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Why the world must pay heed to the ‘crypto wave’?

Author: S Vijaykrishnan/Friday, October 13, 2017/Categories: Cover Feature, Save, Invest, Profit, Grow

Why the world must pay heed to the ‘crypto wave’?

Over the years, cryptocurrencies have evolved into a massive ecosystem of their own. Most prominent among these cryptocurrencies is Bitcoin that is a beast of its own and commands a loyal investor base.

Says Rajesh Dhuddu, Senior Vice President (Market Development), Quatrro Global Services Pvt Ltd, “With a valuation of $70 billion, Bitcoins cannot be ignored as a temporary blip. Having said that, cryptocurrencies unlike gold, land and securities will take some time for investors to realise that Bitcoins are a mainstream asset class.

Over the past eight months, Bitcoin’s value has surged by over five times. On September 15 (at the time of writing, it had already fallen to $3500 after having crossed $5000 merely 13 days earlier). Still, it is a huge rise from $1,000 at the start of 2017. By the time this article is being read, it may well have charted a new high or fallen again. On a year-on-year basis the contrast is starker, considering that one Bitcoin was valued at $600 a year ago in July-August 2016.

Yes, sceptics may be quick to say that the above trends are just a sudden spurt and may not be entirely comparable with conventional currency systems. True, given that Cryptocurrency trading began on a serious note only in 2013, conventional currency systems have a longer history.

However, if we compare the growth between paper currencies, the trends observed in the latter are startling. While total daily trading volumes in paper currencies have grown from a little above $1 trillion in 1998 to about $5 trillion currently (5x growth in 19 years), trading volumes in cryptocurrencies have grown from $1 billion in April 2017 to $5.8 billion (6x growth in just 4 months).

Should you invest?

Are cryptocurrencies then suitable for common investors? Yes, say experts, but one must invest only that amount of money as one can afford to lose. Rajesh Dhuddu says, “It’s an asset class that is much volatile class compared to equity and debt. Thus, while you can make a windfall gain in cryptocurrencies, investors must also be ready to face the risk of losing their entire capital in case of a sudden volatility.”

This does not mean that the doors are shut totally. Despite the high valuations (one Bitcoin costs almost Rs 2 lakh at the time of writing), investors can opt for a Systematic Investment Plan (SIP) with Bitcoin exchanges such as Unocoin and Zebpay for an amount as low as Rs 1,000, adds Dhuddu. “Middle-income investors with a good disposable can definitely set aside 10-15% of their total portfolio in Bitcoins.”

Are regulators taking note?

So far, central banks sitting on the fence. For example, in India, the Reserve Bank of India (RBI), has so far refused to extend any legitimacy to cryptocurrencies, stating that they are difficult to monitor and that virtual currencies may disrupt ‘business as usual’. But that is the point...how far are we going to turn a blind eye to that eventual disruption...when it is bound to come knocking one day?

Let us try to understand the world’s tepid response to cryptocurrencies in numbers:

  • On average, daily currency trading volumes the world over amounts to about $5 trillion. Similarly, the world’s total broad money supply amounts to $80 trillion
  • In comparison, the total daily trading volume of all cryptocurrencies stands at $5.8 billion, while the total market capitalisation stands at $172 billion (as of September 1, 2017)

‘Altcoins’ adjust demand-supply

Another issue is that of technology and this may prove a tough nut to crack. While conventional paper currency is not tech-intensive in any manner (which enables central banks to control them in any manner possible, technology is the very base for cryptocurrencies and the means by which they defy any control in terms of price, quantity and  credibility.  The technology behind cryptocurrencies is also perceived as unhackable, given that the entire system is decentralised and all nodes or computers in a crypto-transaction have a copy of the transaction done.

Technology is also responsible for an explosion in the cryptocurrency market. While there are only about 180 conventional currencies, almost 866 cryptocurrencies have evolved in less than a decade. In addition to Bitcoins, some other versions (or alternate coins – altcoins) are Ethereum, Ripple, Litecoin, Ethereum Classic, Monero, Dash and Dogecoin.

While mulling over this huge expansion, one also has to understand that each new altcoin will come with improved features and greater challenges for the world’s financial markets, besides resolving demand and supply problems.

Each altcoin, says Dhuddu, is not merely a copy of another, but exists to serve a specific purpose or solve an issue. “For instance, Ethereum came after Bitcoins to enable smart contracts and plug the loopholes in Bitcoin from a validation perspective. Other altcoins followed soon, and each had its own specific usage…each altcoin was an ecosystem on its own and not merely a copy of Bitcoins. Each altcoin in fact serves as a special purpose vehicle (SPV) with a specific mandate.”

Finite/ Infinite?

The most significant issue in adapting to cryptocurrencies is that of control. While the creation and circulation of paper currency is controlled by the respective central banks, there is no such mechanism in case of cryptocurrencies. This unnerves banking authorities even as virtual currencies become too big a phenomenon to ignore. The very fact that virtual currencies operate on a decentralised mechanism, throws up challenges for central banks which fear that Bitcoins and their ilk will effectively circumvent the current monetary system, throwing markets as we know it into a tizzy.

However, one solution may be to embrace the disruption rather than defy it, before it becomes enormous (remember the old saying: if you cannot beat them, join them). While central banks may have concerns regarding the supply and creation of cryptocurrencies, ways can be devised.

The supply of Bitcoins (and other altcoins) is likely to become finite like their paper cousins. Every Bitcoin is minted from a ‘Block’ that is created as per the algorithm used by the creators. However, the number of Bitcoins per block is subject to a phenomenon known as ‘halving’, meaning the number of bitcoins will halve every four years. As per this mechanism, the production of new Bitcoins will end in 2040 at a total circulation of 21 million.

Complement, not cannibalise

For those fearing that cryptocurrencies may stage a hostile takeover of their paper cousins, in the next couple of decades, rest assured. Cash will always have a place in the global monetary system as will cryptocurrencies. Experts believe that both conventional money and cryptocurrencies will complement rather than cannibalise one other.

 

Dhuddu cites the example of small-value transactions to explain the potential of cryptocurrencies. “Cryptocurrencies will have the potential to reduce transaction costs, especially electronic transactions, in cases where the cost of authorising a small-value transaction exceeds the transaction value itself. Thus, instead of cannibalising cash, cryptocurrencies will co-exist and complement conventional money.”      

Nevertheless, the sooner the central banks of the world get ready to harness the enormous potential of cryptocurrencies, they may be able to avoid a sudden tsunami later.

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S Vijaykrishnan
S Vijaykrishnan

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