Has the time come for governments to recognize cryptocurrencies?

The US Securities Exchange Commission (SEC) recently gave its approval to a slew of spot bitcoin exchange traded funds (ETFs), evoking mixed reactions from people. Purists are aghast that a regulator can be so blasé as to let loose such bitcoin ETFs. Crypto enthusiasts are over the moon! So, is there is a problem here?

Governments: They see bitcoin as a direct threat to their ability to control finances and influence monetary policy. Crypto assets were created with the explicit purpose of keeping them outside governmental control. Hence, the unease of any government is obvious. Crypto assets are still at a very nascent stage and cannot be used as a currency due to its volatility and thus its very limited acceptance by businesses as a medium of exchange. Most governments want to confine them to niche use. Thus, there was hardly any patronage from institutional investors. With spot bitcoin ETFs, institutional money will flow into cryptos and cement its position as an alternative asset.

Crypto asset uptake: Retail investors have been enthusiastic about crypto assets primarily due to its potential for high returns. Crypto assets are by design made scarce to avoid the typical problem of debasement, which fiat currencies experience due to unbridled printing of currency.

The younger generation, between 18-35 years of age, constitute the bulk of investors in cryptos. Digital assets and their non-tangible nature do not deter them. They see this as a legitimate asset that can deliver excellent returns. They even feel that the current financial system is rigged and works against their interests which impels them towards cryptos.

Crypto assets will gain more traction when fiat currency debasement happens. With the kind of debt that governments are running (for instance, the US has a debt of $34 trillion on a $24 trillion economy), such debasement is to be expected. The dollar is vulnerable to debasement with de-dollarization, high interest rates that affect businesses and result in increasing loan defaults affecting banks, lead to high public indebtedness and unsustainable government debt. That could drive investments out of dollars into alternative assets, including cryptos.

All crypto assets together now are worth over $1 trillion in less than two decades, which is not a bad trajectory at all! In contrast, the value of all the gold present in the world today would be worth about $14 trillion, after millennia of existence.

Crypto asset issues: Crypto assets are anonymous and monitoring the money trail is a problem. Hence, they have become a preferred payment mechanism among criminal gangs for funding illegal activities, ransom demands, human trafficking, terror funding, etc. This is clearly a problem which the governments are concerned about. Governments are also concerned about the ability of cryptos to blunt the effectiveness of monetary policy.

Crypto assets have no underlying asset and its value is based on demand and supply. The creation and control of crypto assets is largely a mystery!

Crypto asset ownership is a risky proposition. For one, investors have to open an account with a crypto exchange to invest in such assets. Crypto assets that are stored digitally have a peculiar problem—if the investor forgets the password or if the device where it is stored crashes, the asset is wiped out. Also, there is no redressal mechanism when one becomes a victim of fraud, since these are unregulated assets. Hence, an ETF which invests in cryptos solves most of the problems for investors.

Recognition & regulation: There are several million investors in crypto assets in India alone. While the Indian government does not recognize crypto assets, it seeks to tax profits from all digital assets.

I have never been a fan of cryptos due to its shadowy nature, with no underlying assets and in view of the issues already mentioned. However, we need to realize that cryptos are a tsunami, whose tidal waves are already here. Crypto ETFs are the latest reminder that these assets are here to stay.

Suresh Sadagopan is the MD & principal officer at Ladder7 Wealth Planners, and author of If God was your Financial Planner.

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Published: 25 Jan 2024, 10:47 PM IST

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