“We have gold because we cannot trust governments.” President Herbert Hoover famously commented. Many investors are buying bitcoin for precisely this reason and feel that central bank intervention is devaluing fiat currencies. Others invest because the potential widespread acceptance and usability of Bitcoin will see prices rise over time. Is Bitcoin a reversion to the gold standard?

With a finite supply of Bitcoin, rising usage could see prices rise, but it would come at a cost. In the event of widespread acceptance of bitcoin or another cryptocurrency with limited supply, the growth of the global economy will theoretically be limited. Slowing growth (falling to zero at some future point) in the supply of Bitcoin, will inhibit the growth of the economy. Money supply growth is critical for economic growth and is an important part of current monetary policy.

In some ways, the widespread usage of a cryptocurrency resembles the gold standard. Although many ‘versions’ of the gold standard have existed over time, the underlying premise was the convertibility of currency to gold at a particular rate of exchange. The gold standard was adopted to achieve price stability, limiting the ability of governments to print money, thereby devaluing the currency and potentially leading to rampant inflation.

The gold standard failed for several reasons

The gold standard failed for several reasons. One critical problem was that it tied policymakers’ hands to deal with a downturn in economic growth. In the end, growth is limited by the amount of gold in circulation (assuming 100% gold backing). In the same way, although early investors in Bitcoin may be initially optimistic following rising prices, an eventual decline in economic growth would see Bitcoin prices also collapse and this could be exacerbated by the lack of a lender of last resort.

Interestingly, a so-called ‘Bitcoin standard’ as envisaged by Weber (2015)[1] would eliminate volatility because if currencies were backed by Bitcoin, then these currencies would move in line with the Bitcoin price. Bitcoin in other currencies would continue to experience volatility. However, the problems of money supply growth adversely affecting production would remain. Additionally, investors would not see price gains because bitcoin is backing the fiat currency.

[1] Warren E. Weber: A Bitcoin Standard: Lessons from the Gold Standard, October 2015.

Martin Arnold, Global FX & Commodity Strategist at ETF Securities

Martin Arnold joined ETF Securities as a research analyst in 2009 and was promoted to Global FX & Commodity Strategist in 2014. Martin has a wealth of experience in strategy and economics with his most recent role formulating an FX strategy at an independent research consultancy. Martin has a strong background in macroeconomics and financial analysis – gained both at the Reserve Bank of Australia and in the private commercial banking sector – and experience covering a range of asset classes including equities and bonds. Martin holds a Bachelor of Economics from the University of New South Wales (Australia), a Master of Commerce from the University of Wollongong (Australia) and attained a Graduate Diploma of Applied Finance and Investment from the Securities Institute of Australia.