Can Bitcoins be made to work in the financial system?

Bitcoins have emerged as a $230 billion asset class at the current price. At the peak of its price, just a month ago, Bitcoin was a $450 billion asset class. These numbers may be subject to fluctuations and may not carry too much weight. What matters is that Bitcoin is emerging as a very important currency class on its own. Over a period of time, central banks, governments and businesses will have to plan, assess or reassess their approach towards the Bitcoin. What is the impact of Bitcoin on financial system and how will Bitcoin impact on monetary policy? However, Bitcoin is just too big to ignore!

The big challenge for Bitcoin is to make them work within the confines of the financial system. In fact, for Bitcoin and Financial Services; that is the future. If Bitcoin remains insular for too long then it is unlikely to pick up in a big way. Let us look at Bitcoins in particular and crypto currencies in general as the equivalent of the internet in 1995. For a very long time, internet remained an application confined to military and naval use only. Governments did use it in a small way but it never really spread. It was only in the mid-1990s when the internet protocol was created and browsers started making the net available that it really took off. Today it is hard to imagine life without the internet. That is the way crypto currencies need to be developed. Here are 4 ideas to integrate Bitcoins better into the financial system..

Focus on Blockchain more than just Bitcoins..
Blockchain is the technology on which the crypto currencies like Bitcoins are based. For Bitcoins to be popular and acceptable, the spread of Blockchain is important first. Remember, Blockchain is a shared ledger technology that puts every record process through a very rigorous audit before recording it. The record once created is indelible and cannot be modified. It is essential to convince governments and central banks about the integrity of the Blockchain mining process that makes it so fool proof. Once there is conviction about the utility of Blockchain and its tight security, there will automatically be a greater acceptance of Bitcoins. At this point of time, central banks find Bitcoin too speculative for their comfort and that can only change if there is a greater acceptance of Blockchain as a technology. Remember, Blockchain can have extensive applications for government.

Regulators need to be taken into confidence..
This is perhaps the most important part of popularizing Bitcoins. There are two sets of regulators who could be worried. Firstly, there are the central banks. These are the creators of money in any economy and they fear, and rightly so, that the central bank may lose control over money creation and therefore over monetary policy. This is a major concern that needs to be addressed. Secondly, there are capital market regulators like SEBI who will be concerned about the colour of money that comes into the markets. Already, capital market regulators are trying to estimate the influx of slush money into markets and Bitcoin does appear vulnerable. Unless these two sets of regulators are trained and taken into confidence, it will be hard for crypto currencies like Bitcoin to really take off!

Bitcoins as a check on monetary expansio..
This is a very important role that Bitcoins can play in the financial system. The concept of Bitcoins first came about in 2008-2009 when most economies started adopting a cheap money policy to propel growth in the aftermath of the financial crisis. That was understandable but the only problem was that central banks just allowed it to continue for too long. Crypto currencies like Bitcoins have limited supply and therefore are unlike fiat currencies like the Dollar, Euro and INR. Since there are supply limits, the price of these crypto currencies will always tend to be elevated. But the bigger role that Bitcoins can play going ahead is that of policing of debasement of core currencies. When central banks use cheap money policies for too long, the value of Bitcoin starts going up and to that extent it must be used as a check on monetary policy.

Create an institutionalized market for Bitcoins..
In the Indian context the big step would be to institutionalize the market for Bitcoins. It is an idea whose time has come. Globally, the CBOE has permitted trading Bitcoin futures on the exchange. Two of the largest investing houses, Morgan Stanley and Goldman Sachs, have agreed to clear Bitcoin trades. Countries like Japan and Germany already permit free trading of Bitcoins. Many websites are accepting Bitcoins for ecommerce transactions. The sooner countries like India institutionalize the market for Bitcoins, the better it will be. That could be the big challenge. The bottom-line is that Bitcoin needs to be brought into the financial mainstream so that it does not remain a peripheral currency.