The apparent crypto meltdown is a good moment to remind ourselves, yet again, that with unregulated financial innovation can come great risks. Losses, in other words, to individuals and dangers posed to the wider financial system and the “real” economy.
I say “apparent” crypto meltdown, by the way, because the comparatively short careers of the likes of bitcoin (born 2009) have been full of dramatic ups and downs. The latest slump in the value of these new financial “assets” (I use that term loosely) could be followed by another vertiginous rise, or they may slump even further, to nothing. I’m in no position to say, and neither is anyone else.
But losers there are, and it’s difficult not to feel sympathy for people who’ve been caught in one of those dramatic downswings. Such is the speed these markets move at that your holding can suffer a huge loss before you’ve even heard the rumour of a fall. In a 24/7 global market you can be wiped out while you slumber.
It’s happened many times. Yet the popularity of these strangely named sort-of currencies is undiminished. They are indeed breeding as people search for “the next bitcoin” – ethereum, which reminds us they only exist in the modern “ether” of the internet; BNB, not be confused with Airbnb, which carries different risks; XRP, sounds like a computer game; cardano, like a choc bar; solana, like an ice lolly, if you’ll pardon the pun; luna, which needs no further comment; and avalanche, the first crypto currency with built-in irony value.
Apart from the panic caused by world events and the coming of stagflation, it may be that someone has realised that if cryptocurrencies are linked to anything in the real world, it is to the cost of the electricity that powers the computers where the cryptocurrency is produced, or “mined”.
Unlike most assets of this kind, where the cost of production is either low, or stable, or both, cryptocurrencies have this connection to the real world, and one that can create unpredictable feedback effects. If the price of energy goes up, it can create uncertainty and erode confidence, and it can squeeze the demand for such “investments” as cryptocurrencies, while also increasing their costs of production and possibly reducing supply.
Most of all though, it is about mass psychology. I should declare that I neither hold cryptocurrency nor know anyone who does. It has always seemed to me like one of those financial manias that sometimes grip the world – like the South Sea bubble and tulip mania in the 18th century, Wall Street in the 1920s, or indeed the dotcom boom that collapsed in 2000.
When people believe that the value of something can only ever go up, it creates a feeling of what we now call FOMO, which of course spirals the price still higher. The novelty with cryptocurrencies is that the thrills also derive from their extreme volatility, and the tempting prospect of making some money out of trading on their very volatility – gambling on the gamblers, if you will.
With cryptocurrencies, it is hard to know who to “blame” when it all goes wrong, and when what goes up comes down and stays down. The world’s financial regulators, maybe? But it is difficult to see how they can create rules and safeguards for such a decentralised, globalised, lawless phenomenon.
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Cryptocurrencies are quite beyond the control of the authorities. Some, including the Bank of England, have started thinking aloud about the creation of official cryptocurrencies, but that seems to be a contradiction in terms. The point is that they are supposed to be outside the system, self-regulating and self-policing. The irony about cryptocurrencies being used by criminals is that because they are blockchained, every transaction is tracked, but nonetheless, they have little use as currency beyond buying a Tesla (and you wonder what Elon Musk is making of it all). Sometimes they are pegged to the US dollar, but then the peg breaks.
El Salvador adopted bitcoin as legal tender, while cryptocurrencies are used and held by people in Nigeria, Thailand and the Philippines. Some see them as cheap banking and a defence against fraud. They’ve been lauded as open-source money, liberating folk from the paper monies debauched by central banks and profligate governments through inflation.
There is supposed to be a cap on bitcoin, for example, of 21 million units, though how this is measured, enforced or policed is unclear; the idea is that because the supply is finite its value cannot fall below a given level. The snag is that that level cannot be defined. Bitcoin has made fortunes for some, but it is hardly a stable store of value. It seems to be full of contradictions.
If cryptocurrencies collapse and fail, this is because the collective of people who use them and create them have failed to find a way of making them stable and reliable, ie useful, besides being a vehicle for speculation. Then again, usefulness probably isn’t the point of cryptocurrencies. Their point is that they have no point. I hope that helps.