Considering the limitations of traditional monetary systems, several countries are actively considering granting crypto assets legal tender status. El Salvador is even going ahead and authorizing Bitcoin for tax payments, while exempting it from capital gains tax - as you obviously couldn’t possibly make a gain on your legal tender, since it’s your unit of account.
However, the country won’t gain much more monetary power from that move. Bitcoin is a currency system that has a predetermined final monetary supply. The number of Bitcoin is limited to 21 million, and it should reach that number by about the year 2140. It will not be possible to mine more than that (and many have been lost, so the actual number will be far less). On the contrary, the amount of accessible Bitcoin will decrease over time. The remaining BTC will rise in value as they become increasingly rare. This increase of purchasing power means the bitcoin is deflationary: there is an incentive to save Bitcoin instead of spending them. Although hoarding a currency is theoretically bad for the overall economy, in practice, people would still need to spend money to meet their daily needs thereby allowing Bitcoin to find a settling point of steady deflation over time, as opposed to most fiat currency that finds its settling point of steady inflation over time.Most central banks actually target at around 2%.
Moreover, the concept of banking intermediation for Bitcoin is a bit more complex to fathom. On top of the challenge of offering interest rates on a deflationary currency, such intermediation clashes with Bitcoin’s philosophy of decentralization. Yields are part of a surprising turn in this context. Yet, with the rise of decentralized finance, DeFi applications use blockchain-based smart contracts to execute lending-borrowing transactions, offering to pay owners of Bitcoin annual percentage yields of 2% to 6% and sometimes more. This is much higher than interest rates of about 0.5% on conventional bank deposits in dollars. But the risk is somewhat higher as crypto lending functions without the Federal Deposit Insurance Corporation protections that come with a traditional bank account. However, most of the time, they work by collateralizing the loans - like a pawn shop - and the protocols have, thus far, been very good at managing risks. Even when it’s MKR lending DAI for real estate in the US, which is essentially a mortgage. In addition, Bitcoin value can be extremely volatile: it reached a peak of $65,000 in April and crashed to less than half that value two months later. Some of the previous massive crashes were in the fall of 2014 where it lost 67% of the value of its last peak and 2018 where it had lost 82% from the last peak’s value.
The IMF argues that people would have "very little incentive" to save in Bitcoin as its “value is just too volatile and unrelated to the real economy". The blog post further adds: “even in relatively less stable economies, the use of a globally recognized reserve currency such as the dollar or euro would likely be more alluring than adopting a crypto asset”. I disagree with the IMF’s assumption that Bitcoin might merely succeed as a medium of exchange, but not as a store of value. Bitcoin is more like gold than it is like dollars or euros. Its code makes it a rare commodity that can be used for transactions, whereas the dollar is a widespread payment instrument that can be used for savings. The most likely scenario is that Bitcoin will not become the sole global or San Salvadoran currency in the coming years. A promising option for lending is accepting Bitcoin deposits and then lending out dollars. Another is what the move to a truly digital currency enables: programmable money. So if people want to spend in dollar-denominated terms, they can always convert their BTC to Maker DAI, Terra UST or some other on-chain stablecoin. But the fact that they can do so in crypto-crypto as opposed to fiat to rypto has a huge advantage in a country where everyone does not have a bank account. Bitcoin might not be the end-game for El Salvador. But even if it is the trojan horse that moves the whole Salvadorian financial system on-chain and banks the unbanked, it’s not half-bad.