Bitcoin and Financial Crises

Bitcoin as a Safe Haven in an Economic Storm

Bitcoin
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Bitcoin might be a plaything for many—a fun way to experiment with digital cash or perhaps to buy things online that you’d rather people didn’t know about. But others are seriously viewing it as a haven during a financial storm.

Countries that are in the midst of an economic crisis often tighten their financial thumbscrews. They impose capital controls on their populations that prevent them from doing basic things like taking cash out of the bank in times of financial turmoil. Some people are turning to bitcoin as an alternative form of currency, despite the warnings from regulatory agencies.

An Example From History

Greece joined the European Union in 1981 and adopted the euro in 2001; however, it has remained one of the societies in Europe. When the global financial crisis plunged countries into recession in 2008, Greece suffered heavily. It racked up huge debts and spent the next several years being bailed out by the European Central Bank, along with other countries similarly affected.

Greece’s government became increasingly irritable about the austere conditions imposed upon it by its creditors, deteriorating negotiations. In June 2015, negotiations on the latest round of bailouts finally collapsed.

The country entered a referendum to determine whether it would stay in the euro or simply exit altogether. In the meantime, the government tried to avoid a run on the banks by simply closing them for a week. Panicky consumers were unable to withdraw their money, leaving them worried about losing everything.

Leaving a Sinking Ship

A currency's value is based upon faith and belief. When people lose faith in a currency, the typical reaction is to start using another one they believe is more valuable. Traditionally, value is more or less flung to the most stable currency—in recent history, this is the U.S. dollar. Bitcoin is viewed by some as the next currency of value, due to a few advantages over old-fashioned cash.

First, it isn't controlled by a central authority. In countries where people are increasingly distrustful of how central banks and governments manage the economy, bitcoin might seem to be a more sensible alternative.

The second advantage is that bitcoin can be easier to obtain than other fiat currencies. It can be bought and sold via bitcoin exchanges online, and through indirect transactions via sites like LocalBitcoins.com.

Studies suggest that people are increasingly looking to bitcoin as a viable alternative to their own beleaguered currencies during times of crisis. As the Greek crisis unfolded, bitcoin exchanges reported a healthy bump in volume as people traded the cryptocurrency around the world. The lion's share of the increase came from customers in Greece.

The price of bitcoin also rose significantly as the Greece crisis deepened, lending further credence to the idea of bitcoin as a "panic" currency.

More History of Panic Buying

Price spikes in bitcoin have correlated with financial crises all over the globe. When Cyprus was in the thick of its banking crisis in April 2013, prices of the cryptocurrency reached record highs. Bitcoin prices surged to even higher in 2017.

Other places imposing capital controls have also seen populations flee to bitcoin. Argentina is a case in point. The country’s government stopped its population from buying U.S. dollars after suffering its own financial crisis. Reports suggest that Argentina has become a hotspot for bitcoin activity as banks there stagnate. Prices there are higher than in other countries.

Argentina even became a leader in the Bitcoin Market Potential Index (BMPI), a report produced by experts at the London School of Economics that showed the economies in which bitcoin might gain the most traction.

The Drawbacks

People might like the idea of fleeing a sinking currency in favor of a digital one with no central control, but there are potential drawbacks. The price of bitcoin has historically been extremely volatile; although regulatory concerns in 2018 have tempered this somewhat.

One of the main deficiencies with bitcoin and virtual currencies is that they are not backed, regulated or guaranteed by a government or system. This means that it will be very difficult to recover funds lost in the event of theft or other losses. Bitcoin is only secured by blockchain, which records ownership and prevents tampering by individuals.

Without regulation, it becomes difficult for governments to tax, reducing the ability to raise revenue or function to enforce critical regulations. Essentially, governments will have to find alternative means to fund themselves if a move to bitcoin (as it is today) is supported.

The largest concern of all in a failing economy, however, is when people are afraid of losing everything. While bitcoin is a tempting place to store assets until an economy recovers, it is a much more volatile storage method than banks, significantly increasing the risk of loss for those that choose it.