Photo Credit: Shutterstock

By Ian Jackson – Inside Bitcoins correspondent based in the U.K.

With the UK’s finance Minister George Osborne’s outline of his plans for the future of Bitcoin not slated for release until December, the Bank of England — which operates semi independently of the government — has weighed in on the debate, admitting the potential of Bitcoin technology as “a significant innovation.” And it would seem, the bank does not feel threatened by the currency in the slightest.

In two pre-releases  to its Quarterly Bulletin, the bank indicated that it saw no risk to the financial system posed by the current circulation of bitcoins due to them being of “limited circulation,” inherently volatile and liable to higher transaction fees in the future.

The risk: if the economy were to become “Bitcoinised”

“Although the monetary aspects of digital currencies have attracted considerable attention, the distributed ledger underlying their payment systems is a significant innovation,” the report says. Though the bank also concluded that the blockchain technology underpinning bitcoin did represent a threat to the UK’s future finances — but only if certain “unlikely” scenarios came to pass.

In one analysis , the bank researchers questioned the sustainability of the currency’s low transaction fees and warned, “The greatest hypothetical risk to monetary stability that might be posed by digital currencies is if the economy were to become, for example, ‘Bitcoinised’ — where everybody sought to conduct the totality of their day-to-day transactions entirely within the alternative currency and switch into sterling only when strictly necessary for interaction with the state (such as to pay taxes). This would represent a significant change. Since in this extreme scenario all payments would be conducted away from sterling as base money for essentially all of the economy, the Bank’s ability to influence price-setting and real activity would be severely impaired.”

However, despite some truly alarming headlines  in much of the press, both mainstream and otherwise, the Bank of England was emphatic on one point. The scenario outlined above is to use their words “extremely unlikely given the current impediments to the widespread adoption of current digital currency schemes imposed by their designs and is, in any event, implausible absent a severe collapse in confidence in the fiat currency. It is much more likely that, if further adopted, digital currencies will be used in a limited fashion alongside traditional currencies.”

Working in tandem with fiat currencies

Behind the headlines then, a different picture of the currency emerges, one that perceives a future role for bitcoin working in tandem with,  not undermining the existing banking system.  The bank confirms as much in their closing remarks:

Digital currencies do not currently pose a material risk to monetary or financial stability in the United Kingdom. Should they achieve limited adoption as a payment system, they are unlikely to undermine the Bank’s ability to achieve monetary stability. While that could, in theory, change if sterling were abandoned in favour of an alternative currency for a significant fraction of the economy, such a scenario is considered extremely unlikely at present. A variety of potential risks to financial stability could emerge if a digital currency attained systemic status as a payment system, most of which could be addressed through regulatory supervision of relevant parties.”

The risk of the abandonment of Sterling for a ‘significant fraction of the economy’ is plausible in only two scenarios: the UK adopts the Euro — or with the referendum on Scottish independence just days away, an independent Scotland might be denied access to Sterling. And with Canadian born Bank of England governor Mark Carnie warning today  that currency union would be ‘incompatible with sovereignty’it seems clear that the latter analysis is probably the correct one.