What Happens When a Country's Currency Goes Digital?
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Right under our noses, a history-defining moment is taking place.
On July 26th, Venezuela announced plans to reveal a new fiat currency, the sovereign bolivar. This new currency will launch on August 20th.
It will also make history by being one of the first fiat currencies directly tied to a digital currency, Venezuela's oil-backed cryptocurrency, the Petro.
The sovereign bolivar will slash five zeros off the current currency in an attempt to ease the rapid rate of inflation. One sovereign bolivar will be equal to 0.013 petros.
But there are some concerns.
So far, the launch of the Petro has been mired with controversy. The digital token has been dubbed “the worst investment in history” and has been rejected by multiple countries, including India and the United States.
That said, Venezuela is still making history. Its radical experiment in economics could set a precedent for other national digital currencies in the future.
And that's why we wrote this article.
We wanted to take a look at what this bold move likely means for Venezuela and whether or not it will pull the country out of an economic spiral.
And to have that conversation, we need to take a step back in history and look at the economic events that led up to the creation of the Petro.
The Economic History That Led to the Birth of the Petro
Over the last 20 years, Venezuela has fallen.
The country has gone from being one of Latin America's richest economies to a nation on the brink of collapse because of massive economic issues.
These economic issues stem from both socioeconomic and political factors and have had a major effect on the country, its people, and its trade relations with the rest of the world.
But what induced this downward slide?
Ever since its boom years, Venezuela has been struggling with government corruption.
And these issues only worsened in 2015, when the price of oil dropped dramatically.
Venezuela has more oil reserves than any other country, and oil makes up 95% of the country’s exports. It is because of oil and political corruption that the situation in Venezuela has escalated to a full-out “economic war,” with an inflation rate of over 700% and 87% of the Venezuelan population living in poverty.
All that considered, it’s no surprise that Venezuelan leadership has been scrambling to find a solution.
And Venezuela’s latest president, Nicolás Maduro, believes he has found the solution in digital currency.
In 2018, Maduro announced that the country would be launching its own digital currency, the Petro. The Petro was a unique digital currency because it was tied to a physical asset, oil.
Each Petro is supposed to be worth the same as one barrel of oil.
Maduro’s hope for the currency is that it will help alleviate some of the crushing financial issues the country is experiencing.
That said, there are a few reasons this may not work.
Digital currency as a tool of national economies is a tricky topic all by itself.
And even if you pair a digital currency with a fiat currency, when faced with existing economic issues, it could be a recipe for disaster.
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2 Reasons the Petro Probably Won’t Work
Broken down to the basics, there are really two huge red flags people should consider when they are looking at the Petro.
1. First off, digital currencies weren't meant to be band-aids for economic wounds.
The Petro is being introduced to an economy that has already been shredded by corruption and fiscal mismanagement.
Richard Lapper, an expert in Latin American affairs at Chatham House, stated that Venezuela has “a terrible track record in economic policy more generally and particularly in monetary policy.”
Biting into some hot, trendy tech isn’t going to fix longstanding issues with corruption.
And then there is the startling reality that Venezuela may not even truly know what a "cryptocurrency" is.
2. Based on the current conversation, it's doubtful whether Venezuela really understands what a digital currency is.
To be honest, the Petro isn't a “digital currency” in the traditional sense.
And that raises questions about the country’s knowledge of the technology it’s willing to gamble its economy on.
A true cryptocurrency isn’t regulated or centralized, as the Petro will be. A true digital currency exists on a blockchain and utilizes blockchain technology to provide a fair and trustless system for its users.
The value of real digital currencies is not tied to a government but to supply and demand.
In this statement, we're excluding digital tokens that are used for tokenization or security tokens. We're talking about peer-to-peer cryptocurrencies, like Bitcoin and Litecoin.
All that said, the Petro could spell issues for Venezuela in the future. And it's unlikely that pairing the Petro with a new fiat currency will help fix these underlying problems.
Can This Fiat-Linked Crypto Save Venezuela?
When you consider the preexisting issues, it seems unlikely that tying a fiat currency like the sovereign bolivar to the Petro will help Venezuela with its economic issues.
There is a chance that this new digital currency-linked currency will be just as mismanaged as Venezuela's original currency, the bolivar. Venezuela has turned to cryptocurrency in an attempt to cash in on a global movement, but in doing so it's missed the point of the cryptocurrency movement.
All that said, the Petro and its fiat friend the sovereign bolivar are history makers.
They mark the most public case of a fiat currency being linked to an asset-backed digital token to date.
The Petro is an example of how a digital token can correlate to a physical asset. This correlation can be taken one step further, where the token represents legal ownership of a physical or intangible object. This is called tokenization.
And that's incredible.
Regardless of the outcome with Venezuela, this daring experiment in economics is an example of how, in proper conditions, digital assets could be used as tools to develop economies.
In the coming weeks, we'll provide you with some examples of tokenization so you can better understand the benefits of linking a physical asset like oil to a digital currency.
Until then, feel free to check out our education page on tokenization. Just click here.