bitcoin and Digital Currencies

Peter Kennedy
Managing Principal

So how are we to think about bitcoin and more broadly the future of digital currencies?  As with all intersections of money and technology, the subject is complicated and rapidly evolving, with a mushrooming cast of actors and stakeholders, and myriad competing interests.

Bitcoin has become shorthand for the entire cryptocurrency class, which now number almost 800 digital “coins.” It wasn’t that long ago that bitcoin passion was limited to tech anarchists and shadowy traders of drugs, arms and other illicit goods and services on the dark web. 

But in a dozen incredibly short years, bitcoin has become a $1 trillion asset class.  It achieved that milestone in half the time that it took Amazon to get there.  Fewer observers now dismiss bitcoin and cryptocurrencies as mere speculative fads. Some fund managers insist that cryptocurrencies belong in any balanced portfolio. 

Not all agree, though. Vanguard and mainstream investment advisors are holding to a much more cautious line. They don’t see much beyond the speculative dimension, not yet, anyway. Vanguard’s chief economist warns of cryptocurrency volatility which he says, “undermines their potential use as either a currency or asset class in an investment strategy."  This volatility worries federal officials, too, especially if banks are eventually allowed to hold digital assets on their balance sheets

Looking beyond Bitcoin and the cryptos – govcoins 

There’s another digital money story waiting to be told. That’s the emergence of central bank digital currencies (CBDCs), known in some circles as “govcoins.” The Economist magazine calls them “digital currencies that matter” in that they are reliable stores of value and are guaranteed by the full faith of the state. In theory then, they would be safer than conventional bank deposits and a whole lot more so than cryptocurrencies. In the US, at least, govcoins would be free, safe, and instantaneous modes of payment. 

But whether we’re talking about cryptocurrencies like bitcoin or CBDCs, these are frontier days for digital money still, and it’s useful – and important – to think expansively how this world could play out over the next decade and beyond.  Briefly, here are five – very preliminary – future sketches to consider. They are not all mutually exclusive. Some of these developments will run in parallel. 

1. Cryptocurrencies go mainstream, and become broadly recognized stores of value. This seems to be the way the world is headed right now. Maybe Tesla will actually accept payment in bitcoin or ethereum, at the moment bitcoin’s biggest competitor. And maybe providers of other luxury products and services will do the same. Morgan Stanley already offers its high-end customers exposure to bitcoin funds as derivatives. It’s not too great a stretch to imagine Vanguard or Fidelity someday creating crypto funds for their more adventurous, risk-tolerant investors. None of this is necessarily disruptive or evidence of the dollar’s fall from grace, provided there is effective regulation and oversight. 

2. Cryptocurrencies take off, big time. This would definitely signal widespread loss of confidence – in the US, the economy, the dollar – something. In the present day, many serious crypto investors believe the world is headed for hyperinflation and see bitcoin and the like as previous generations hoarded gold. If this turned into a tidal wave of crypto demand…well, let’s not go there just yet. 

3Regulators strangle the market. In so many ways cryptocurrencies operate in the shadows, certainly beyond the traditional reach of regulators overseeing, for example, stock, options,  and futures markets. But this crypto independence is not absolute. US Treasury rules require crypto transfers of $10,000 or more to be reported to the IRS. There are a number of US government working groups examining the massively complex risk, reporting and taxation issues related to crypto.  Globally, China, South Korea and India have all taken measures to ensure greater transparency and stability in local crypto trading. China is an interesting case. Control is everything, and the last thing China wants is for its powerful fintech firms to compete for savings and capital – or become a source of system instability. 

4. Some other exogenous event tanks cryptos.  A cyber attack? System failure? Corruption scandal? The underlying blockchain technology may mitigate these risks to some extent, but who really knows until something bad happens? 

5. US embraces govcoins. FSG scenario planners don’t predict or assign probabilities to future events. But it seems almost certain that all major economies will offer some form of official digital currency in the next decade. More than 50 of the world’s largest nations, including the US, are reportedly investigating govcoin options. China’s e-yuan effort is being beta tested now. There’s much for policymakers to consider – how to preserve a role for commercial banking, protecting against political manipulation and favoritism, and ensuring depositor privacy. And do all the benefits – efficiency, cost savings, equity, etc. –  outweigh the risk of creating, potentially, a single point of monetary failure? 

On all these fronts, stay alert.  And watch your digital exposures. 



Comments  | 

Lance Benton
Good article. I would agree that some sort of Govcoin is likely down the road....makes more sense than my portfolio of paper savings bonds amassed over 20 years and both are backed by the same thing.....faith in the United States as a going concern. Beyond that it sure looks dicey. Gold at least is backed by an actual "thing" which happens to have some value. I guess in the wild market days when everyone was going to get rich off ostrich farming, there at least existed a flock of ostriches. What truly backs digital coins besides a fairly substantial expense for the electricity to mine it?
Thanks, Lance! To your last question, it's all about confidence, right? Confidence that there's something behind the coin, confidence in a liquid market, confidence in the coin's future. Same rules that apply to the US dollar's dominant status. If govcoins become accepted "things" and deliver on their promises one has to wonder what problems bitcoin, ethereum and the like are trying to solve?
Chris O'Keeffe
What do you make of El Salvador's embrace of bitcoin? https://www.reuters.com/world/americas/el-salvador-approves-first-law-bitcoin-legal-tender-2021-06-09/
Thanks, Chris. There are many questions surrounding President Bukele's surprising decision. Honestly, it's hard to see substantive value in the bitcoin play, unless it allows cheaper, easier ways for Salvadorans living abroad to send remittances back home.
Robert James Avila
What long run impact will the FBI recovery of $2.3 million in Colonial Pipeline ransom have on bitcoin viability? So, war there has been a 40% drop in the value stored there-in. It is an interesting asset that loses values when criminals are foiled. Any estimate on how much more value a second or third crime stopper event might have on the value? Is this loss due to second thoughts on the part of prudent investors? Or second thoughts on the part of prudent criminals? And is this loss in value in any way related to the loss in confidence in cell phone security software apparently marketed by that same FBI organization? Too many financial bubbles have collapsed when it became too obvious that too much of the big money being made was due to the fact that too many transactions were just too fraudulent in nature: investor beware.
Great points, Robert. Of course, the crypto industry maintains that only a tiny percentage of cryptocurrency transactions are illicit. (See https://www.forbes.com/sites/haileylennon/2021/01/19/the-false-narrative-of-bitcoins-role-in-illicit-activity/?sh=28bd400e3432.) If so, law enforcement reach into into crypto shadows might not matter much. But I'm not sure what's included in that "illicit" category. Does it include, say, run-of-the-mill tax avoidance? If it doesn't we might learn that a much larger share of crypto deals are shady, if not outright illegal, and that future FBI actions could have a seriously chilling effect on the whole crypto enterprise.
Postscript to #3 above. Cryptocurrency markets are shaking in the wake of regulatory action -- in China. The Central Bank of China issued a statement that ratchets up pressure on financial institutions to crack down harder on cryptocurrency trading. Bitcoin tumbled 11% on Monday 21 June. It's now down 56% from its April high, according to Reuters. This in itself is hardly a fatal blow against crypto, but it's a reminder of both government wariness and the ongoing volatility of this now large but still niche market.