El Salvador’s adoption of bitcoin as legal tender bears the hallmarks of totalitarianism rather than financial inclusion, says Steve Hanke, professor of applied economics at Johns Hopkins University in Baltimore.
Legislation passed in June makes El Salvador the first country in the world to recognise a digital currency as legal tender. The law, which comes into effect on September 7, stipulates that “every economic agent must accept bitcoin as payment when offered by whoever acquires a good or service.” To encourage take-up, every adult will get $30 worth of bitcoin when they sign up for the government’s cryptocurrency app.
President Nayib Bukele has argued that the move will increase bitcoin investment in El Salvador and cut the cost for expatriates to send money home. A quarter of Salvadoran citizens live in the US, and the country depends heavily on remittances, which make up 21% of GDP. But the World Bank has rejected a request from El Salvador to help implement the plan, citing transparency issues and the environmental impact of Bitcoin mining. And J.P. Morgan said in research published in June that it’s hard to see “any tangible economic benefits” from using bitcoin as a second currency.
There was no public consultation before the legislation was pushed through. Hanke stresses that the obligation to accept bitcoin makes the law a case of forced tender rather than the adoption of legal tender. Forced tender laws are “a staple of totalitarian regimes,” Hanke says. The Soviet Union made use of forced-tender laws, while Nazi Germany would impose currency usage in conquered countries, he argues.
El Salvador has lacked a local currency since the US dollar was adopted in 2001. Bitcoin holders in countries such as Russia, China and Iran will now be able to use El Salvador to cash out their holdings, potentially draining the country of its dollar reserves in the process, Hanke says. “They will suck them up like a vacuum cleaner. There will be no money in the country.”
According to Freedom House, “widespread corruption undermines democracy and the rule of law” in El Salvador. Democracy remains fragile after a 12-year civil war ended in 1992. Bukele was elected for a single five-year term in February 2019 in elections that most observers accepted as being free and fair. But the regime has been showing signs of totalitarian drift. In February 2020, Bukele ordered security forces to occupy the national legislature as he sought to compel approval of a security funding request. The supreme court told the administration to refrain from deploying security forces in such a way, and in October, the court’s ruled Bukele’s actions unconstitutional.
In May 2021, emboldened by an increased majority in the legislative assembly, Bukele retaliated by ousting supreme court judges and the attorney general Raúl Melara. The US Agency for International Development (USAID) responded by withdrawing aid from El Salvador’s national police and a public information institute. The US money will be used to support civil society groups instead. Bukele addressed the international community on Twitter and said the country was “cleaning our house … and it’s none of your business.”
Time to stick a fork in it?
One problem that El Salvador may face is the prospects of further subdivisions, or ‘forks’ of bitcoin. With forking, the blockchain that lies behind bitcoin is divided into two separate entities as a new product is created. Forks are themselves divided into soft forks, where backward compatibility is retained, and hard forks, where that compatibility is lost and the new transactions, under the old rules, are not seen as valid. In the latter case, bitcoin users are usually divided over whether the new fork should be used or not, with many forks failing to gain widespread acceptance. The most widely used fork is Bitcoin Cash, which in June ranked as the eleventh-largest digital currency by market cap.
Putting a fork into a currency which traders are legally obliged to accept takes us into unknown territory. Vanessa Whitman, finance and fintech disputes partner at the CMS law firm in London, counts 105 forks in the bitcoin blockchain, although only a small handful have become viable “projects”. It is “therefore likely that there will be more forks in the future,” she says.
Yet the Salvadoran legislation refers only to “bitcoin”. Most have assumed that the legislation refers only to bitcoin digital currency, and not to any of the other cryptocurrencies born out of previous bitcoin forks such as bitcoin cash or bitcoin gold. “Each of the bitcoin currencies born out of these forks have a different exchange value meaning that it would be more difficult to manage as legal tender,” Whitman says. “It’s likely therefore that in the event of future bitcoin forks, El Salvador will have to be explicit about the precise bitcoin currencies it is and is not treating as tender.”
Libertarian arguments that bitcoin allows people to use a kind of money that is not under government or central bank control, and could potentially serve as a hedge against hyperinflation, cut little ice with Hanke. The new law, he says, is “extremely authoritarian” but the “little authoritarians” behind the plan haven’t yet worked out how to enforce it. “The don’t have bitcoin police in El Salvador.”
Bitcoin is highly volatile, and can move sharply in value in response to a short tweet from an influential user. Hanke calls it a “highly speculative asset with a fundamental value of zero.” The bitcoin community, he adds, behaves like a “religious movement” which might hold the price up in the short term. Ultimately, though, “bitcoin will face competition and will see its value fall considerably.” He does not oppose crypto currencies as such, so long as they are fully backed by a real asset such as an anchor currency or gold. “That would be totally fool-proof and would drive bitcoin out of the market.”
Hanke also rejects the argument on cheaper remittances, pointing out that El Salvador’s remittance costs are the lowest in Latin America and among the lowest in the world. The World Bank says that El Salvador has the sixth‐lowest remittance costs of the 104 countries it monitors. A rate of 2.85% is much less than the cost of receiving bitcoin and then turning it into dollars, Hanke says. “Bitcoin will increase fees and risks for Salvadorans.”
There are just two bitcoin ATMs in the country, Hanke says, both in a small, coastal area that has been dubbed “Bitcoin Beach.” Exchanging bitcoin for dollars costs a 5% minimum fee. That is just the ATM charge, and does not include the “network fee” to execute the transaction.
In practical terms, Hanke says, there is no way that bitcoin will be used in day to day transactions. “It’s just not going to happen,” he says, pointing to the fact that 70% of Salvadorans don’t even have a bank account. “You can’t convert bitcoin easily and cheaply” into major currencies, meaning that it’s no more than a speculative asset, he says. The danger now is that other countries such as Paraguay and Panama will be tempted to follow suit under pressure from “dark forces” who want a way to get their hands on dollars, he adds.
David Whitehouse is a freelance journalist in Paris.