State digital currencies may force redefinition of crypto

9 March, 2019

If you were asked to define a cryptocurrency, what would your answer be? The question is a significant one when you consider how many countries are working on producing digital currencies to either complement or replace their current fiat currencies. It is so significant that a recently completed pilot program in Ukraine is already sparking debate over what constitutes a legitimate cryptocurrency.

Our common understanding of cryptocurrency is rooted in Bitcoin. As you may know, Bitcoin started it all way back in 2008. It is the dominant cryptocurrency among both investors and day-to-day spenders alike. You can use bitcoins to build an investment portfolio or gamble on your favorite Bitcoin casino site.

The problem is, Bitcoin's underlying principles and philosophy are starting to unravel. They are being eroded by an evolutionary process that is challenging some of what Bitcoin was built on. This is not unexpected - or at least it shouldn't be. Everything evolves over time. We should not expect any cryptocurrency to remain unchanged in perpetuity, which leads us back to the definition of a cryptocurrency.

The original Bitcoin model

Bitcoin was first developed as a monetary system. It set the standard for cryptocurrencies that followed, both in the construction of its blockchain and the underlying principles that govern it. Ironically, Bitcoin developers never offered a clear-cut definition of cryptocurrency. That definition was left for the world to decide once bitcoins were finally released.

Nearly a decade later, we understand cryptocurrency as a digital currency with the following properties:

  • The currency exists as a digital asset rather than tangible coins and bills
  • Cryptocurrency transactions take place in a decentralized environment
  • Blockchains and distributed ledgers are the mechanisms for tracking and finalizing transactions
  • Transactions are immutable; that is to say that once finalized, they cannot be reversed
  • Coins and transaction data are protected through cryptography and mining practices
  • New coins are introduced to the network through mining.

These generally accepted properties are pretty rigid. Create a currency that violates one or more of them, and there are automatic questions of its legitimacy. So what about state-backed digital currencies like the one being developed in Ukraine?

Ukraine: Not a cryptocurrency

Officials in Ukraine had been working on a pilot program intended to determine if replacing the country's hard currency with a digital alternative is feasible. The project has been the domain of The National Bank of Ukraine (TNBU), which is their equivalent to the U.S. Federal Reserve. It is Ukraine's central bank.

According to news report, TNBU created the digital token to represent the Hryvnia - Ukraine's fiat currency. They call it the E-Hryvnia for simplicity's sake. Since 2016, they have been working on a blockchain technology to power the token.

Certain aspects of development have been straightforward while other aspects have been more challenging. For example, TNBU wants the digital currency to be equally usable for day-to-day purchases of goods and services and international commercial payments. For this to be possible, the coin must also be fungible anywhere and everywhere. News reports say they finally have a working product.

According to Ukraine's leaders though, E-Hryvnia is not cryptocurrency. They are steadfast in their assertion that it is nothing more than a digital representation of their paper currency. That has cryptocurrency purists smiling given the fact that E-Hryvnia is controlled by a central bank, automatically disqualifying it as a legit crypto.

The semantic question

It's great that Ukraine's government recognizes that its digital currency is not a legitimate cryptocurrency. But what about other countries, like Venezuela for example. Venezuela released its own state-backed coin in 2018 based on the nation's oil production. They assert that their currency is a cryptocurrency in every respect.

Is it a cryptocurrency because cryptography is utilized to protect transaction records and coin ownership? Is it a cryptocurrency simply because it is treated as a digital token rather than possessed as paper bills and minted coins? We don't know for the simple fact that Venezuelan leaders have thus far not participated in the conversation.

Perhaps it's just a matter of semantics. Maybe the word 'cryptocurrency' is not even relevant anymore. The term directly relates back to the fact that cryptography is the primary means of protecting digital currency assets. And if that is the dictionary definition of the term, then Ukraine's digital currency would qualify as a cryptocurrency.

On the other hand, there appears to be more to cryptocurrency than just cryptography. There is decentralization, blockchain, coin mining, and so forth. With so many factors now defining legitimate cryptocurrency, perhaps it's time to come up with a new term. Perhaps 'cryptocurrency' is a dated term that no longer applies.

There is a clear difference

One thing we can all agree on is that there is a clear difference between Ukraine's digital currency and something like Bitcoin. That clear difference is illustrated through the principle of decentralization. It is a principle that does not apply in Ukraine's case.

Bitcoin is decentralized inasmuch as it is not created or controlled by any national government or central bank. Governments may feel like they can regulate how Bitcoin is used and banks can certainly process Bitcoin transactions if they want to get in on the market. But neither governments nor banks can actually control the coins themselves.

The total number of coins available through the platform was established on its creation. That is a static number that cannot be changed. Therefore, a government cannot simply create more bitcoins in the same way it mints its fiat coins. A bank cannot manipulate coin supply in the same way it manipulates fiat supply.

All of that is thrown out the window in Ukraine and Venezuela. In both cases, the digital currencies created by their governments are completely controlled by government policy and central banks. The two entities combined can do everything with their digital currencies that can be done with their fiat currencies. That means that neither of their digital currencies qualify as crypto.

Why it matters

You may view this as nothing more than a discussion on semantics and something that doesn't really matter. But think again. It does matter, for a whole host of reasons. Those many reasons start with the very real possibility of confusing consumers.

Consumers who do not know the difference between a legitimate cryptocurrency and a government-backed digital token may not know enough to make an informed choice. That could lead them to blindly accepting government-backed digital currencies because of their inherent trust in government. That is not necessarily a problem except that adopting government currencies maintains the status quo. It defies the very purpose of cryptos to begin with.

It also matters in the sense that governments may eventually decide to severely restrict the use of legitimate cryptocurrencies so as to force consumers to adopt their state-backed digital coins. Cryptocurrencies still enjoy relative freedom right now because governments do not view them as a threat to fiat. That would change as more government-backed coins enter the marketplace.

We can already see things moving in that direction. Several governments have begun the process of regulating cryptocurrency transactions. Again, Venezuela is a good example. They are tightening restrictions on Bitcoin and other legitimate cryptos in hopes of moving people away from them and toward their own coins instead.

A new term and definition

We are by no means predicting the end of cryptocurrency at the hands of governments and central banks. What we are suggesting is that the cryptocurrency community may soon be forced into officially redefining what a legitimate cryptocurrency is in order to distinguish it from government-backed alternatives.

Any such redefining would also facilitate coming up with a new term. In much the same way the electronic cigarette community came up with the term 'vaping' to differentiate between using one of their devices and smoking combustible tobacco, the crypto community may have to come up with a new term to create a clearer distinction between decentralized and centralized digital monetary systems.

Perhaps 'decentralized digital currency' or 'autonomous digital currency' would work. A new term backed by a very clear definition would finally establish what a legitimate cryptocurrency is. It would mean less confusion when governments create their own digital coins. It would limit future attempts by large commercial banks to get in on the crypto market by introducing their own coins that don't truly qualify as legitimate cryptos.

Does any of this affect you as a Bitcoin gambler? Not yet. Furthermore, it is quite possible that it will never impact you. We don't know right now. The point is just to say that government-backed digital currencies are not legitimate cryptocurrencies if they are still centralized. At least they are not legitimate in the same vein as Bitcoin, Litecoin, Ethereum, etc.

You still have the ability to visit your favorite online gambling site to play Mega Moolah bankrolled by your cryptocurrency coins. You will have that ability for the foreseeable future. But there may come a day when it's no longer possible because the world's legit cryptocurrencies have been replaced by government-backed digital currencies. That is something we should all be paying attention to.