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The Economics of Cryptocurrencies – Bitcoin and Beyond∗ Jonathan Chiu† Thorsten V. Koeppl‡ Bank of Canada Queen’s University First version: March, 2017 This version: September, 2018 Abstract How well can a cryptocurrency serve as a means of payment? We study the optimal design of cryptocurrencies and assess quantitatively how well such currencies can support bilateral trade. The challenge for cryptocurrencies is to overcome double-spending by relying on competition to update the blockchain (costly mining) and by delaying settlement. We estimate that the current Bitcoin scheme generates a large welfare loss of 1.4% of consumption. This welfare loss can be lowered substantially to 0.08% by adopting an optimal design that reduces mining and relies exclusively on money growth rather than transaction fees to finance mining rewards. We also point out that cryptocurrencies can potentially challenge retail payment systems provided scaling limitations can be addressed. Keywords: Cryptocurrency, Blockchain, Bitcoin, Double Spending, Payment Systems JEL Classification: E4, E5, L5 ∗The views expressed in this paper are not necessarily the views of the Bank of Canada. We thank the audiences at many seminars and conferences for their comments. This research was supported by SSHRC Insight Grant 435- 2014-1416. The authors declare that they have no relevant or material financial interests that relate to the research described in this paper. †Bank of Canada, 234 Wellington St, Ottawa, ON K1A 0H9, Canada (e-mail: jchiu@bankofcanada.ca). ‡Queen’s University, Department of Economics, Kingston, K7L 3N6, Canada (e-mail: thor@econ.queensu.ca). 1PDF Image | The Economics of Cryptocurrencies Bitcoin and Beyond
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