Bitcoin: Balancing risks and benefits - Observer Research Foundation

Those who lack access to basic financial services like banking, credit, and insurance are considered financially excluded. The World Bank estimates that about 24 percent of the world’s adult population did not have access to regulated banking services in 2021, with about half of them living in just seven economies including India (Figure 1).

Figure 1: Adults with no bank account (%), 2021

 There is also a sizable population that may have access to basic banking but suffer from low financial resilience—they are deep in debt and have low savings or erratic income. They are especially vulnerable to financial shocks due to the lack of quality assets, whose earnings can cushion the shock. They are not necessarily poor—many are from the middle and lower-middle classes—but being priced out of asset ownership by events such as COVID-19 and the subsequent inflation spiral pushes them close to poverty. In the United Kingdom (UK), over 25 percent of the adult population was left with low financial resilience in the wake of the pandemic; globally, between 75 million to 95 million people could fall into extreme poverty.

In Assets for the Poor: The Benefits of Spreading Asset Ownership, sociologist Thomas M Shapiro points out that wealth has been a “neglected dimension” of social science’s concern with the financially weak. “We have been much more comfortable describing and analysing occupational, educational, and income distributions,” he writes, “than examining the economic bedrock of a capitalist society, private property.” In the current era of high inflation and rapid currency debasement, the asset-poor—those saving only in cash or in a simple savings account—are exposed to a crushing devaluation of their wealth. To decode this systemic impairment of the asset-poor (and Bitcoin’s structural intervention), we need to dive into an economic phenomenon called the Cantillon Effect.

Richard Cantillon, an 18^th-century banker, economist and author, observed that when new money is injected into the economy, those closest to the source of money benefit first (and most), while it trickles down much later (and less) to those further downstream. In other words, the distribution of new money is not neutral: It favours the credit-worthy over the credit-poor who do not have collateral, though it’s the latter who need the stimulus in a crisis. And the inequity gets worse over time because the entire population has to pay higher prices caused by the increase in the money supply.

Figure 2: The Cantillon business cycle

While Adam Smith is widely regarded as the intellectual father of modern capitalism, Cantillon had some prominent backers for that title—Joseph Schumpeter, Friedrich Hayek, and Murray Rothbard amongst them. Hayek called Cantillon’s work “the first attempt…to trace the actual chain of cause and effect between the amount of money and prices”. Now though, as unprecedented money printing by central banks (Figure 3), coupled with supply shocks, wreak havoc with consumer prices globally, Cantillon’s work on the uneven (and sometimes unpredictable) effects of monetary stimulus is emerging from Adam Smith’s long shadow.

Figure 3: Broad money as a percent of Gross Domestic Product

In trying to engineer a quick economic turnaround from COVID-19, the United States (US) Federal Reserve’s policies increased the dollar’s supply by an astounding 40 percent since 2020, while keeping interest rates near zero. Other central banks followed with their own big liquidity pumps, at a time when the global economy had come to a standstill with low productivity. As the excess liquidity pushed up demand, broken supply chains were not able to keep up; and with the Russia–Ukraine war putting further pressure on food and energy prices, we were thrown into the worst inflation spiral the world has seen in the last 40 years. Now, as central banks hurriedly raise interest rates to reduce liquidity and get a grip on inflation, we could be standing at the cusp of a recession, which we set out to avoid in the first place.

So who are the winners and losers of this Cantillon cycle? The winners are the asset-rich: Those who owned real estate, high-growth stocks, or Bitcoin before early 2020 got asymmetric returns on their wealth, aided by the monetary stimulus. The losers are the asset-poor, whose small savings got brutally devalued through a combination of high inflation and low-interest rates. Worse still, quality assets are now further out of their reach, and they could face unemployment in a recession.

Bitcoin disrupts the domestic Cantillon cycle by hard-capping and decentralising the supply of new money; it also gives nations an escape hatch from the global boom-and-bust cycles (the international Cantillon Effect) triggered by the US Federal Reserve, which supplies the premier currency of international trade.