The Purpose of Money

Money has been around for as long as human civilization. The purpose of money is to facilitate three primary functions.

1. Medium of exchange
2. Store of value
3. Unit of account

Cryptocurrencies such as Bitcoin do not currently exhibit any of these qualities. It had initially been a medium of exchange when early adopters used it to trade goods and services. However it has become so volatile and expensive over time that hardly anyone is using Bitcoin to buy things. Nearly everyone who already owns Bitcoin have decided to hold onto theirs because they expect the value to continue to climb. Today Bitcoin is first and foremost considered to be some kind of investment. Nobody is buying a hotdog with Bitcoin these days. Some merchants such as Valve, who used to accept the cryptocurrency, said they will no longer be accepting Bitcoins as payment due to high fees and volatility. Money has to be a store of value, but Bitcoin can not guarantee this. If you put money, such as $100 into a bank account today it will probably be worth about $95 in 2020. Inflation would decrease the value of the U.S. dollar over the long run, but this is usually done at a slow and predictable rate. It’s the kind of value that you can rely on in advance. But Bitcoin and other cryptocurrencies have no such assurance. Bitcoin has a unit of account, but it’s not practical so everyone just converts it into USD anyway. No one denominates value in BTC. If the newest iPhone model was priced at 0.1 BTC, it could mean something different today vs tomorrow. But if the smartphone was priced at $1,000 US then everybody would better understand relate to the cost of the device.

Other common characteristics of money is that it should have intrinsic value, have low overhead/transaction costs, and easy to use. Again, Bitcoin does not do any of these things. It does not possess value in itself since there is no real world application of using it on its own. It’s terribly costly to make transactions with, and complicated for the average consumer to understand how it works.

So if Bitcoin is not money, then can it still be a currency? According to Investopedia, “currency is a generally accepted form of money, including coins and paper notes, which is issued by a governmentand circulated within an economy.” So apparently it isn’t. Since cryptocurrencies are not tied to any country or issued by governments, they do not fit under the definition of a a traditional currency. However, in the context that they can still be used as credits that are valued to buy things, some experts are claiming that Bitcoin is digital gold.

Bitcoin can be used as money, in the way that a finite commodity (a very volatile one) can be used to trade for goods and services. But it has too many shortcomings from a technical point of view to adequately serve as real money. The following quote is from the r/Bitcoin subreddit that summarizes the problems Bitcoin currently has.

“Transaction fees, energy usage due to mining, validation waits, Wallet protection, and exchange with existing monetary infrastructure – all of these things are lacking in fundamental, unfixable ways. The world needs something that has a lot in common with Bitcoin, but it also needs to have a lot of things that are quite different….The shorthand for all of this is to ask yourself: if you could wake up tomorrow to a world that had replaced all existing monetary infrastructure, would you REALLY want to? Millions of truck drivers with unsecured wallets, policeman’s pensions sitting on the blockchain, Starbucks waiting 5 minutes to confirm that your $5 coffee (+ $5 settlement fee) can be handed over? 3 transactions per second for the entire world?”

Bitcoin wont be replacing traditional mediums of exchange that we currently use. At this point it appears to be a speculative asset class more than anything else. Maybe it is the digital version of gold. But we shall see in time if it can hold its value like gold can in the long run.