Get-rich-quick schemes have historically been fraudulent, but as of late, skyrocketing cryptocurrencies like bitcoin, litecoin, ethereum, and others appear to be an honest, and legal, way of making money without trying. Although cryptocurrencies have been a hot investment as of late, they appear tenuous and are ultimately dangerous because they are speculative, difficult to regulate, and they divert investment from crucial sectors.
Cryptocurrencies are rooted in speculation because they are decentralized, and as a consequence, have no intrinsic value. Other investments or goods have some internal value, like food, which can be eaten, or bricks, which can be used to build houses. Fiat currency like cash or even wire transfers of a national currency, like cryptocurrencies, do not have any inherent value, but the distinction is that they are backed by the state. The ability to use fiat currency, such as the U.S. dollar, is based on a power dynamic. For example, the U.S. government has the power to enforce the value of the U.S. dollar both in America and internationally, and the same is true for other national currencies around the world. Without this power dynamic, there is no incentive to replace goods that have a tangible value with a piece of paper that purports to be equal in worth. But major cryptocurrencies like Bitcoin are unique because they are decentralized—how they function does not rely on a central power like a government, but instead on the users of the said currency. As a result, there is no power dynamic to enforce and stabilize their value.
“What [bitcoin] does have,” wrote Thomas Heath of the Washington Post, “is a faithful following, which has its own value, just as gold has had for thousands of years. Bitcoins have value because a community believes in it.”
This collective belief can be very powerful; societal belief is contagious. But just as people can collectively believe in the value of something, they can collectively believe that something does not have any value whatsoever. And because major cryptocurrencies are decentralized, their value depends on the whims of the people who invest, use, and trade them. One of the best historical examples of speculation is Dutch tulip mania, which investors increasingly valued higher and higher, until the speculative bubble burst as some investors decided to sell to make a more-than-healthy profit, leading to widespread panic and an economic depression.
Bitcoin, after its meteoric rise culminating in its peak at $19,783.06 on Dec. 16, subsequently collapsed, falling below $8,000 on Feb. 2. Although some may believe that cryptocurrencies can be used as a form of digital money, they are not backed by any major institutions. There is no suggestion or guarantee regarding the price they should trade at, meaning any price they can be purchased at or sold for is speculative. And this is true whether they are used as a form of digital currency or as a speculative investment. This doesn’t mean that people shouldn’t invest in bitcoin, but they should be comfortable with losing the money they invest, just like putting money on snake eyes or buying a lottery ticket. Yet the spectacular heights of bitcoin and other cryptocurrencies make them often too tantalizing not to invest in, despite the damage their inevitable collapse will precipitate.
Compounding this enticing nature of cryptocurrencies is that they are very difficult to regulate, and even amid governmental regulation attempts, their speculative growth has continued.
“In April 2014, several Chinese bitcoin exchanges had their bank accounts closed,” said Jon Martindale of Digital Trend, in a discussion of regulation attempts by the Chinese government in late 2013.
But due to certain loopholes in the regulations, the exchanges continued to do business, and bitcoin’s price continued to rise in the following days.
“While some of those instances [of bitcoin regulation] are more concerning than others, none of it has stopped bitcoin’s growth,” Martingale continued.
This obstinate growth can certainly be attributed to bitcoin’s speculative nature, but it is also linked to certain structural issues with regulating cryptocurrencies. If they were regulated in one country, an intent trader or investor could employ a VPN or proxy to hide their location to bypass the laws. And if regulations were specific against one cryptocurrency, then traders could circumvent the regulations by easily converting it to another. Proper financial regulation is crucial to preventing economic collapse.
“Too much trading of mortgage-related securities led to the global financial crisis [in 2008],” wrote Hersh Shefrin of Santa Clara University. “In contrast, sound financial regulation places restraints on our collective tendency to engage in excessive speculative activity.”
Without substantive regulation, cryptocurrencies will continue to have the speculative volatility that puts people’s investments at risk of annihilation. Unfortunately, cryptocurrencies are considerably difficult, if not nearly impossible, to regulate effectively because they transcend regulatory bodies in individual countries and their speculative growth has continued amidst attempts to control them. If investing in cryptocurrencies continues to grow in popularity, the damage they will cause will grow proportionally.
To make matters worse, cryptocurrencies divert investment from critically important sectors, such as clean energies.
“The hyper-focus on bitcoin is causing investors to miss another huge winner this year,” wrote Mitch Goldberg, the president of ClientFirst Strategy investment firm. “There’s another trend that’s literally right under your nose: renewable energy.”
It’s difficult to quantify exactly how much money is being invested in cryptocurrencies instead of economic spheres like clean energy. However, the total value of all cryptocurrencies, known as the market cap, is $433 billion as of 6 p.m. Feb. 22. This is $100 billion more than 2016’s annual investment in clean energy, which totaled $333.5 billion. It is absurd to suggest that the entire cryptocurrency market could be liquidated instantly to fund clean energy investment. However, the fact that these statistics are even comparable speaks to the substantial amount of money that should be invested clean energy. This is not to mention that bitcoin mining alone requires the same amount of power as needed for three million homes, preventing the shift from fossil fuels to clean energy.
“[Clean energy’s] potential returns might not come so fast, but I am confident it is her to stay, which is more than I am willing to say about bitcoin,” continued Goldberg.
Given the existential threat that climate change poses to humanity, we need all the investment in clean energy that we can get.
The volatility and speculative nature of cryptocurrencies make them appear appetizing to investors who want to earn large amounts of money very quickly, at the risk of losing it all. This is instead of investing money into the growing clean energy industry, which not only provides more consistent and secure returns on investment but is also crucial for combating climate change.
Cryptocurrencies sound like an appetizing new investment, a novel way to earn money. But their shiny exterior belies a dangerous interior. Cryptocurrencies are inherently speculative because they are not backed by any institutions. In addition, they are very difficult to regulate, and regulations are necessary parts of healthy economies. Without proper rules governing investment, cryptocurrencies threaten to obliterate investments. And finally, they divert investment from sectors that are vitally important in combating climate change. Perhaps cryptocurrencies look like they can be used to earn money, but they are just as questionable and unexpectedly threatening as a tulip.
Cormac Chester is a member of the Class of 2020 and can be reached at cchester@wesleyan.edu.