Is Bitcoin A Dangerous Economic Threat? Paper From University of Minnesota Professor Propose Heavy Taxation Or Outright Banning As A Solution (CORRECTED)

Update: This piece was updated to reflect that the research was part of a series of papers and not published statements or research by the Federal Reserve Bank of Minneapolis. The headline was also updated.

In a recent paper posted to a working paper series at the Federal Reserve Bank of Minneapolis last week, Economist and University of Minnesota Professor Erzo G.J. Luttmer and Amol Amol, suggested Bitcoin might be a thorn in the side of government fiscal policies. They proposed a bold solution: slap a hefty tax on Bitcoin or outright ban it. 

According to them, Bitcoin creates serious challenges for governments, particularly when maintaining a “permanent primary deficit” – a situation where government spending always exceeds its revenue without factoring in interest payments on debt.

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In their paper, the analyst claims that Bitcoin, being a decentralized digital currency, competes with government-issued securities, making it harder for governments to manage their finances. 

"A legal prohibition against Bitcoin can restore unique implementation of permanent primary deficits and so can a tax on Bitcoin," they argue. That's a mouthful, but essentially, they're saying Bitcoin's very existence forces governments to face fiscal realities they’d rather avoid. It's like tugging a leaky boat while the waves keep crashing in.

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As of 2024, the U.S. primary deficit is $1.8 trillion and the national debt is a staggering $35.7 trillion. The researchers suggest this deficit can be sustained indefinitely – so long as something like Bitcoin doesn't mess up the balance. The paper describes Bitcoin as “useless pieces of paper,” given that it's not backed by any real resources. 

While government securities aren't tangible, they influence nominal interest rates, which governments can control via monetary policy. Conversely, Bitcoin is like an unruly guest at a carefully planned dinner, throwing the whole event off-kilter.

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“When there are laws against private-sector bubble assets, it is easy for the government to design policies that uniquely implement a permanent primary deficit,” the researchers continue, hinting that if Bitcoin is left unchecked, it could wreck the delicate balance of deficit financing. They suggest a high enough tax might be sufficient without resorting to an outright ban.

This isn't the first time such concerns have arisen. Bitcoin is undeniably speculative and this speculation has created an uneven playing field. A small group controls most of the Bitcoin supply, concentrating wealth among top holders. Research supports this, with the Gini coefficient – an indicator of inequality – showing extreme levels for Bitcoin.

Similarly, the European Central Bank (ECB) recently echoed similar sentiments, suggesting that Bitcoin's rising value exacerbates wealth inequality. Early adopters get rich, while latecomers are left holding the bag.

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