BITCOIN: 10 years of digital currencies, between innovation and the need for transparency

From a payment instrument, bitcoin has turned into an investment asset.

There are still few guarantees for investors, however.

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6:08 pm

18 May 2022

With a price history of just over 10 years, bitcoin is so far the best performing asset of the 21st century. Suffice it to say that an investment of $10,000 in bitcoin five years ago would have generated a compound annual rate of return of 119% and would be worth an impressive $500,000 today. A staggering result given a return that has remained positive every year for the past 7 years.

However, many investors remain reluctant to be exposed to bitcoin because of its volatility. Indeed, it was only a few days ago that bitcoin’s latest precipitous collapse, with repercussions for other cryptocurrencies as well. Although, for other investors, bitcoin’s volatility is a confirmation of its uniqueness.

Today, there are more than 18,000 cryptocurrencies and the sector is still very poorly regulated, making regulatory intervention more necessary than ever to protect investors and regulate possible abuses in a complex geopolitical scenario.

A valuable store of wealth?

Unlike fiat currencies such as the euro and the dollar, the bitcoin network does not prioritise exchange rate stability, but relies on a quantitative rule that limits supply growth but at the same time allows the free flow of capital. As a result, the price of bitcoin is a function of demand versus supply, which increases by 1.8% per year. From the point of view of the balance of supply and demand, the latter is known while much more uncertainty lies in the value of demand.

Besides being able to maintain its purchasing power over time, a good ‘store of wealth’ must also be easily exchangeable and accessible (both now and in the future). Compared to other traditional assets such as gold, art and real estate, bitcoin is much more easily exchangeable. However, with just over a decade of existence, there is insufficient evidence to credibly conclude that bitcoin, like gold, reliably offers portfolio diversification.

If the fundamental purpose of a store of wealth is to preserve one’s purchasing power over time, Bitcoin is more like an option, as it remains a highly volatile and speculative asset. Moreover, compared to classic stores of wealth, Bitcoin is not yet widely used as a savings instrument or store of value by various states. A case in point is El Salvador, which made Bitcoins legal tender last September.

An increasingly popular asset

However, Bitcoin is now considered a valuable store of value by investors. It is the most widely distributed asset in history outside of the dollar and the euro: in fact, over 140 million people own bitcoins. Its success has also been fostered by the support of popular personalities – Elon Musk and Jack Dorsey, among many others – who have endorsed bitcoin as a store of value.

Although there is still a large audience of sceptics, it is undeniable that in recent years the world’s largest banks, such as Goldman Sachs and JP Morgan, have been building products for their clients containing cryptocurrencies. To date, there are 14 financial players in the US that are able to offer Bitcoin ETFs according to current SEC regulations. The private sector has also shown a similar trend, with a good number of companies including bitcoin in their portfolios (Tesla, Square, MicroStrategy and many others).

The evolution of stablecoins

So-called ‘stablecoins‘ act as a bridge between the world of cryptocurrencies and the world of flat currencies. Stabecoin prices are defined as stable because they are pegged to a reserve asset such as the dollar or gold. The resulting reduced volatility, compared to cryptocurrencies like Bitcoin, makes them a more suitable form of digital currency for exchange and payments.

The stablecoin market is 80% dominated by Tether, USDC, and Binance USD. In the top 5, however, is Terra, which has undergone a major de-peg in recent days (reaching a value of $0.65 compared to a theoretical value of $1). This de-peg has opened a debate on the system’s ability to withstand phases of stress and lower liquidity in the financial markets.

Lugano will also launch its own stablecoin under the name Luga, resulting from a collaboration with another stablecoin, Tether. Lugano, with the help of Tether itself, has also launched a CHF 100 million fund for the development of local start-ups and fintechs based on blockchain technology. More than 500 scholarships were also announced for students wishing to specialise in blockchain: a further sign that digital finance will play an increasing role in the near future.

Keywords: innovation, transparency, security

As with other historical phases of disruptive technological innovation, the blockchain and digital currencies market has undergone a period of rapid ‘democratisation’ in recent years, at least partly linked to a lack of regulation. The growth has been characterised by alternating phases of rapid value creation and moments of collapse and, more generally, by high volatility. To date, the cryptocurrency market is still relatively small with a value of around $1.5 trillion, but it certainly has potential for growth.

The technology on which cryptocurrencies are based incorporates characteristics of decentralisation (absence of central authorities), open-source (absence of barriers to entry), and permissionless (possibility for users to contribute to technological development). It has the potential to transform any traditional asset class. Just as in the 1990s the web made ‘online’ communication more usable and immediate, today blockchain technology has the ability to make transactions in traditional assets ‘on-chain’.  Traditional assets can thus be traded in the form of crypto-equities, crypto-arts, crypto-commodities, and even the corporate governance system can be managed through blockchain.

However, in order to ensure that the number of stakeholders continues to increase and thus that the benefits of technological innovation can be shared by the community, the construction of a regulatory framework is crucial. Transparency in operations, i.e. the possibility of linking a transaction with the counterparties involved, and a regulation of intermediary activity are two of the aspects that most need intervention by regulatory bodies.

Such regulation could allow for the continued maturation of the technology combined, however, with greater financial stability. The security of the entire financial system is absolutely helpful in circumscribing the purely speculative aspect of digital currencies. Finally, we share a positive and proactive approach to spreading the benefits of the technological evolution linked to the development of blockchain and digital currencies.

Disclaimer The information contained herein should not be construed as investment advice or a solicitation to sell, buy, otherwise subscribe for securities, or engage in investment activities of any kind, nor should it form, even in part, the basis of any contract to do so. The information contained in this document reflects opinions as of the date of its preparation and is subject to change without notice.

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