Cryptocurrencies And Public Policy

Many cryptocurrencies are set up at least in part to make payments or other processes faster and more efficient. To what extent would these advantages improve the economy? Are there other effects that would increase the benefits or offset them? Are there alternative technologies that offer the same improvements with lower risks? The answers vary significantly with the specifics of the cryptocurrencies and their design and use.

Cryptocurrencies could impact financial stability either directly, as payments and investments denominated in Bitcoin or other virtual currencies become sizable, or indirectly by changing the size, profitability, and stability of existing financial institutions and markets.

Monetary policy primarily operates by affecting the amount of a nation’s money and the interest rates charged in the economy for using that money. At the extreme, the more people use cryptocurrencies for their monetary needs, the less important a country’s own money becomes, except for any secondary effects on cryptocurrencies. How much substitution will occur for conventional currencies? Would central banks be able to find alternative approaches to achieve their monetary policy objectives? How much would it matter if their monetary policy tools become less useful?

There are two first-order effects on fiscal policy. First, by decreasing a government’s benefits from creating money instead of borrowing to make payments. Second, cryptocurrency transactions can generate tax revenue, which may be higher or lower than equivalent conventional transactions would produce. Looking beyond the tax rules themselves, some fear that cryptocurrencies could aid in tax evasion, reducing government revenues.

Depending on whether cryptocurrencies are viewed as currencies, investment assets, fixed assets, or something else, there are a variety of different potential tax treatments. The distributed nature of cryptocurrencies, without a central home, also challenges traditional frameworks that treat money earned domestically differently from foreign earnings.

Law enforcement officials are concerned that cryptocurrencies, with their greater anonymity, could encourage money laundering and abet a wide range of illegal activities.

Many advocates of cryptocurrencies believe that their use protects personal privacy more than existing systems and institutions do. For example, Bitcoin transactions are tied to account “addresses”, not directly to names. This does not provide absolute protection, however, as linkages can be established between addresses and personal identities, with varying degrees of difficulty.

As with many other innovations, cryptocurrencies can be used in fraudulent transactions or suffer from market manipulation. Beyond outright fraud, there is a risk that consumers or investors may act without sufficient information or understanding.

As governments weigh the pros and cons of cryptocurrencies, they often reach different conclusions. Policymakers are in the early stages of determining how best to interact with cryptocurrencies, with current responses ranging from declaring them illegal all the way to actively fostering their development. There are a wide range of tools at the disposal of the authorities, but also some unconventional constraints created by the distributed, somewhat anonymized and global nature of cryptocurrencies. Given the decentralized nature of most cryptocurrencies, there would be benefits from global coordination of legal and regulatory treatment, but there is clearly not a global consensus among policymakers.