The dollar’s dominance cannot last forever, and in the view of some economists, its fate as the de facto world reserve currency is rapidly approaching its end. But if the dollar’s hegemony does collapse, who will replace it? For many, the answer is Bitcoin. This article will explain why.
For more than 75 years, the U.S. dollar has been the world’s reserve currency. The Bretton Woods Agreement in 1944 marked the beginning of the dollar’s replacement of the gold standard worldwide. Hundreds of representatives from central banks around the world agreed to maintain a fixed exchange rate between their currencies and the dollar. At the same time, the dollar remained tied to gold. It wasn’t until 1971 that Nixon severed the dollar’s link with gold, thus consolidating the dollar’s hegemony.
Global Currency Reset
The dollar is not tied to a stable asset supply, so the US can print dollars at will. Coincidentally or not, consumer prices have been rising exponentially since 1971.
The same is true of the increase in the number of banking crises around the world.
At the same time, the US dollar continues to depreciate.
Since 1971, much macroeconomic research has been devoted to figuring out what went wrong. Many of these studies suggest that the answer lies in major changes to the global financial system. In hindsight, the gold standard worked just fine. It worked well for centuries before it was abolished in 1971. As a result, over the years some economists and analysts have proposed returning to the gold standard, or at least some variation of it.
Jim Reid, global head of thematic research at Deutsche Bank, is one such analyst. In a 2019 paper authorized by Deutsche Bank, Reid said that fiat currencies are fading and will soon be replaced by other currencies. Not only does his paper cite the inherent inflationary problems caused by the lack of a standard system, but it also points out that governments are also prone to printing money out of thin air. This is particularly prescient given the current economic turmoil. "The forces that hold the current fiat system together now look fragile, and they may collapse in the 2020s. If so, this will lead to a strong rejection of fiat currencies, and demand for alternative currencies such as gold or cryptocurrencies may soar," the article said.
Bitcoin Standard
In the past decade, the rise of Bitcoin has not restored the gold standard, but has prompted a new trend of thought, a global currency reset led by Bitcoin. An important study is to use Bitcoin as a global reserve currency, which comes from the late analyst and Bitcoin bull Tyler Jenks.
Jenks boldly proposes that Bitcoin can provide the world with a stable global reserve currency that is not subject to inflation or deflation.
While this view may seem hyperbolic, Jenks is not alone. The analyst draws on economist Saivedean Ammous’ seminal book, The Bitcoin Standard. In this book, Ammous defines Bitcoin’s role in replacing gold’s historical role. Ammous stands in opposition to Keynesian economics, which advocates for increased government intervention in the financial system. In contrast, Ammous argues that central governments cannot interfere with Bitcoin, which makes it ideal for being a primary reserve currency. Bitcoin’s lack of association with any national government promotes its development as a global reserve currency because it means such an asset can overcome the Triffin Dilemma. The Triffin Dilemma refers to the conflict of interest between the monetary policy of a reserve currency country and the global one. David Andolfatto, senior vice president of the Federal Reserve Bank of St. Louis, pointed out in a Q&A session that cryptocurrencies like Bitcoin have the potential to solve this dilemma: “If a private cryptocurrency replaces a world reserve currency, it will eliminate the dilemma of the reserve currency.”
Bitcoin: A Global Reserve Currency?
Although there is no need to apply to become a reserve asset, there is one common criterion: hard currency. Hard currency is any widely traded asset that serves as a stable store of value. Although Bitcoin has traditionally been considered unstable, research shows that Bitcoin’s volatility has declined significantly throughout its life.
In addition, Bayern LB, one of the major German banks, pointed out in a 2019 report that Bitcoin is a "super-hard currency" based on the "stock-to-flow" model. The report draws on Ammous's book "Bitcoin Standard" and the research results of anonymous Bitcoin analyst PlanB on the Bitcoin "stock-to-flow" model. The stock-to-flow method is an analytical method commonly used in commodities such as gold and silver. "Stock" represents the circulation of an asset, and "flow" represents the annual output. These indicators are combined to provide a ratio to quantify the "production difficulty" or scarcity of an asset. When the "stock-to-flow" model is applied to Bitcoin, the results show a strong correlation between Bitcoin's market value and its SF ratio.
The report argues that Bitcoin’s SF ratio and thus “difficulty of production” are set to increase due to Bitcoin’s four-year halving and the resulting supply reduction. The bank concludes that Bitcoin will become “a more scarce asset than gold”:
“No one really knows what the impact of this monetary standard will be. Only one thing is clear: if Bitcoin does become the currency of the 21st century, its properties (primarily its extreme scarcity) will be the reason why.”
