Cryptocurrencies and the Future of Money By Matheus R. Grassellia Alexander Lipton

1. Introduction
   Cryptocurrencies, and the Distributed Ledger Technology (DLT) on which they are based, have captured the
   attention and imagination of investors, academics, politicians and the general public alike. Touted by technology
   enthusiasts as the future of money, cryptocurrencies promised advantages include a secure and completely decentralized payment system, a drastically simplified and more stable financial sector, and a more inclusive, transparent and
   democratic economy. Reality has been more nuanced and marked by high volatility in the price of well-known cryptocurrencies such as Bitcoin, an uncomfortable degree of opacity and centralization, and inefficient implementations,
   in particular with respect to energy consumption. The allure of using the latest developments in computer science and
   cryptography to solve time-honoured economic problem is, however, too great to ignore. Accordingly, despite the
   glaring difficulties just mentioned, novel applications of DLT continue to be proposed, including revolutionizing the
   way artwork and other intellectual property are traded through the use of non-fungible tokens.
   The full breath of applications of cryptocurrencies, blockchains and DLT, as well as the technical background
   needed to understand them, are of course beyond the scope of any single article, and we recommend [14] as an
   entry point to this fascinating world. In this paper, we restrict ourselves to a discussion of the strictly monetary
   applications of DLT. Specifically, we consider: pure-asset, or commodity-like, cryptocurrencies such as Bitcoins in
   Section 2; central bank digital currencies (CBDC) in Section 3; and the more recent class of so-called stable coins
   in Section 4. For each of these types of cryptocurrencies, we provide a definition, a brief description of the technical
   aspects underlying each of them, and some prominent representative cases. In each case, we explore their economic
   characteristics through an extensive use of balance sheet operations in the manner of [11]. In Section 5, we describe
   the type of macroeconomic framework that best aggregates these balance sheet operations in a coherent way, namely
   a stock-flow consistent model incorporating the different types of cryptocurrencies.
   Preprint submitted to Elgar September 22, 2021
2. Pure-asset coins
   There are many overlapping and non-equivalent ways to classify cryptocurrencies, such as their degree of centralization and anonymity, or the type of algorithm used for validation and consensus building [18]. As mentioned
   in the previous section, because we are primarily interested in the economic aspects of cryptocurrencies, we adopt
   a taxonomy based on their balance-sheet status. That is to say, we focus on what type of assets and liabilities they
   represent and for which economic agents.
   Economically speaking, the simplest type of cryptocurrency consists of what we call pure-asset coins. This is also
   the original and, at present, most widespread class of cryptocurrencies and includes not only the Big Three well-known
   examples of Bitcoin (BTC), Etherium (ETH) and Ripple (XRP), but also many precursors such as Ecash, Digicash,
   bit gold, and b-money, as well as subsequent variations such as Litecoin and countless replicas, or alt-coins, amongst
   them Dogecoin.
   From an economic point of view, the defining feature of this type of cryptocurrencies is that they are not a liability
   of any specific agent. That is to say, they figure on the balance sheet of the agents holding them as an asset, while
   they do not figure as a liability in the balance sheet of any other economic agent. In this respect, cryptocurrencies of
   this type are similar to physical commodities such as gold or silver, and should not be viewed as a financial asset such
   as a bond or a stock. Much like physical commodities, the simplest way to acquire pure-asset cryptocurrencies is by
   exchanging them for other assets (say purchasing gold using bank deposits) or by providing goods and services (say
   by being paid in gold for delivering a really good musical performance). Still analogous to physical commodities,
   another way to acquire pure-asset cryptocurrencies is through mining, that is to say, by executing a specific task that
   is associated with the creation of new coins—the term used for a unit of cryptocurrency—that did not exist before.
   Accordingly, the difficulty and related cost (e.g. in terms of required time and resources) associated with mining affect
   the available supply of such coins, and consequently their price.
   Once acquired, a pure-asset coin can then be exchanged by other assets (say by selling them to someone in
   exchange for some amount of bank deposits) or for other goods and services (say using them to pay a dealer for some
   artwork). In all cases, because they are not a liability for any economic agent, nobody has the obligation to covert a
   pure-asset coin into anything else. Moreover, unlike physical commodities, pure-asset coins do not have any intrinsic
   value for non-monetary purposes, for example in the way that gold can be used in dentistry. As a result, the value of
   such coins depend exclusively on the willingness of other agents accepting them in exchange of other assets, goods,
   or services.
   Take Bitcoin as an illustrative example. The decentralized, permissionless Bitcoin protocol, described for the first
   time in the seminal paper by Satoshi Nakamoto [15], launched the blockchain revolution. Nakamoto articulated his
   objective as follows:
   “I’ve been working on a new electronic cash system that’s fully peer-to-peer, with no trusted third party — The
   main properties: Double-spending is prevented with a peer-to-peer network. No mint or other trusted parties. Participants can be anonymous. New coins are made from Hashcash style proof-of-work. The proof-of-work for new coin
   generation also powers the network to prevent double-spending.”
   With some simplifications made for the sake of clarity, the protocol can be described as follows (see [14, Chapter
   5] for more details). The protocol uses a native token called Bitcoin or BTC. The main objective of the protocol is
   to make sure that ownership of BTC is internally consistent. The protocol says nothing about the value of BTCs in
   USD or other fiat currencies. This value is established by supply and demand considerations on (mostly centralized)
   exchanges, operating entirely outside the protocol itself. At its peak, the value of one BTC was 63,500 USD.

Cryptocurrencies and the Future of Money By Matheus R. Grassellia Alexander Lipton