Monetary theory reversed: Virtual currency issuance and miners’ remuneration

By Luca Marchiori

This study analyzes the macroeconomic implications of virtual currency issuance. It builds on a standard cash-in-advance model extended with (i) ‘virtual’ goods, sold against virtual currency, and (ii) miners, the agents providing payment services. The main finding is that virtual currency growth may have effects opposite to those predicted by monetary theory when miners are rewarded with newly created coins. Declining currency issuance, as in Bitcoin, raises the price of virtual goods, which counteracts the traditional impact of a reduced inflation tax. The paper also shows how fiat money growth affects the welfare effects of virtual currency creation.

What this paper is saying is that there is a sweet spot for virtual currencies where they have been accepted for transactions but are not yet too close to the supply limit. Once supply is too limited to reasonably reward miners, the later start charging higher transaction fees and the cost of the goods bought with virtual currency increases, leading to a net welfare loss. In other words, virtual currencies are cool for a while but are not there to stay.


One Response to Monetary theory reversed: Virtual currency issuance and miners’ remuneration

  1. Luca Marchiori says:

    Thank you for posting the article and commenting it. Indeed, a standard cash-credit model predicts that a decline in the money growth rate reduces the inflation tax, which raises the demand for goods bought with cash and improves welfare. However, things may be different with virtual currencies, when newly issued virtual coins serve as a remuneration for payment services. The increase in the relative price of goods bought with virtual currency (driven by rising transaction fees) counteracts the effects of a declining inflation tax. The paper takes as given the fact that consumers use virtual currencies and future research may be devoted to analyze the adoption of virtual currencies.

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