Will Cryptocurrency Replace Fiat Currency?

Can Cryptocurrency Replace Fiat?

Cryptocurrencies are treated as a store of value and as money by many people, but to replace fiat currency, they must overtake fiat’s use and acceptance in most geographies. Between 2020 and 2022, cryptocurrency adoption rates increased globally. However, rates have since decreased, except in certain geographies.

Lower and middle-income (LMI) countries are where cryptocurrency use is more likely to replace fiat use—coincidentally, according to research, LMIs are where crypto adoption rates are still increasing. This is most likely because many people in these areas do not have access to financial services, or the existing systems suffer from inefficiencies or corruption.

Here are some issues cryptocurrency addresses and how the future might look for fiat and crypto.

Fiat Currency Issues That Crypto Addresses

Many agencies and regulators define money as anything that is a widely accepted means of exchange, a store of value, and a unit of account. Fiat currency, sometimes called real or physical money, has met all three requirements for over a millennium. However, advancements have already begun to reduce the need for physical currency in most developed countries. Cryptocurrency removes many of the requirements in today’s financial systems. Here are a few.

The Need to Trust

Our current systems need third parties to issue debit and credit cards or conduct electronic transfers. Governments, banks, businesses, and people transfer funds by having a third party, usually a bank, change numbers on the equivalent of an electronic ledger. These third parties are necessary to ensure transactions are valid, and the costs of maintaining these financial systems are high.

These third parties also bring the necessity of trusting someone else with your money. This trust has been violated on many occasions, and unethical practices by third parties have even contributed to global financial crises.

Cryptocurrency reduces the need to involve another person to verify transactions and ensure accuracy. Each party is credited or debited correctly because blockchain technology and automated consensus mechanisms verify transactions and store the information in an unalterable way.

Decentralization of Control

One of the more significant issues many believe cryptocurrencies address is control of financial services. Undoubtedly, many people have problems accessing necessary financial services, with many being denied access for discriminatory reasons, lack of collateral, or not meeting other requirements set by lenders.

Some may not have services available in their jurisdictions. However, since even those considered “unbanked” generally have access to the internet, decentralized finance applications that use cryptocurrencies can solve many of these problems.

Another issue many people debate is centralized control of the supply of money. The argument is that central banks use the amount of circulating money to influence demand, which messes with exchange rates and purchasing power. Central banks also control interest rates to attempt to increase or decrease spending, depending on the inflationary environment.

The belief is that if control is taken away from these central banks, people will be the ones to influence demand and supply, which will help the currency maintain a more stable value. Additionally, if money and financial services become peer-to-peer, it is believed that inflation will be tempered automatically by the people who are lending to each other.

What Would Happen If Cryptocurrency Replaces Fiat?

Cryptocurrencies, in their current form, transcend borders and regulations, which has both positive and negative effects. They are not controlled or influenced by central banks like fiat currencies. Central banks use monetary policy tools to influence inflation and employment through interest rates and open market operations. Decentralization, one of the fundamental principles behind cryptocurrency, removes these tools.

The effects of completely replacing the tools used by central banks are still being explored and evaluated. The change could have significant adverse impacts on economic and financial stability or usher in an era of complete global stability.

The International Monetary Fund (IMF) recommends against adopting cryptocurrency as a main national currency in its current state due to price volatility. Additionally, the organization feels that the risks of macro-financial stability and lack of consumer protections should be addressed.

However, the IMF does acknowledge that adoption is most likely to occur more rapidly in countries where cryptocurrency risks are an improvement on the financial system in place. For example, many Ukrainians turned to cryptocurrency after fleeing the Russian invasion in 2022. Without cryptocurrency, many might not have had the money to survive.

It is also being used by many in countries with severe fiat devaluation to preserve their savings, send and accept remittances, and conduct business.

What Does the Future of Currency Look Like?

You can already exchange cryptocurrency for fiat through exchanges or trades with other cryptocurrency users. Cryptocurrency continues to gain popularity in areas that are obviously in need of change, and blockchain use cases, popularity, understanding, and acceptance continue to grow. The more each is understood and used, the more value cryptocurrency could have as a means of exchange.

If these trends continue, several currency scenarios could emerge. First, a society and economy could embrace cryptocurrency to the point that the country’s fiat currency would be replaced. Its government would be forced to recognize it as legal tender and fiat currency would cease to be used. This is unlikely to occur in most areas.

A second scenario might be a hybrid of digital assets and fiat currency. Governments could recognize both and be able to collect tax revenues and fund their programs and militaries. Consumers and businesses could choose whichever they wanted. This seems the most likely scenario to occur, and in many areas, it is already the case.

Third, a society could reject cryptocurrency entirely and keep using its established fiat currency. This scenario might occur, at least regarding cryptocurrency. However, pressures to address corruption and awareness of blockchain advancements are guiding societies toward financial systems where information cannot be altered or faked. It is very likely that blockchain technology, rather than cryptocurrencies, will become part of existing monetary systems.

Lastly, there might be a mix of governments worldwide that ban cryptocurrency use entirely, while others allow it to exist and be convertible to fiat currency, similar to how it is used today.

The Bottom Line

It is unclear how cryptocurrencies will evolve or become, but it is clear that cryptocurrency can benefit people and economies worldwide. What remains to be seen is the fate of fiat and cryptocurrency—they have both proven to be useful means of exchange, units of account, and stores of value.

The comments, opinions, and analyses expressed on Investopedia are for informational purposes only. Read our warranty and liability disclaimer for more info. As of the date this article was written, the author owns BTC and XRP.