Those with an interest in applications of block chain and digital currencies may not be surprised to hear that the use of bitcoins is hitting it big in places where one would least expect it: Jim Epstein at Reason.com recently wrote a fascinating story about the rapid rise of bitcoins in Venezuela. (He was also guest on econtalk last week. Check out the episode here if you prefer listening to a podcast.)
For those who don’t know, Venezuela holds the world's largest proven oil reserves surpassing even those of Russia or Saudi Arabia and once upon a time was one of South America's most advanced economies. Sadly, Venezuelans today have nothing to celebrate about their oil wealth and, instead, suffer the consequences of years of economic mismanagement.
The economy is stuck in one of the world's worst recessions: according to the IMF, economic output in 2016 contracted by 10% and inflation estimates range anywhere between 400% and 1,400% per annum. Press reports tell stories of severe shortages of food, drugs and consumer staples. Supermarkets are empty and unable to restock as the country has all but stopped trading with foreign suppliers.
What is more, after years of monetizing budget deficits, the Venezuelan Bolivar has lost nearly all of its value and the supply of hard currency (US Dollars, Euros) is carefully rationed. At credit and political risk we have paid numerous claims in recent years to overseas banks and suppliers, not because Venezuelan borrowers are necessarily insolvent, but because it simply proved impossible for them to obtain foreign exchange and settle invoices in a timely manner. As a result, Venezuelan buyers are now mostly off-cover in the credit and political risk insurance market.
For ordinary Venezuelans hard cash is equally difficult to come by and, worse, expose holders to enormous risks such as violent theft, ransom and extortion. Caracas, according to WorldAtlas, is the most dangerous city in the world based on 2015 homicide rates.
Instead, according to Epstein, Venezuelans are increasingly turning to Bitcoin: especially young and computer-savvy Venezuelans are using (free) electricity to mine bitcoins and use the proceeds to shop online for food and medical supplies. Courier services apparently have found ways to ship these purchases through customs and deliver all the way to bitcoin miners' doorsteps.
It's not a big mental leap to imagine what this means for Latin America, where important purchases in most countries are still made in US Dollars. Although the IMF in a primer on Virtual Currencies (VC) argues that VCs still have number of shortcomings in performing the basic functions of money – medium of exchange, store of value and unit of account – there is an obvious utility in reverting to VCs when conventional money is either tightly restricted and/or profoundly suffers from a lack of trust.
Moreover, if bitcoin transfers can be used to circumvent exchange restrictions, technological progress in payment systems can have important consequences on cross-border trade and capital flows. To be sure, physical goods will always have to clear a custom's office, even if suppliers may be able to settle invoices more timely. But what about services, especially those provided by footloose and trust- intensive sectors such as financial services, including insurance?
There is at least no economic reason why the seller of, say, a parametric insurance product, would have to settle a policy in the jurisdiction of the insurance buyer. Quite to the contrary: we know very well that lack of trust vis-à-vis insurers can be an important cause for protection gaps.
There are obvious regulatory barriers to the de-nationalization of insurance including taxation, consumer protection and financial fraud. Yet, at least to consumers in low trust environments, settling insurance contracts across borders may soon offer similar appeal as Bitcoins do over Benjamins.