The world should fear El Salvador’s bizarre bitcoin experiment

First a video on a giant screen showed an avatar of the president arriving by UFO. Then the man himself appeared to the strains of AC/DC’s You Shook Me All Night Long and encouraged the raucous audience to “feel the bit”.

Taking the stage at a beach resort in Mizata in November dressed all in white and with his trademark backwards baseball cap, Nayib Bukele, the president of El Salvador, announced his plan to build the world’s first volcano-powered “bitcoin city”.

El Salvador president Nayib Bukele is staking a lot on bitcoin.Credit: AP

The tax haven, built in the shape of a giant coin, would be financed with bitcoin bonds, Bukele claimed - to a certain amount of scepticism. But the central American country is poised to launch its first $US1 billion ($1.3 billion) so-called “volcano bond” in the coming days.

The finance minister has said it will be oversubscribed. Sovereign debt issuance is rarely this interesting.

The actual bond makes very little investment sense. It pays interest of 6 per cent, which is much less than a standard Salvadoran sovereign bond, and investors get 50 per cent of the increase in value of bitcoin after five years.

If you think bitcoin’s great, why not invest directly in the cryptocurrency, get 100 per cent of the upside and the ability to cash out whenever you want?

But the bond will also allow El Salvador, which adopted bitcoin as its official currency last year, to raise money beyond the prying eyes of international institutions like the IMF.

It’s a swerve that is all the more topical given the economic sanctions that were imposed on Russia following its invasion of Ukraine. The West was able to effectively seize the Kremlin’s foreign reserves and hamstring the country’s banks because of US control over the dollar payment system.

In recent years the US has begun to eschew its assumed role as the world’s policeman in a process that arguably started under Barack Obama, accelerated under Donald Trump and has been cemented under Joe Biden with the withdrawal of troops from Afghanistan. But, while Uncle Sam has become increasingly reluctant to deploy “boots on the ground”, it still has the mighty greenback.

The US dollar is, to all intents and purposes, the world’s currency of choice. It dominates global central banking reserves, trade finance and bank-to-bank payments and is used in some 88 per cent of all foreign exchange transactions. This means the US Treasury can conscript foreign banks to do its bidding on pain of being shut out of the dollar clearing system, which no lender could survive.

Cryptocurrencies help to undermine the power of the US dollar.Credit: Getty

This has allowed US officials to fashion a kind of all-seeing financial panopticon with a database of sanctioned individuals and firms that covers almost every nation on earth. Yet concerns have been raised that “weaponising” the dollar to place punishing sanctions on a G20 economy such as Russia will result in other countries looking at ways to operate beyond the purview of the global financial system to avoid a similar fate.

Cryptocurrencies are one means to undermine the power of the dollar. They allow online payments between two parties without the need for a financial intermediary. This opens the possibility of financial products and services that are accessible to all and controlled by none.

The collective term for this is decentralised finance, or DeFi. Niall Ferguson, the historian and author of The Ascent of Money: A Financial History of the World has suggested that bitcoin and other cryptocurrencies could be to the global dollar system as commercial capital was to feudalism.

It could certainly result in the panopticon being at least partially blinded. Your view on whether this might usher in a libertarian utopia or archaic free-for-all will largely depend on whether you think the US is a quasi-imperialistic bully or broadly a force for good.

In a widely quoted tweet, crypto guru Naval Ravikant wrote: “bitcoin is an exit from the Fed. DeFi is an exit from Wall Street.”

A report by the Cyber Digital Task Force run by Attorney General William Barr concluded: “Cryptocurrencies provide bad actors and rogue nations with the means to earn profits.”

Many countries have a love-hate relationship with the US. It is a beacon of economic hope to which many dream of emigrating. But the US has also meddled in their domestic affairs of Central and South America countries for decades, primarily to prevent communism taking root on its southern doorstep and very secondarily to stymie the flow of illegal drugs north.

Each new initiative like El Salvador’s bitcoin bond could chip away at the greenback’s supremacy a little, potentially making the world that bit harder to police and a touch more dangerous.

El Salvador was no exception. The Carter and Reagan administrations provided millions of dollars to the military-led junta and trained the death squads who deliberately targeted civilians and members of the Catholic clergy during the civil war with left-wing guerilla groups between 1979 and 1992.

But bucking against dollar supremacy could come at a cost. Talks between Bukele and the IMF over an important $US1 billion loan have stalled after the lender became concerned that the adoption of bitcoin could threaten financial stability.

Moody’s has downgraded El Salvador’s credit rating and the country’s dollar-denominated sovereign bonds have been dumped by international investors.

It also places the central American country in some slightly dubious company. India is said to be considering a rouble-rupee exchange that would allow it to buy oil from Russia on the cheap and Saudi Arabia is thinking about pricing some of its crude in yuan.

There are signs that Iran has been using complicated workarounds to avoid US sanctions in recent years and North Korea has used ransomware attacks to steal cryptocurrency in order to fund its nuclear programme, according to the UN. All of these countries, including El Salvador, were among the 35 which abstained in the recent UN vote condemning the Ukraine invasion. Bukele is due to visit Moscow in July.

There is very little chance of the dollar losing its crown as the global currency of choice any time soon.

However, each new initiative like El Salvador’s bitcoin bond could chip away at the greenback’s supremacy a little, potentially making the world that bit harder to police and a touch more dangerous.

Telegraph, London

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