Featured Product

    BoE Paper Examines Blockchain Structure and Cryptocurrency Prices

    February 14, 2020

    BoE published a staff working paper that models both the financial market for cryptocurrency and the market for blockchain space, to explore the interactions between them. The paper presents a model of cryptocurrency price formation that endogenizes the financial market for coins and the fee-based market for blockchain space. It shows that blockchain congestion leads to novel interactions between cryptocurrency speculation, monetary usage, and prices. The paper explains why blockchain usage and fees tend to be driven by speculative trading, rather than payments activity. The results of the study have implications for the long-term future of cryptocurrencies.

    The paper provides an overview of the key features of a cryptocurrency that are useful for understanding the model, including blockchain technology, the trading environment, and the use of cryptocurrency as money. The paper highlights the two distinctive features of cryptocurrency: a price determined by the extent of its usage as money and a blockchain structure that restricts settlement capacity. It then describes the model and explores how speculative trading affects price formation and volatility. Next, the paper examines a variant of the model in which agents have imperfect information about the cryptocurrency technology. Finally, it concludes with a discussion of how the results may be verified empirically, also providing all proofs in the Appendix. 

    The results have implications for the long-term future of cryptocurrencies. Short-term speculation can crowd out usage. Hype results in speculative pressure, making cryptocurrency less useful as money and, paradoxically, hampering adoption. In the longer run, as private information is incorporated into the price, the gains from trading decrease, and speculative activity falls. Reduced competition for blockchain space then allows cryptocurrency to function better as a means of payment, and to fulfill its potential. The model cannot predict whether cryptocurrencies will eventually be adopted as money, but it does suggest that such an outcome would be consistent with the history observed so far.

    By competing for limited blockchain space, speculators impose an externality on monetary users that we do not see with other forms of money. The study shows that limited settlement space creates competition between users of the currency; therefore, speculative activity can crowd out monetary usage. This crowding-out undermines the ability of a cryptocurrency to act as a medium of payment, lowering its value. Hence, higher speculative demand can reduce prices, contrary to standard economic models. Crowding-out also raises the riskiness of investing in cryptocurrency, explaining the high observed price volatility. 

     

    Related Link: Working Paper

     

    Keywords: Europe, UK, Banking, Insurance, Securities, Cryptocurrencies, Blockchain, Fintech, Crypto Assets, BoE

    Related Articles
    News

    ECB Amends Guideline on Temporary Collateral Easing Measures

    ECB published Guideline 2021/975, which amends Guideline ECB/2014/31, on the additional temporary measures relating to Eurosystem refinancing operations and eligibility of collateral.

    June 17, 2021 WebPage Regulatory News
    News

    EIOPA Releases Report on Artificial Intelligence Governance Principles

    EIOPA published a report, from the Consultative Expert Group on Digital Ethics, that sets out artificial intelligence governance principles for an ethical and trustworthy artificial intelligence in the insurance sector in EU.

    June 17, 2021 WebPage Regulatory News
    News

    HKMA to Increase Focus on Suptech and Regtech Cloud Adoption

    HKMA published the seventh and final issue of the Regtech Watch series, which outlines the three-year roadmap of HKMA to integrate supervisory technology, or suptech, into its processes.

    June 17, 2021 WebPage Regulatory News
    News

    EC Consults on Improving Transparency in Secondary Markets for NPLs

    EC launched a targeted consultation to improve transparency and efficiency in the secondary markets for nonperforming loans (NPLs).

    June 16, 2021 WebPage Regulatory News
    News

    BIS and Nordic Central Banks Launch Innovation Hub in Stockholm

    BIS, Danmarks Nationalbank, Central Bank of Iceland, Norges Bank, and Sveriges Riksbank launched an Innovation Hub in Stockholm, making this the fifth BIS Innovation Hub Center to be opened in the past two years.

    June 16, 2021 WebPage Regulatory News
    News

    FDIC Tech Sprint Aims to Explore Technologies to Reach Unbanked

    FDITECH, the technology lab of FDIC, announced a tech sprint that is designed to explore new technologies and techniques that would help expand the capabilities of community banks to meet the needs of unbanked individuals and households.

    June 16, 2021 WebPage Regulatory News
    News

    EC Releases Sustainable Finance Taxonomy Compass

    EC released the EU Taxonomy Compass, which visually represents the contents of the EU Taxonomy starting with the EU Taxonomy Climate Delegated Act.

    June 16, 2021 WebPage Regulatory News
    News

    FDIC Proposes Amendments to Real Estate Lending Standards

    FDIC is seeking comments on a rule to amend the interagency guidelines for real estate lending policies—also known as the Real Estate Lending Standards.

    June 15, 2021 WebPage Regulatory News
    News

    EIOPA to Consider Liquidity Risk in Stress Test for 2021

    EIOPA published its annual report, which sets out the work done in 2020 and indicates the planned work areas for the coming months.

    June 15, 2021 WebPage Regulatory News
    News

    ESRB Paper Discusses Measurement of Impact of Bank Failure via Lending

    The ESRB paper that presents an analytical framework that assesses and quantifies the potential impact of a bank failure on the real economy through the lending function.

    June 15, 2021 WebPage Regulatory News
    RESULTS 1 - 10 OF 7116