The president of Central American nation El Salvador, Nayib Bukele, today announced a proposal to make the cryptocurrency Bitcoin a legal form of tender.
“Next week I will send to Congress a bill that will make Bitcoin a legal tender in El Salvador,” Mr Bukele said.
“In the short term, this will generate jobs and help provide financial inclusion to thousands outside the formal economy, and in the medium and long term we hope that this small decision can help us push humanity at least a tiny bit into the right direction.”
#Bitcoin has a market cap of $680 billion dollars.— Nayib Bukele 🇸🇻 (@nayibbukele) June 6, 2021
If 1% of it is invested in El Salvador, that would increase our GDP by 25%.
On the other side, #Bitcoin will have 10 million potential new users and the fastest growing way to transfer 6 billion dollars a year in remittances.
This would make El Salvador the first country to use cryptocurrency as legal tender, which could greatly change the economic and geopolitical landscape of that nation – and any others that follow suit.
Cutting out the middleman
Normally, if you want to make a banking transfer, exchange currencies, or send money to family, you do this through a bank. However, the bank usually takes a share of the money, or is paid a flat fee, to do this processing. Because of this the amount put in isn’t the same as the amount that comes out.
The time it takes for the money to arrive at its destination is limited by the hours when bank employees work, so money transfers can often take multiple business days and not make it to family quickly enough.
This is particularly pertinent because remittances – that is, money sent back to family from other countries – is a huge part of the Salvadoran economy.
A large number of Salvadoran citizens live in the United States of America and send money home in the form of remittances. However the limitations of the international banking network mean that a lot of time and money is lost in the process. Cryptocurrencies such as Bitcoin don’t require a middleman and have no such overhead.
“A big chunk of those 6 billion dollars is lost to intermediaries,” says Nayib in the twitter thread.
“By using Bitcoin, the amount received by more than a million low-income families will increase in the equivalent of billions of dollars every year.”
In the twitter thread, Bukele said that 70% of Salvadorans don’t have a bank account, preferring to use cash instead, and so are excluded from some parts of the economy.
“If you want to send money from the US to your family in El Salvador, who don’t have a bank account, you don’t have to go through the rigmarole of, presumably using a middleman,” says Mark Ferraretto, a lecturer in technology and law at Flinders University.
“[With cryptocurrency] all you need to do is just send them Bitcoin directly from your phone to their phone. So, that’s a potential advantage.”
“And there’s been a lot of talk around Bitcoin ‘banking the unbanked’ – so like as an enabler – and I do think that there’s that there’s some potential there.”
Lack of government influence
Currently, El Salvador doesn’t have its own currency; the country has been using US dollars since 2001. US dollars in El Salvador are still controlled by the US Government, and so El Salvador has no monetary control over its own currency. This makes El Salvador more vulnerable to external economic shocks that occur in the US, and affects the wallets of its citizens, too.
“If you consider Bitcoin a currency, [El Salvador] still doesn’t have control over monetary policy,” says Ferraretto.
“They’re not gaining anything from that, from that point of view. It doesn’t give them any more sovereignty over their monetary policy than what using the US dollar does.”
El Salvador has a history of a governmental instability, having experienced a coup leading to a civil war from 1979 to 1992, a conflict which also saw the nationalisation of its banking industry. To salary earners and investors wary of entrusting their money to banks, cryptocurrency represents a safer alternative.
“It takes away political considerations and replaces them with technological considerations. [Bitcoin] is a known thing and it’s easy to find out,” continues Ferraretto.
“In that sense it’s a bit of the devil you know.”
The technology is already there
Because cryptocurrency technology is already established with applications such as “software wallets” available for mobile phones, the transition to Bitcoin, or another cryptocurrency, would be essentially free for El Salvador.
Not only this, but El Salvador’s mobile penetration – that is, the number of mobile phone connections (SIM cards or numbers) population-wide – is high. In 2015, it reached 146%, whereas Australia’s sat at 66% around the same time.
So, the technology to use cryptocurrency is already quite mature and requires very little to get it up and running. The government would not need to build any new infrastructure.
“From a technology/device point of view, in that sense it’s a good move. You don’t need anything,” Ferraretto says.
“The whole notion of Bitcoin is that you do away with banks because you don’t have to have that secure storage of money – that’s all controlled algorithmically now. All you need is a phone and a (crypto) wallet. No one’s in charge of it so you’re just good to go.”
What difference could it make?
Currently, very little in the way of goods and services can be traded for Bitcoin directly – the cryptocurrency is often bought as a speculative investment, with the hope that its value will increase. There is no functional economy that uses bitcoin to trade, like there is with fiat currencies.
“[If] you carry a US dollar around with you in El Salvador, you can obviously buy anything you want, or anything that you can afford. Whereas, who takes Bitcoin?” says Ferraretto.
The difference is that this move has the potential to create a functional economy by bringing cryptocurrency into the sphere of everyday life, with millions of new users.
“From a domestic point of view, I guess, the government can mandate the use of Bitcoin as legal tender and people can start being paid in Bitcoin, and then that will create a big domestic Bitcoin economy.”
Beyond this, adoption of new technologies into ‘everyday’ life has the potential to rapidly and completely change how a society functions, such as changing the manufacturing landscape, or changing the relationship between government and citizens.
What kind of roadblocks are there?
Any new implementation that changes the economic landscape is going to have roadblocks. Bitcoin transactions aren’t currently fast enough, practically, to trade for goods and services.
“It does have the potential to impact the Bitcoin infrastructure, and that is because Bitcoin itself has quite a low transaction rate,” says Ferraretto. “Bitcoin’s maximum theoretical rate, from memory, is about 4000 transactions per second, which is at least 20 times slower than Visa, for example. So it’s quite slow.
“It’s not really good for walking down to the shop and buying an ice cream, and then waiting an hour, coming back and picking it up.”
The mathematical calculations that power the Bitcoin network also consume a lot of electricity, which may make El Salvador – with the highest geothermal energy production in Central America – a more favourable location for a Bitcoin-based economy.
But Bitcoin’s Lightning Network is attempting to do away with these long waits and get a more instant and scalable process up and running, which could make cryptocurrency transactions more like Visa.
“Other cryptocurrencies are trying to address some of Bitcoin’s shortcomings,” says Ferraretto. “For example, the energy consumption to mine new coins, transaction rates and so on. But because the El Salvadoran government has chosen Bitcoin, they’re going with Bitcoin, warts and all.”
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