It is getting weirder by the day. On 5 February, a Bloomberg report said that junk bond buyers were desperate for yield and were pressing companies to borrow. Perhaps this is not all that weird, given what transpired with GameStop’s stock and has been going on in the world of cryptocurrency.

India’s government is considering a ban on privately-circulating crypto- currencies. Other countries and regions are thinking along similar lines. Janet Yellen, the US treasury secretary, mused that they could be aiding money laundering. Christine Lagarde, the president of the European Central Bank, opined on similar lines. It is not hard to see why. The strength of privately circulating cryptos is their anonymity. Cash once provided that. But the advantage of holding cash has been systematically eroded over the past several years by central banks and governments.

Anti-money laundering (AML) legislation and requirements made the use of the banking system hazardous for criminal activity. Cryptos help bypass banks. In that sense, it is as conducive to criminal activity and hiding from the prying eyes of the government as cash was. But one critical difference was that cash was necessary even for retail transactions, especially by the unbanked and very poor in developing countries. Further, it was issued by the sovereign. Private cryptos do not meet either condition. Interestingly, if cryptos were meant to avoid surveillance, a state-sponsored digital currency enhances surveillance considerably. Crucially, privately circulating cryptos can, over time, pose a challenge to the sovereign itself. More on that in a bit.

A digital currency is different from funds held and transferred digitally. Money that is transferred electronically is routed through the banking system. A digital currency will bypass the banking system. Indeed, in that sense, it not only helps the sovereign (the central bank) encroach upon citizens’ lives considerably, but also helps central banks achieve their policy objectives more effectively, as it bypasses the banking system completely. Hence, a digital currency can help the sovereign overcome the reluctance of banks to lend, which dilutes the effectiveness of monetary policy.

A big drawback of cash from the point of view of sovereigns is that it provides a floor under the monetary policy interest rate. If central banks mandate negative interest rates for customer deposits, people can simply withdraw their money and keep it under mattresses. This earns zero interest. Cash on the floor thus sets the floor for the policy rate. Of course, in Europe, banks have pressured corporate customers not to take their deposits away because they have other levers to pull. But cash does undermine the goals of monetary policy. A digital currency makes sovereign-mandated debasement easier. Many such useful insights are to be found in a brilliant article, ‘Bitcoin: Bubble or Anti-Bubble’, by Diego Parrilla.

Now we know why a privately circulating crypto is useless for the sovereign. Well, it is also dangerous.

Unlike gold or other assets that are mined from the earth, cryptos are mined using computer software. Although precious metals do not yield anything and hence their store-of-value promise is as much a matter of perceptions (well, these days, the same goes for stocks too), the critical difference is that precious metals cannot be conjured out of thin air. In that sense, cryptos have more in common with fiat currency than with precious metals.

Fiat money is created with electronic entries by a central bank and credited into the reserve accounts held with it by banks. There used to be some implicit rule linking the creation of money with the trend in nominal gross domestic product (GDP) after the abandonment of nominal anchors like gold, silver, etc. But, even that fig leaf does not exist anymore and this is evident in the relentless and sharp rise in the size of central banks’ balance sheets as a share of GDP. If fiat currency and cryptos share this common feature—the capability of being conjured out of thin air—it is but natural that one is a substitute for the other.

The golden rule of power is that one who has the gold makes the rules. Extending this logic, one can say that the sovereign’s authority includes its issuance of currency as a medium of exchange. Therefore, if cryptos become commonly used for transactions, then crypto issuers would threaten the sovereign. It could even be an ingenious and insidious power grab. Cryptos are beginning to act as mediums of exchange. It was rather neat of Elon Musk to announce that Tesla holds Bitcoin to the tune of $1.5 billion and that Tesla would accept it as payment for its cars. A county in Florida has authorized the use of Bitcoin for tax payments. Bank of Mellon-New York has agreed to custodize Bitcoin holdings, even though it most certainly does not meet the criteria of being an ‘asset’ by any stretch of imagination.

Hence, what is at stake today is not just the value of Bitcoin or Dogecoin. Cryptocurrencies are the thin end of the wedge of a power struggle between the elites that currently hold power and other elites wanting in. It will probably not end well for either.

V. Anantha Nageswaran is a member of the Economic Advisory Council to the Prime Minister. These are the author’s personal views.

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