Working Paper: NBER ID: w24483
Authors: Linda Schilling; Harald Uhlig
Abstract: In a novel model of an endowment economy, we analyze coexistence and competition between traditional fiat money (Dollar) and another intrinsically worthless medium of exchange, not controlled by a central bank, such as Bitcoin. Agents can trade consumption goods in either currency or hold on to currency for speculative purposes. A central bank ensures a Dollar inflation target, while Bitcoin mining is decentralized via proof-of-work. We analyze Bitcoin price evolution and interaction between the Bitcoin price and monetary policy which targets the Dollar. We obtain a fundamental pricing equation, which in its simplest form implies that Bitcoin prices form a martingale. We derive conditions, under which Bitcoin speculation cannot happen, and the fundamental pricing equation must hold. We show that the block rewards are not a tax on Bitcoin holders: they are financed by Dollar taxes imposed by the Dollar central bank. We discuss monetary policy implications and characterize the range of equilibria.
Keywords: Bitcoin; Cryptocurrency; Monetary Policy; Fiat Money
JEL Codes: D50; E40; E42; E50
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| central bank dollar supply (E58) | Bitcoin price (G13) |
| Bitcoin supply increase (block rewards) (E42) | Bitcoin holder tax (not a tax) (F38) |
| central bank policies (E58) | incentives for Bitcoin mining (E42) |
| Bitcoin price correlation with pricing kernel (G13) | Bitcoin price dynamics (E39) |
| positive correlation with pricing kernel (G19) | Bitcoin prices decrease over time (E31) |
| negative correlation with pricing kernel (G19) | expected appreciation of Bitcoin (D84) |
| Bitcoin price evolves according to fundamental pricing equation (G13) | martingale process (C69) |