In the space of a year Bitcoin has fallen from a high of $19,700 per coin to less than $3,800 as of this writing, a collapse of 80% of value. Bitcoin is just one of many so-called “crypto-currencies,” a strange moniker given these new-fangled investments aren’t currencies at all due to them lacking three key attributes common to all true currencies. Bitcoin, for example, is not a medium of exchange (its too costly to transact) or a store of value (the price is too unstable) or a unit of account (the McDonald’s Dollar Menu has yet to be supplanted by the Bitcoin menu - I'm not holding my breath). If not a currency, then what is Bitcoin? That question is an interesting one and a topic for a future article. Today we consider one key difference between a real currency, the US Dollar (USD), and Bitcoin. This reason is a necessary condition for why the USD is the world’s reserve currency while the latter is, at best, a sideshow and, at worst, a black hole.
Many Bitcoin bulls have something of a disdain for conventional currencies such as the USD (CAD, EUR, Yen, etc.,.). They point to the fact that the USD is backed by nothing tangible and, because there is no limit to how many the Federal Reserve and Treasury can produce, they believe that the dollar's intrinsic value is zero. They argue the only thing driving the value of USDs today is the fact that the world continues to suffer the delusional belief that they are in fact things of value. They assume if this spell were broken the USD would instantly become worthless. Sure, there were times in history when a USD did represent something of tangible value such as during the period prior to 1971 when the US government guaranteed to exchange your dollars for a fixed amount of gold bullion. However, in 1971, Nixon nixed the "gold standard", as it was called, and instead tied the value of the greenback to…absolutely nothing. This is the world and reality in which we live today. Should we be fearful and cash in all our USDs for Bitcoin or some other crypto?
At first blush one might be tempted to agree with the worthless dollar assumption - it seems sensible enough, right? Just imagine how strange and frightening the world would be if we all came to the simultaneous realization that our money was, in fact, worthless. Perception would become reality and the value of our money would crash to zero…or so it would seem.
Fortunately, none of that is true and dollars do in fact have value, especially to residents of the United States, that is immune to what we, the users and savers of USDs, may collectively think or believe. The reason is simple: Government imposed taxes. Try paying your tax liabilities with something other than dollars and you’ll see what I mean. For instance try using Bitcoin and you’ll quickly discover that the IRS, state and municipal taxing authorities only accept USDs as credits against your tax liability.
So pay our taxes we do - in dollars - because the vast majority of us prefer freedom over spending time in prison. With respect to the USD the government does, in fact, make a promise and it’s actually the same promise that it made during the gold standard era (but not the promise that involved standardized amounts of shiny yellow metal). While your USDs no longer entitle you to a fixed amount of gold per buck they do entitled you to dollar-for-dollar relief of your tax bill. So, even if we did all wake up one morning with the collective belief that our dollars were worthless, we’d still owe Uncles Sam his due (death and taxes, right?) and, therefore, we would all be immediately incentivized to earn and keep dollars on hand. It’s pay up or be locked up. Just ask celebrities Pete Rose, Wesley Snipes and Lauryn Hill.
Unlike a USD, no one needs a Bitcoin. With no one, no institution, no US government agency promising to redeem Bitcoin for anything of value (not even tax relief) there is effectively no Bitcoin buyer of last resort. This makes Bitcoin of dubious value (kind of like Beanie Babies were/are). In a follow-up post I will compare and contrast Bitcoin to gold (the shiny yellow metal) and discuss the surprising reason the Treasury wants you to pay your taxes (hint: the government doesn’t need your money but does need you to continue paying your taxes).
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