I posted my original article about the possibility of an independent Scotland adopting Bitcoin as the currency in the Bitcoin Talk forums and got a range of skeptical responses. Including one which accused the title of being click-bait. This is true of course but does not diminish my proposition that nation states will find themselves in currency competition with cryptocurrencies.
Two arguments were put forward, that a sovereign nation would want to control its currency and that Bitcoin volatility is to high to allow it to be used a store of value or medium of exchange.
The argument that a country would wish to control its own currency has some merit but we note that the Eurozone contains 10 smaller countries including Ireland and Finland who have outsourced their currency to the European central bank. Some smaller nations in the US sphere of influence use the United States Dollar including Ecuador and El Salvador.
Therefore we can see that this is not absolute bar to Scotland adopting Bitcoin.
Bitcoin is a very young currency and variations in demand cause massive changes in its value from day to day. It is clearly unsuitable for use as a store of value. However in the case of Scotland I note that independence referendums should take place not more than once a generation and therefore we might expect that the next will be in 20 years time. By then we may have seen Bitcoin develop into a slightly deflationary reserve currency with a low volatility against the USD, Euro and Renminbi.
Pierpaolo Benigno has written an interesting paper on currency competition that is available on the CERP Policy Portal.
In my view the key point is that currency competition will undermine the ability of elected governments to implement social policy by printing money. This is probably a good thing because it will force them get an electoral mandate to raise taxes rather than dipping their hands into the savings of hardworking people. Benigno points out that a less benign consequence, that Governments will have less power to intervene when financial crises cause liquidity crunches such as in 2008.
Benigno also points out something that I did not fully understand,
“Government money is the liability of an agent, and the treasury can potentially back it by levying taxes. Digital currency is not the liability of any agent and has no fiscal backing.”
Fiat currencies have a value not only because of customer demand but because the state has monopoly on the use of force. The state can (and does) command that you render goods and services in exchange for its currency. This monopoly on the use of force gives fiat currencies a value that cryptocurrencies do not have.