The first nation to make bitcoin legal tender will use geothermal energy to mine it.
This article was originally published on our sister site, Freethink.
In June 2021, El Salvador became the first nation in the world to make bitcoin legal tender. Soon after, President Nayib Bukele instructed a state-owned power company to provide bitcoin mining facilities with cheap, clean energy — harnessed from the country's volcanoes.
The challenge: Bitcoin is a cryptocurrency, a digital form of money and a payment system. Crypto has several advantages over physical dollars and cents — it's incredibly difficult to counterfeit, and transactions are more secure — but it also has a major downside.
Crypto transactions are recorded and new coins are added into circulation through a process called mining.
Crypto mining involves computers solving incredibly difficult mathematical puzzles. It is also incredibly energy-intensive — Cambridge University researchers estimate that bitcoin mining alone consumes more electricity every year than Argentina.
Most of that electricity is generated by carbon-emitting fossil fuels. As it stands, bitcoin mining produces an estimated 36.95 megatons of CO2 annually.
A world first: On June 9, El Salvador became the first nation to make bitcoin legal tender, meaning businesses have to accept it as payment and citizens can use it to pay taxes.
Less than a day later, Bukele tweeted that he'd instructed a state-owned geothermal electric company to put together a plan to provide bitcoin mining facilities with "very cheap, 100% clean, 100% renewable, 0 emissions energy."
Geothermal electricity is produced by capturing heat from the Earth itself. In El Salvador, that heat comes from volcanoes, and an estimated two-thirds of their energy potential is currently untapped.
Why it matters: El Salvador's decision to make bitcoin legal tender could be a win for both the crypto and the nation itself.
"(W)hat it does for bitcoin is further legitimizes its status as a potential reserve asset for sovereign and super sovereign entities," Greg King, CEO of crypto asset management firm Osprey Funds, told CBS News of the legislation.
Meanwhile, El Salvador is one of the poorest nations in North America, and bitcoin miners — the people who own and operate the computers doing the mining — receive bitcoins as a reward for their efforts.
"This is going to evolve fast!"
If El Salvador begins operating bitcoin mining facilities powered by clean, cheap geothermal energy, it could become a global hub for mining — and receive a much-needed economic boost in the process.
The next steps: It remains to be seen whether Salvadorans will fully embrace bitcoin — which is notoriously volatile — or continue business-as-usual with the nation's other legal tender, the U.S. dollar.
Only time will tell if Bukele's plan for volcano-powered bitcoin mining facilities comes to fruition, too — but based on the speed of things so far, we won't have to wait long to find out.
Less than three hours after tweeting about the idea, Bukele followed up with another tweet claiming that the nation's geothermal energy company had already dug a new well and was designing a "mining hub" around it.
"This is going to evolve fast!" the president promised.
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A crash course in the history of money, the birth of Bitcoin, and blockchain technology.
- We've all heard terms like Bitcoin, blockchain, and cryptocurrency being thrown around in the past few years, but what do they mean? Consider this your crash course.
- Experts from across the spectrum of money and tech provide a history of commerce dating back tens of thousands of years, explain what blockchain and Bitcoin are and how they work, and offer insights into the differences between centralized and decentralized systems.
- Because blockchain is incredibly difficult to hack, it has massive implications for elections, banking, shipping, land ownership—any domain where corruption is rampant. While the technology may feel abstract now, programmer Brian Behlendorf compares it to explaining the concept of email to people in 1993. One day, blockchain will be a seamless part of our lives.
Is Bitcoin akin to 'digital gold'?
- In October, PayPal announced that it would begin allowing users to buy, sell, and hold cryptocurrencies.
- Other major fintech companies—Square, Fidelity, SoFi—have also recently begun investing heavily in cryptocurrencies.
- While prices are volatile, many investors believe cryptocurrencies are a relatively safe bet because blockchain technology will prove itself over the long term.
PayPal CEO Dan Schulman sees a silver lining amid the chaos of the COVID-19 pandemic: It's accelerating cryptocurrency adoption at a rapid clip, potentially by years.
Speaking in front of a digital audience at the 2020 Web Summit, Schulman added that he's optimistic about the future of cryptocurrencies:
"I think that if you can create a financial system, a new and modern technology that is faster, that is less expensive, more efficient, that's good for bringing more people into the system, for inclusion, to help drive down costs, to help drive financial health for so many people. [...] So, over the long run, I'm very bullish on digital currencies of all kinds."
His bullishness might be unsurprising, considering PayPal is among the latest fintech companies to move into the cryptocurrency space. In October, PayPal announced that users would soon be able to buy, sell, and hold cryptocurrencies "directly through PayPal using their Cash or Cash Plus account." That went into effect in November, and the company plans to extend it to Venmo users in 2021.
Presentation slide from Sanja Kon's presentation on the evolution of money at 2020 Web Summit
Credit: Sanja Kon
The move came shortly after the payments company Square invested $50 million into Bitcoin, and after Fidelity announced that it was opening a Bitcoin fund into which qualified purchasers could invest (minimum investment: $100,000). Together, this institutional backing might have something to do with Bitcoin's recent surge back to near its 2017 price peak of $19,783. (Bitcoin is listed at 19,384.30 as of Dec. 3.)
Presentation slide from Sanja Kon's presentation on the evolution of money at 2020 Web Summit
Credit: Sanja Kon
But more importantly, it suggests cryptocurrencies might soon have the opportunity to prove themselves in real-world use cases. After all, skeptics have long doubted the ability of cryptocurrencies to go mainstream as a form of everyday payment. But people seem increasingly comfortable with digital payment systems.
"The entire world is going to come into digital first," Schulman said at Web Summit, adding that PayPal's services already go hand-in-hand with cryptocurrencies. "As we thought about it, digital wallets are a natural complement to digital currencies. We've got over 360 million digital wallets and we need to embrace cryptocurrencies."
Sanja Kon, CEO of global partnerships at the cryptocurrency payments processor company UTRUST, also spoke at Web Summit about the increasing adoption of digital payments:
"Physical cash is becoming more and more obsolete. And the next step in the evolution is digital currency."
Kon noted some of the inherent advantages of cryptocurrencies, namely ownership.
"For many people, this is really the main benefit of cryptocurrency: Users owning cryptocurrencies are able to control how they spend their money without dealing with any intermediary authority like a bank or a government, for example," Kon said, adding that there are no bank fees associated with cryptocurrencies, and that international transaction fees are significantly lower than wire transfers of fiat currency.
Kon said cryptocurrencies have unique growth opportunities in areas where people aren't integrated into modern banking systems:
"With cryptocurrencies and blockchain, with the use of just a smartphone and access to internet, Bitcoin and cryptocurrencies can be available to populations of people and users without access to the traditional banking system."
Bitcoin as 'digital gold'
Still, it could take years for people to start using cryptocurrencies for everyday purchases on a large scale. Despite this, many cryptocurrency advocates see digital currencies, particularly Bitcoin, as a way to store value—digital gold, essentially.
"I don't think Bitcoin is going to be used as a transactional currency anytime in the next five years," billionaire investor Mike Novogratz recently told Bloomberg. "Bitcoin is being used as a store of value. [...] "Bitcoin as a gold, as digital gold, is just going to keep going higher. More and more people are going to want it as some portion of their portfolio."
There are obvious parallels between gold and Bitcoin: Both are mined, do not degrade over time, are finite in supply, and aren't directly tied to the value of fiat currency, making them relatively invulnerable to inflation. The obvious objection is that the price of Bitcoin, and cryptocurrencies in general, is far more volatile than gold.
But for investors who believe the inherent value of cryptocurrency technology will prove itself over the long term, these price fluctuations are just bumps on the long road to the future of currency.
"It's no longer a debate if crypto is a thing, if Bitcoin is an asset, if the blockchain is going to be part of the financial infrastructure," Novogratz said. "It's not if, it's when, and so every single company has to have a plan now."
Unfortunately, it's getting easier to predict what might happen to cryptocurrencies when the economy takes a nosedive.
- Born in the wake of the 2008 financial crisis, Bitcoin hasn't yet faced a downturn like we're starting to experience.
- Based on the developments of recent weeks, some crypto market trends are starting to emerge.
- Bitcoin's relationship to gold is strong, futures and options are losing their lure, and stablecoins are on the rise.
Although nobody knows yet what the outcome of the global coronavirus crisis will look like, there is one conclusion on which everyone seems to agree: The economic fallout is going to be significant. Last week, the U.S. government signed off on a $2 trillion relief bill, and governments around the world are printing money in an attempt to stave off a pending financial crisis.
No cryptocurrency has ever gone through a full economic cycle. Bitcoin was born from the depths of the 2008 global financial crisis. Famously, Bitcoin's genesis block contains the headline from The Times on the date that creator Satoshi Nakamoto mined the first ever Bitcoin: "Chancellor on brink of second bailout for banks."
So, until now, despite rampant speculation, it's been difficult to predict what might happen to cryptocurrencies when the economy takes a nosedive. However, the last couple of months, as the coronavirus has unfolded, have given us an idea of a few significant trends.
1. Bitcoin shows a higher correlation to gold
The idea of Bitcoin as "digital gold" has been around for a while. It's true that the two assets share some similarities: a price driven by the forces of supply and demand and limitations on supply, for example. However, whether or not investors would treat Bitcoin as a "safe haven" investment during times of turmoil in the stock market hadn't been proven.
On March 12, as the global stock markets plummeted and circuit breakers halted trading on the NYSE, the price of cryptocurrencies also took a nosedive. Bitcoin lost more than 40% of its value – the biggest single-day percentage drop in price since 2013.
However, on that day, gold held its price. Critics were quick to point out that the "digital gold" theory had been debunked, but perhaps they were a little too quick. Over the days that followed, gold recorded its sharpest drop in a single week, losing around 12% of its price.
Since then, the price of both assets has recovered somewhat, although Bitcoin to a lesser extent than gold, after recording a more significant decrease. Nevertheless, according to data aggregator Skew, Bitcoin and gold are showing record correlation levels of more than 50%, perhaps demonstrating that in times of economic uncertainty, the concept of Bitcoin as digital gold is more accurate than it initially seemed.
2. Open interest in futures and options takes a hit
March 12 was a pivotal moment on the cryptocurrency markets across derivatives, too. Before the coronavirus started to take hold, Bitcoin futures had been enjoying something of a moment. According to Skew, total open interest had more than doubled from around $2.2 billion in November 2019, to $5 billion in mid-February.
On March 12 and 13, as the price of Bitcoin dropped precipitously, crypto exchanges liquidated millions of dollars' worth of long positions.
Market leader BitMEX came under particular fire, as it had experienced two 25-minute outages meaning traders had no access to their accounts to top up margin or take any actions to hedge their positions. Traders on BitMEX saw over $1.5 billion of positions liquidated in the space of two days.
This drop illustrates the extent of investor panic, withdrawing from speculating even with short positions. It will be intriguing to see how quickly the crypto derivatives markets recover from this blow over the coming months, given that 2019 was a period of massive growth in these markets.
3. Demand for stablecoins skyrockets
Stablecoins were another asset class that was burgeoning before panic surrounding COVID-19 took hold. Because they're pegged to fiat currencies such as the USD, stablecoins had become the go-to currencies for traders entering and exiting positions. In 2019, the most popular stablecoin, Tether (USDT), had doubled its market cap from $2 billion to $4 billion, and overtaken Bitcoin as the most traded cryptocurrency.
During the market turmoil in March, while the rest of the market tanked, Tether came out smelling of roses. The market cap of USDT gained a further $1.5 billion in the second half of March alone, as Tether Limited attempted to mint enough stablecoins to meet the demand of investors keen to convert their gains or losses to a more predictable asset.
Sam Bankman-Fried, CEO of FTX Exchange and rapidly becoming something of a sage on crypto-Twitter, attributed Tether's March explosion to a flow of OTC originating in Asia, along with investors converting their Bitcoins to Tether as a means of hedging and reducing risk.
Uncertain times for token holders
The cryptocurrency markets are always notoriously volatile, even when the rest of the economy is sailing in smooth waters.
However, the events in March have provided a flavor of what we can expect from the crypto markets once the traditional markets experience tumult. Whether these trends continue to play out as the coronavirus bites harder, remains to be seen.