Is Digital Currency Affected by Factors That Affect Traditional Money?

In General Articles

Ask anyone who has any skin in the digital currency game what sets it apart from traditional currencies, and chances are one of the first things they'll tell you is that it isn't tied to any bank or government, and is therefore free of those inherent hassles and entanglements. That's the quick and easy answer, and it works just fine as an elevator pitch; however, we'd like to go into a little more detail about what that actually means. What controls, regulations and other factors aren't a concern when you use cryptocurrency?

Interest. In the United States, the Board of Governors of the Federal Reserve System (generally referred to as “The Federal Reserve,” or just “The Fed”) sets what is called the Prime Lending Rate on a quarterly basis. This rate affects almost every transaction made with traditional currency. It dictates how much banks can charge for mortgages and loans, how much interest is earned on savings accounts and certificates of deposit (CD's), and can also affect the percentage of interest charged on credit card account balances. While the Prime Interest Rate is not a law, but more a guide, most traditional financial institutions use it as a ruler against which they measure their lending and interest accrual rates. Digital currency—which for all intents and purposes is “membership-owned,” with no ties to any governmental agency—is not subject to any interest rate. As an example, if one investor in a digital currency was to make a loan to another, the interest rate—if any—would be decided and agreed upon between the two of them.

Inflation. The simplest definition of inflation in financial terms is when the price of goods or services go up, and a given currency no longer has the same purchasing power it once did. Investopedia illustrates it this way:

When inflation goes up, there is a decline in the purchasing power of money. For example, if the inflation rate is 2% annually, then theoretically a $1 pack of gum will cost $1.02 in a year.

Inflation rates vary from country to country, depending upon dozens of factors that determine the overall financial health of a given region. Again, cryptocurrency is not tied to any one government, so its comparative “worth” is not affected directly by the inflation rate like the government's legal tender would be. The value of alternative currencies relies upon the activity of its investors and merchants, regardless of the strength or purchasing power of traditional currency.

Surcharges/Fees. Banks and credit card companies can levy surcharges and fees for transactions, and even for basic access to your accounts. These are often buried deep in legalese in fine-print documents that most account holders don't even bother to read. The majority of digital currencies exist, in part, as a rebellion against these hidden fees and surcharges. Yes, there are transaction fees with cryptocurrency, but they're up-front and usually very small. This transparency—and lower costs—are popular selling points for alternative currency.

We'd like to touch upon a financial regulation that does affect alternative currencies just as it does more traditional ones—and that's taxes. On their FAQ page, Bitcoin addresses the issue with the following:

There is a wide variety of legislation in many different jurisdictions which could cause income, sales, payroll, capital gains, or some other form of tax liability to arise with Bitcoin.

That is to say, if you're required to pay local, state or federal tax on a purchase, you are not exempt from that when you use digital currency. Salary taxes apply if you are paid in cryptocurrency, and your alternative currency investment may need to be reported on your annual state and federal tax returns. When they say, “There's nothing certain in life but death and taxes,” they weren't kidding! In short, there are some hassles you can avoid with digital currency, but not all of them.

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