Unpacking El Salvador’s Bitcoin Rollout

El Salavador Flag and Bitcoin logo

Today’s the day that El Salvador officially recognises Bitcoin as legal tender. For the first time, a public, decentralised cryptocurrency is being adopted by a sovereign nation. What does this actually mean for the people, the economy, and crypto?

Anyone can use Bitcoin

Although El Salvador makes its use official, there is nothing to stop people from using Bitcoin and other crypto currencies, whatever country they live in. Crypto is not the easiest thing to use, although this is becoming much more straightforward thanks to modern applications providing good interfaces with the different blockchains. Use may be limited by infrastructure challenges such as power outages or lack of internet connectivity, but there are plenty of reports of people using things as simple as SMS messaging to transact, settling on the blockchain next time they are able to connect. Local laws in some countries may aim to restrict use, but decentralised cryptocurrencies are not under anyone’s control.

Cryptocurrencies are providing economic opportunities to people that they may not have had before. At the most basic level, they provide a place to store value, particularly for citizens whose local sovereign currency is highly inflationary and considerably more volatile than the likes of Bitcoin. In the last few years, crypto has spawned a whole industry of decentralised finance (DeFi), providing the things we take for granted, such as access to loans and trade finance, to people and businesses who have previously had no such financial stability.

El Salvador’s leap into crypto

Why would a small South American country decide to adopt a currency it can’t control? In stable economies, the sovereign currency is part of the toolkit to maintain monetary stability, to control inflation and keep the country’s economy ticking. El Salvador, however, scrapped its sovereign currency in 2001 in favour of the US Dollar. This means that they already have a currency they can’t control, and furthermore one that is manipulated to manage the huge US economy. Choosing to add into the mix currency that is not controlled by anyone dilutes the effect of US monetary decision making on the El Salvadorean economy.

There are other considerations. Cross-border remittances – people sending money home to their families from jobs abroad – make up a fifth of the country’s revenue. Cryptocurrencies can make this process faster and cheaper, and having crypto as legal tender ensures that the recipient can buy bread and pay taxes without having to convert back to dollars. Access to digital financial services, something we take for granted but others do not have, is being introduced through the government’s crypto wallet. There is also a potential payoff for the government. Access to geothermal energy, the ultimate zero carbon source, has given rise to plans for Bitcoin mining. This could provide a new income stream for El Salvador’s troubled economy.

The elephant in the room

There is local resistance to the introduction of Bitcoin. It’s new, unfamiliar and notorious, and outside the test bed of El Zonte adoption has been slow. This is in part due to the lack of a reliable energy and connectivity, outages dropping access to the network at a moment’s notice. In this situation, paper dollars win.

There are also concerns about the environmental impact of Bitcoin adoption. The transactions themselves use the Lightning network, fast and cheap channels sitting above the Bitcoin blockchain. They barely touch the Bitcoin ledger, in the same way that the likes of Visa and Mastercard run millions of transactions on their networks and settle in bulk with the banking system. The low carbon mining nodes that are planned will also have minimal impact. However, Bitcoin has an odd network effect. As its value rises, so do the profits of miners who have invested in hardware to validate transactions. The battle to mine the next block hots up as more and more miners come on stream for the prize, and cheap fossil fuel energy earns them as much money as renewables and geothermal sources. This is a challenge that has to be addressed.

A bright future?

El Salvador’s move to use a decentralised cryptocurrency appears to have been born of good intentions. It could well fulfil its promise of detaching the monetary system from the dominant US Dollar, stimulating the economy, and helping citizens to access digital financial services, as long as the infrastructure and support for citizens is in place. Only time will tell, and the world is watching.