Digital Currency Runs

Abstract

Digital currency created by the private sector, such as bitcoin, is designed to have a determined supply and enable payments with the premise of competing with and supplanting central bank fiat money and the banking system. Central banks are developing fiat public digital currency and banks are innovating in response. This paper shows that private digital currency may be preferred over fiat money in countries with high inflation, but using it outside of the banking system reduces investment. Banks can re-emerge by taking deposits and lending in private digital currency to increase investment while avoiding inflationary fiat money, but these banks risk having withdrawal runs into the digital currency. A globally used private digital currency acts similar to a traditional hard currency within developing countries by eliminating fiat inflation but exacerbating bank fragility. A regionally used altcoin is superior to a global digital currency and other hard currencies by limiting inflation while alleviating macroeconomic shocks and bank runs.