Over the past decade, crypto has gone on a lot of adventures.
It was originally imagined to be a currency.
But now it’s a lot of things. Sometimes it’s a distributed computing platform. Sometimes it’s digital art. Sometimes it’s just a fun asset to scratch that FOMO YOLO urge. Sometimes it’s just for giggles. Sometimes its for drugs…
While it seems to be gaining some momentum as an asset or computing platform, it’s safe to say crypto has fallen very, very short of being a currency.
Yes, a good number of businesses now accept some crypto (especially after crypto integration into popular digital wallets like PayPal), but data seems to suggest most crypto holders don’t actually want to use it as a currency.
Maybe that’s destiny?
BUT, it doesn’t have to be!
And changing that requires understanding how currencies are forged. Not just the currency itself, but the conditions that encourage the usage of a currency.
This is where MMT comes in. MMT actually does a fantastic job explaining how governments encourage fiat money to be used as currency. And I think there’s a lot that the crypto world can learn from if there is still interest in encouraging crypto as a currency.
A few months back, I had the absolute incredible luck of attending one of Stephanie Kelton’s lectures (digitally).
If that name does not ring a bell – Stephanie Kelton is one of the key voices of Modern Monetary Theory (MMT). In my mind, she is basically the high goddess of MMT.
High. Goddess. of. MMT.
Not only is she a well-regarded economics professor with deep connections into the US policymaking apparatus (she was former chief economist of the US Senate Budget Committee), she also happens to be the author of The Deficit Myth, which has become sort of a bible for MMT.
I use the word luck to describe my attending this lecture because I had already written off MMT long ago.
The way it was described by the media when it started gaining airtime a few years ago didn’t sound like something that would work based on the laws of reality as you and I know it…the media often portrays MMT as suggesting that any sovereign nation with its own fiat currency can just issue as much money as it wants.
Rep. Alexandria Ocasio-Cortez has received one question more than any other during her short time in the political spotlight: How will she pay for her ambitious policy proposals?
She said she was open to Modern Monetary Theory, a burgeoning theory among some economists positing that the federal debt is not an economic restraint for the US. She said the idea, which holds that the government doesn’t need to balance the budget and that budget surpluses actually hurt the economy, “absolutely” needed to be “a larger part of our conversation.”Source: Business Insider
How can this possibly be true?
But luckily I did join this Kelton lecture.
And it turns out MMT is not as insane as the media makes it sound BUT it does require a few key assumptions (much like every economic theory out there) primarily around inflation in order to work.
The true benefit of the lecture is that it convinced me enough to put aside my aversion to MMT enough to buy a copy of The Deficit Myth and actually understand what MMT argues for from someone that actually understands MMT.
I understand MMT now…but what’s most interesting for this post (and crypto) is not the whole MMT theory itself.
It’s one very specific concept that MMT revolves around and truly changed how I view monetary and fiscal policy as well as fiat currencies.
One of the key concepts that MMT depends on is reversing the relationship between government spending and taxes.
Normally, people assume that governments operate like households. Governments can only spend what they have in terms of income or savings. Sometimes you can borrow, but you can’t do that for long. For governments, income is primarily from taxes. Therefore, governments need to tax first in order to spend.
MMT argues this is completely backwards. Governments that have fiat currencies can spend whenever and whatever they want since they can issue the money at will. The real challenge is making sure people WANT that currency. Since fiat currencies are not backed by anything, it’s actually an interesting philosophical question about what a government can do in order to make people want fiat currencies (short of rolling out the military / police force and pointing a gun at everyone and demanding they use it).
It turns out, the answer is taxes!
According to MMT, governments create demand for their fiat currencies by requiring that taxes be paid in the fiat currencies they issue. Any government can create fiat currency, but to create actual demand for that currency in a way that would encourage EVERYONE to use it and hold it, governments levy taxes and require those taxes be paid in them.
This makes sense!
The challenge with any currency is that people will always default to the currency that has the most optionality. If you live in the US, the currency with the highest optionality is USD. Holding RMB or EUR in the US doesn’t make much sense because you can’t actually buy much with it. The currency that allows you to buy the most things is USD.
Optionality here means the highest quantity of things you can buy with that currency.
This can be generalized to any type of currency. In order for something to be the default currency, you therefore need it to have the highest optionality across all of the options available.
What’s interesting is that convincing everyone to use a currency for daily transactions is NOT enough.
Even if crypto gets to parity in terms of merchant acceptance vs the USD, it will still NOT displace the USD as the default currency.
This is because everyone’s transactions is actually composed of two things:
1/ Our actual economic purchases (rent, consumption, investments, etc),
One way of looking at it is decomposing every transaction into these two components.
You can go out and buy something for $100.
Of that $100 purchase, you will end up paying maybe $110 when sales taxes are included.
So within that purchase, you paid $110 but maybe only $90 of it goes to the merchant. $10 will be in the form of sales tax and maybe another $10 in the form of an income tax (depending on how high pre-tax margins are).
You can pay for this however you want, but it’s undeniable that taxes will require at least a portion of EVERY transaction to be paid for in the fiat currency of the country’s choice. That’s a hard requirement. That’s a pretty important demand driver for these seemingly useless pieces of paper!
So what’s the takeaway for crypto?
If the demand for fiat is indeed driven by this absolutely necessary fiat tax that goes onto EVERY single transaction that happens, the way crypto can become a currency is by figuring out how to become a “tax” on every transaction.
I’m not creative enough to know how or what would make that happen.
But the crypto world seems to be quite creative. Maybe someone will eventually solve this puzzle.