Many, many years ago there was no equivalent to money. When a person wanted to acquire something from someone else, they had to reach an accord of trading various things for other things. This was called barter and was a clumsy method of exchange. People finally came up with the idea of selecting something of value that could be used as a medium of exchange. And the concept of money was born.
The meaning of a medium of exchange, or money, has become codified and understood to have these characteristics:
- It is issued in set denominations by a recognized national government.
- It is declared legal tender in the issuing country.
- It has a reasonably stable value.
- It is backed by the full faith and credit of the issuing government.
- It is a physical currency that is not readably subject to forgery.
- It can be placed in a financially recognized institution on a demand basis.
- It can be retained in the institution and earn interest income.
Recently there has been the development of computer generated mediums of exchange that are referred to a cryptocurrency. These have been made possible by the development of the internet and what is referred to as the cloud. To understand these currencies, it is necessary to understand the cloud. The cloud is comprised of large banks of computers in locations that are designed to store information. Many think the cloud is out there someplace and does not actually exist. The fact is, all computer information is stored in bits of information that have a unique encrypted address location pointing to a particular disk storage. If a person or another computer can figure out that exact address location, they can access the information stored as physical bits in that file. Users are accustomed to using an address location pointer when they enter a password. A password is a simple encrypted address location.
All cryptocurrencies use the cloud to store owner identification and amount. That information is protected by an elaborate type of password to protect that location. How cryptocurrency is created is interesting but not germane to this discussion. What is important is a comparison with the characteristics of money stated above:
Cryptocurrencies are issued by a person that has decided to write a computer program that creates a currency with a unique named designation. Consequently, today there are literally hundreds of cryptocurrencies, take your pick. The identity of the originator is comparatively unimportant. The currency is not unique to an issuing government.
Legal tender simply means the money must be accepted as payment for goods and services in the country of issue. By implication, money of one particular country is often considered legal tender in other countries. Except in very limited circumstances, no cryptocurrency is legal tender in any country. It is not subject to settlement of debts public or private.
The value of money is determined by the amount of goods and services it is capable of purchasing. If the amount that can be purchased goes down that is called inflation, if the amount that can be purchased goes up that is called deflation. It is economically important that the level of purchasing power remain significantly stable. Since cryptocurrency cannot purchase anything, the value is based on market bid and ask price. That price is determined by the market demand. Over the last several years the cryptocurrency market value has varied significantly in price. That is good for speculating, but not good for a medium of exchange.
Money is backed by the full faith and credit of the issuing government. Today that is basically meaningless. If you go to the government with a $20 bill and ask for an exchange, you will get a new $20 bill. Since a cryptocurrency is backed by no one, the two are basically equal.
Money is represented by a coin or piece of paper that is very difficult to reproduce. A cryptocurrency resides on a disk somewhere. Like money, it is difficult to reproduce. However, as computers evolve, and programmers become more knowledgeable, the ability to reproduce a cryptocurrency becomes probable if not certain.
Most money is held by a financial institution that will satisfy our purchases on demand. Today there is no provision for a financial institution to accept as deposit any cryptocurrency. If they did, they could not satisfy our purchases because the cryptocurrency is not legal tender.
Upon agreement, a financial institution will pay a depositor interest on money held by them. An owner of cryptocurrency is not capable of earning any form of interest return on their holding. A cryptocurrency is not able to purchase investment securities.
The question becomes, why would anyone want to purchase cryptocurrency? The first and most simple answer; it is the thing to do and everyone is doing it. It reminds you of bitcom and tulips. The other reason, it provides a convenient method of laundering money. With money, governments are able to trace currency movement between countries and even within a given country. With cryptocurrency, ownership transfer in not subject to governmental overview. For example, the computers of a local medical clinic were scammed. The files were subject to recovery with a payment of $26,000. That payment was required to be made in Bitcoin. Why? The payment could be converted to money in any country, and neither the clinic nor the government could trace the transaction.
You can’t invest a cryptocurrency, you can’t buy anything with it (with a very few exceptions), it varies widely in market value, and it exists somewhere as bits and bytes in some unnamed and unknown computer. It is not money, but it sure is popular.
— Wallace Boersma, Marshall