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Q1. What are the costs and benefits of using Bitcoins for transactions?

The benefits of using Bitcoins for transactions are:


1.

Transparency: There is increased transparency with Bitcoin as every

transaction that has ever occurred in the Bitcoin network is recorded in the
system.
2.
Cost effective: For online transactions, bitcoin is 60% cheaper than
Paypal and hence easier to use for small businesses and a wide variety of
vendors in the emerging markets.i
3.
True Global Accessibility: The BTC also provides true global access
as there are no complicated exchange rates and further charges for
facilitating currency conversion like in the case of traditional currency.ii
4.
Data Privacy and Security: Bitcoin transactions have total privacy as
only their public keys, time and amount is recorded. Hence no personal
information is ever stored, collected or transmitted unlike traditional online
purchases.
5.
No interference from Institutions: Bitcoin can provide institution free
access to financial services in several parts of the developing world where
institutions and political regimes are corrupt, and are a major bottleneck to
any form of economic upliftment.
The costs of using Bitcoins are:
6.

Bitcoin is just digital code and does not have any guarantor that

provides an assurance of its intrinsic value unlike traditional currency. Its


value is purely speculative and based on supply and demand i.e., what
buyers are willing to pay at any given point of time.
7.
Although ownership of each and every coin is verified and
registered, if a user were to lose or erase records of ownership, there is no
way to reclaim the ownership.
8.
Our additional research revealed that Bitcoin has a lot of technical
complications to be used widespread in the marketplace. It takes 10 minutes
to confirm and verify a transaction and has a capped throughput of 7
transactions per second. To put that in perspective, an average VISA
transaction is almost instantaneously confirmed and VISA also handles close
to 2000 transactions per second with a peak rate of 56,000 tps. Clearly there
is a long way to go before Bitcoin is widely accepted.iii

9.

We also believe that the above mentioned point along with no buyer

protection (no reversal of transaction is possible) illustrates why Bitcoin is not


widely accepted by vendors and hence not so appealing to be used as a
mode of payment.
10. As Bitcoin facilitates borderless transactions with no oversight by
authorities, it could be used for laundering money from drug trafficking and
other illegal business activity. The transactions also cannot be tracked to the
users unless their wallets are published publicly. Even then a new wallet can
be generated easily and the user can continue business as usual.iv
11. As the chart below shows Bitcoin is highly volatile compared to
traditional currency and thus poses several complexities while using it for
buying goods especially internationally. Additionally the value of Bitcoin is
different on the major exchanges that trade bitcoin and with no possibility of
arbitrage.

Q2. According to economic theory, a true currency must be capable of serving


as a unit of account, a medium of exchange and a store of value. Does Bitcoin
fulfill these criteria?
We analyze this question in three parts namely the 3 criteria:
1.

Unit of Account:

For a currency to be accepted as a unit of account, consumers

everywhere need to be able to compare prices of comparable goods. For


Bitcoin, this is extremely difficult as the major exchanges offer different
exchange rates for bitcoin and thus violate the basic law of one price. The

high fees to setup and transfer money between accounts and the tedious
verification process makes the arbitrage opportunity unprofitable to exploit. v

Additionally, the prices of goods has to be quoted to the 5th


decimal due to the high value of one unit of bitcoin. So the price of ordinary
retail goods are extremely complex and additionally several sales and
accounting software typically only offer accuracy of only upto 2 digits.

As we have noted previously, the value of Bitcoin is highly


volatile as well which also makes it complex to quote prices of everyday
goods.
Based on the above criteria, we think that Bitcoin is not a good enough unit
of account until at least the shortcomings shared above are overcome.
2.

Medium of Exchange:

Bitcoin has seen wide use only as tool of speculation, with

close to 80% of transactions purely speculative. As discussed elsewhere in


this report, the throughput of transactions capped at 7 transactions per
second. If a majority of such transactions were speculative, the widespread
use for consumer purchases would be extremely tedious. This along with a
host of other problems means merchants cannot rely on it as a means of
transaction.

As discussed elsewhere in this report, obtaining bitcoin itself is

tedious for the average consumer as mining it requires significant computer


processing capabilities. Exchanging it for currency also poses several
complexities as each exchange quotes different rates and arbitrage is nearly
unprofitable violating the law of one price.

Bitcoin also has no facility for credit yet as no bitcoindenominated credit cards are available.
Based on the above criteria, we believe that Bitcoin is not yet a suitable means
of exchange.
3.

Store of Value:

As we have discussed previously, Bitcoin experiences a lot of

volatility and trades across different exchanges with different values violating
the law of one price.

Even on acquiring, Bitcoin has to be stored in digital wallets


which are frequently subject to hacker and virus attacks and could be lost

forever. Without proper digital security and protections against cyber-attacks,


bit coin exist as a reliable store of value.
Q3. Currencies have always been expected to grow, as money, with real
economic output. If they were to grow too fast, they fuel inflation; too slow,
deflation. What would be Bitcoin's impact, if any, over time?
We believe that Bitcoin as a currency has a very challenging future ahead. While
it definitely does have some very unique advantages in its use as currency, we
believe that the shortcomings for Bitcoin are too many. First of all, as we have
discussed earlier, Bitcoin is highly volatile, illiquid as a commodity making it
hardly a good store for value or a medium of exchange. If an investor held a lot
of wealth in Bitcoins, his/her solvency would be called into question. As there
are no central issuers of the currency, there is no control and regulation of
money supply, a critical economic tool to accommodate to the needs of a
modern economy. Instead with Bitcoin money supply is increasing at a steady
rate and completely independent of any economic logic. Also once a bitcoin is
mined it cannot be retired to reduce money supply. Instead, money supply is
reduced by unforeseen events like the Mt. Gox (a bitcoin exchange) bankruptcy
which lead to the disappearance of a large number of Bitcoins. In such a case
Bitcoin carries a significantly more financial risk than traditional currency.
However, we believe that Bitcoin as a technology innovation will be just the
beginning and also think that there will be more innovation in this space to
improve upon. The block chain technology under which Bitcoin operates is
revolutionary as it solves an important problem of transparency of financial
transactions without compromising on the privacy of users. Every transaction is
recorded and can be easily used to set up contracts. One example we came
across was how the block-chain can make sure your car will automatically
authenticate your identity and proof of purchase through your mobile phone and
will only then turn on.vi
We also think that with the technology is in its nascent stages and with the
interest of big banks like Wells Fargo and Goldman Sachs and venture
capitalists, the block chain technology stands to grow.

i "The Case for Coin: Bitcoin Pros and Cons." Ecwid ECommerce Widgets RSS. N.p., n.d. Web. 26 Jan.
2016.

ii "The Case for Coin: Bitcoin Pros and Cons." Ecwid ECommerce Widgets RSS. N.p., n.d. Web.
26 Jan. 2016.
iii "Scalability." - Bitcoin Wiki. N.p., n.d. Web. 26 Jan. 2016.

iv "Advantages." Bitcoin. N.p., n.d. Web. 26 Jan. 2016.


v Yermack, David. "Is Bitcoin a Real Currency? An Economic Appraisal." (2014): n. pag. Web.
vi "Do Cryptocurrencies Such as Bitcoin Have a Future?" WSJ. N.p., n.d. Web. 26 Jan.
2016.http://www.paymentlawadvisor.com/files/2014/01/GoldmanSachs-Bit-Coin.pdf, Page 6 BTC volatility,
PAge 13, BTC timeline