SWIFT report examines Bitcoin as a currency

The SWIFT Institute recently announced new research which “assesses whether the global financial community is accepting Bitcoin as a valid currency.” The research is based on a working paper first published in February 2015, “Virtual Currencies: Media of Exchange or Speculative Asset.”

The paper has since been revised, and was [republished](industry-resources/industry-research/2016#Media%20of exchange or speculative assets?) last June. The research was conducted by; Dr. Dirk G. Baur from UWA Business School, Dr. KiHoon Hong from Hongik University College of Business and Dr. Adrian D. Lee from the University of Technology Sydney.

The authors examine the relationship between digital currencies, primarily bitcoin, and fiat currencies. They evaluate any “immediate risks that virtual currencies pose to monetary, financial or economic stability,” according to the announcement.

“Contrary to conventional wisdom, our research shows that fiat currencies crowd out Bitcoin, not the reverse, and that the design and size of the Bitcoin market deprives the currency of its intended use as a medium of exchange.”
— – KiHoon Hong, Hongik University College of Business

The SWIFT report is not the first to assert that the size of the bitcoin market hampers its use as a medium of exchange. The International Monetary Fund (IMF) published a discussion note in January, “Virtual Currencies and Beyond:Initial Considerations,” which came to the same conclusion.

The IMF states the current size and limited acceptance of virtual currencies (VC), including Bitcoin, “significantly restricts their use as a medium of exchange.” The IMF report also found that digital currencies currently “do not fulfill the three economic roles associated with money,” which are its use as a store of value, a unit of account, and a medium of exchange.

There is also little evidence, according to the IMF, that digital currencies are used as an independent unit of account. “Despite the very rapid growth of VC-based payments, the number and volume of transactions in VCs remain small,” states the IMF paper. “U.S. currency in circulation is US$1.4 trillion, while U.S. money supply (M2) is about US$12 trillion.”

Through an analysis of the bitcoin blockchain, SWIFT found that a third of bitcoins are held by investors. A “minority of users,” holding small bitcoin balances, appear to use the digital currency as a medium of exchange, “despite or due to its high volatility and large returns.”

As a long-term investment, bitcoin offers diversification as “no correlation exists between Bitcoin and traditional asset classes,” the SWIFT paper states. “Bitcoin returns are uncorrelated with traditional asset classes such as stocks, bonds and commodities, both in normal times and during periods of financial turmoil.”

The paper states that those who use bitcoin as an alternative currency or money “do not react to past returns or volatility,” unlike those who hold bitcoin as an investment. However, with increased trading volume, bitcoin’s volatility is decreasing.

ARK Invest and Coinbase published a detailed report in June, examining bitcoin as a new asset class. Authors Chris Burniske and Adam White attribute the decreasing volatility to, “more stable and liquid spot exchanges, greater regulatory approval, broader ownership, and increasingly reliable price discovery data.” The ARK Invest paper analysed bitcoin price movements over the past five years, “bitcoin is the only asset that maintains consistently low correlations with every other asset.”

“While bitcoin still experiences large price swings, the magnitude of those swings has diminished resulting in decreased volatility. At the start of May 2016, bitcoin’s daily volatility was about a third that of five years ago, and 24% less than at the start of May 2015.”
— – ARK Invest and Coinbase report

During a speech in November 2015, Senior Deputy Governor of Bank of Canada, Carolyn Wilkins, briefly discussed what would happen if a currency “that’s not denominated in a national currency,” became more popular and used as money.

“This would create a new dynamic in the global monetary order, one in which central banks would struggle to implement monetary policy,” Wilkins said, “And, central banks couldn’t act as lenders of last resort as they do for their own currencies.”

The Bank of Canada has since researched digital currencies extensively. The Bank published a Staff Working Paper last March, “’A Bitcoin Standard: Lessons from the Gold Standard.” Author Warren E. Weber states “it is unlikely that the Bitcoin standard will come into existence, because governments and central banks will take actions to prevent it.”

A similar sentiment was expressed by JPMorgan Chase CEO, Jamie Dimon, in November 2015. “Virtual currency, where it’s called a bitcoin versus a U.S. dollar, that’s going to be stopped,” Dimon predicted. “No government will ever support a virtual currency that goes around borders and doesn’t have the same controls. It’s not going to happen.”

Dimon’s and Weber’s sentiments are echoed in the SWIFT report, “Given Bitcoin’s global decentralized nature and independence from any central bank or supranational authority, regulatory oversight may be difficult and challenging.”