El Salvador: a safe haven for Bitcoin? – Economy and ecology

High waves and a relaxed atmosphere – that was the hallmark of El Zonte, a small surfer’s paradise on the Pacific in El Salvador. But over the past two years there has been a very discreet experiment that has now moved into the world’s limelight. In this fishing village, you can pay for your coffee with Bitcoin or use it to shop around the corner.

It competes with the US dollar, which has been the country’s official currency since 2001. In El Zonte, especially young people and some entrepreneurs are enthusiastic about Bitcoin. Others thought the whole thing was exotic madness – until President Nayib Bukele legalized Bitcoin overnight in early June. But what made him take this step?

The history of Bitcoin in El Salvador

The search for clues leads to Mike Peterson, a Californian surfer who moved to El Zonte in 2005. The convinced Christian founded a youth project called Hope House and trained lifeguards among other things. Two years ago – around the same time that Bukele took office – he told the Los Angeles Times that he had been contacted by an anonymous donor who had promised him $ 100,000 – in Bitcoin, on condition that the money would be given would be distributed to the population and would transform El Zonte into a “bitcoin laboratory”.

From then on, Hope House distributed bitcoins for garbage collection, for good grades and for residents who became sick or unemployed during the pandemic. Local businesses accepted bitcoins after Peterson’s painstaking efforts to convince them. Hope House has even installed a Bitcoin machine where you can use an app to exchange dollars for Bitcoin or receive credit for transferred Bitcoins or have them paid out in dollars.

The experiment solved practical problems. Many Salvadorans who live in El Zonte receive dollars from relatives in the United States. But there is no bank branch in the village. Half of Salvadorans do not have a bank account anyway and withdraw money – for high fees – from intermediaries such as Western Union. To do this, they had to drive from El Zonte to the neighboring village.

Many Salvadorans who live in El Zonte receive dollars from relatives in the United States. But there is no bank branch in the village.

For the youth, Bitcoin was the entry point into the financial world, into concepts such as saving and investing. The $ 100,000 converted into Bitcoin flooded the village with liquidity. The experiment worked – similar to solidarity currencies all over the world – because it set a local circular economy in motion.

Bitcoin insiders suspect that the figure behind it could be cryptocurrency guru Jack Mallers. Mallers has developed, among other things, Strike, an app that enables people to pay and receive Bitcoins and then immediately exchange them for a virtual stablecoin tied to the dollar called Tether, thus protecting themselves against fluctuations. The Los Angeles Times learned that Yusuf Bukele, the president’s brother and adviser, contacted Mallers in February. They met and discussed a bitcoin law. Four months later, the country the size of Israel became the first in the world to legalize Bitcoin.

Bukele, the hip president

Many initially thought this was a PR stunt by the impulsive head of state. Bukele has been ruling since 2019 and has a reputation for being fashion conscious and maintaining its casual millennial image. His announcement of Bitcoin at the Bitcoin Congress in Miami on June 5th came as a surprise. After China previously banned cryptocurrencies and closed bitcoin farms, legalization in El Salvador was welcome good news to cushion falling prices.

The bill was presented to Congress three days later and passed the next morning. From September, Salvadorans can pay their taxes in Bitcoin and use them to shop in the supermarket. A government trust fund worth 150 million US dollars is intended to absorb the currency risk and, if the trader so wishes, immediately hedge the bitcoins in dollars. In addition, Bukele wants to grant Bitcoin investors a golden visa and exempt them from capital gains tax.

Bukele makes two arguments for Bitcoin. First, the cryptocurrency has a market capitalization of $ 680 billion. “If one percent of that is invested in El Salvador, our GDP would rise by 25 percent,” he said, referring to mining companies that are now looking for other locations after the ban in China. But that is only the case if Bitcoins generate new added value, say experts like John Hawkins. For many investors, however, bitcoins are just a means of storing value.

There are around 1.5 million Salvadorans living in the United States alone, who transferred almost $ 6 billion to their families back home last year. That’s 20 percent of the country’s GDP.

Bukele’s second argument is directed against a sector that alternative financial service providers have been targeting for several years: remittances by migrants from abroad. These make up a billion dollar business worldwide. There are around 1.5 million Salvadorans living in the United States alone, who transferred almost $ 6 billion to their families back home last year. That’s 20 percent of the country’s GDP.

However, not even half of Salvadorans have a bank account, as account management and transfer fees are high. The rest use money transfer services. But even these collect between 4 and 50 US dollars, depending on the amount transferred. A lucrative business – especially for international and local elites. Bukele’s story is that he wants to cut off the flow of money to these elites for the benefit of the poor.

The transfer problem in El Salvador

The problem is real and already preoccupied institutions like the World Bank, but also windy business ideas like Wirecard. At first glance, Bitcoin seems seductive as a transfer: a money transfer via app in seconds. But on closer inspection, it’s a chimera. Hawkins writes that only 33 percent of Salvadorans have internet access. “How many street vendors or farmers are technically equipped for Bitcoins?” He asked.

The argument that Bitcoin transfers are free is also wrong, according to financial expert Steve Hanke. Fees would be charged for virtual Bitcoin transactions on the Internet or for exchanging them for dollars – money that would end up with app developers like Mallers, not the banks. In addition, there are the known problems with cryptocurrencies such as high volatility. Last month, Bitcoin fluctuated between $ 58,000 and $ 31,000. In a country where 35 percent of the people live below the poverty line, such fluctuations can trigger social disasters. The $ 150 million in the sovereign wealth fund seems small compared to the total amount of transfers.

“Bitcoins are a means of payment, but there is no credit market for it. Economic development will therefore be difficult, ‘said financial expert Carlos de Sousa. But right now, the highly indebted state needs fresh capital to cope with the pandemic. But that is now in danger. The IMF, with which El Salvador is negotiating a $ 1 billion loan, described the Bitcoin law as an “incalculable risk”. The World Bank declined to help El Salvador implement it.

Last month, Bitcoin fluctuated between $ 58,000 and $ 31,000. In a country where 35 percent of people live below the poverty line, such fluctuations can trigger social disasters.

International investigators are concerned about the law as a possible gateway for money laundering – especially since El Salvador has just got out of a regional anti-corruption agreement and is a hub for cocaine smuggling. Attracting international tech entrepreneurs is one thing; Attracting international money launderers or tax evaders is another, ”warned Julia Yansura from the Global Financial Integrity Institute in Washington.

Experts fear that the sovereign wealth fund has no way of determining the origin of the bitcoins. Presumably it will be tapped within a very short time – and not by Salvadoran street vendors. In this regard, evidence of secret negotiations between the government and the country’s criminal gangs inspires little confidence. In addition, one of Bukele’s advisors, José Luís Merino, is being investigated for drug and weapons smuggling.

That being said, there are two reasons for Bukele to embark on this adventure. He is coming under increasing pressure from Washington because of his authoritarian behavior and the corruption in his administration. There is currently no threat of sanctions, but they cannot be ruled out in the future either. And so the US dollar is like a straitjacket. Bitcoin would make it easier for Bukele to evade possible US sanctions.

The second reason is more economical. The high popularity of Bukele of 90 percent is based on a generous government spending policy without tax increases. However, due to the dollar peg, the growing deficit cannot be offset by the printing press. And government bonds are also subject to an ever higher risk premium, which is becoming more and more expensive for the state.

The IMF loan would be a lifeline. But if it fails – due to US resistance, for example – Bitcoin could be a plan B. Bitcoin critic David Gerard considers the whole thing to be the dream of libertarian technology freaks who play with fire politically and unreally. “I’m pretty sure both Bukele and the bitcoiners who sold him this plan are confident they’re going to screw the others up. It is of course possible that both of them lose. ‘

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