Fiat vs. Crypto: Differences Explained

But as we can see from the past, money is always changing, and the next phase of what we know as “money” is actually already here. With the onset of Web3, blockchain technology and cryptocurrencies have emerged, providing a fundamental upgrade to the world’s monetary and valuation systems.

But if cryptocurrencies are “money” and fiat currencies are also “money”, are they the same thing? Well, the short answer is no, although you might want to stick around to find out why…

What Is Fiat Currency?

In legal lingo, a “fiat” is a decree or order from a higher authority. Fiat money is money that is issued at the whim of the government, hence the name. Your dollar bills bear the words, “This note is lawful currency for all debts, public, and private,” which indicates a fiat.

In the simplest of terms, a fiat currency is a legal tender whose value is pegged to a government-issued currency like the U.S. dollar. Fiat money is in no way, shape, or form pegged to commodities such as gold or silver.

Before we get into how exactly fiat money obtains the value we know it has, let’s take a quick look at what cryptocurrencies are.

What Are Cryptocurrencies?

In contrast to fiat currencies, cryptocurrency is a digital asset whose value is derived from its original blockchain. As of writing, most people utilize cryptocurrency as an investment tool, but there are an increasing number of countries that allow Bitcoin to be used as legal tender.

As a medium of exchange between buyers and sellers, cryptocurrencies are simply digital assets. They facilitate dealings between private parties without needing a centralized institution like a bank to act as a go-between. The dominant cryptocurrency, Bitcoin (BTC), has a fixed supply of 21 million units, making it even scarcer than gold and compared to fiat money — although certain cryptocurrencies have unlimited quantities, such as Ether (ETH). The latter is more prone to inflation, and central banks can create more of it at any time.

As a pillar of the Web3 landscape, cryptocurrencies are decentralized. Digital currencies such as Bitcoin and Ether, which are built on blockchain networks but are not governed by any central authority, have the potential to expand people’s access to the global financial system greatly.

However, there are certain cryptocurrencies like the central bank digital currency (CBDC). CBDCs are issued as tokens or electronic records backed by the domestic currency of the issuing country or region by central banks. A number of CBDCs are based on the same ideas and technology as cryptocurrencies since they work via blockchain, although acceptance by central banks is still in its infancy stages.

Differences Between Fiat and Crypto

When it comes to making transactions between buyers and sellers and storing value, cryptocurrencies fulfill the same functions as traditional currencies. Cryptocurrencies have benefits that the conventional monetary system does not — they may be sent and received instantly by anybody on the globe, regardless of where they happen to be physically located, and without the intervention of any central bank or government.

Overall, debt is the basic equivalent of fiat money. You, the customer, are issued a portion of your government’s debt every time a central bank prints new banknotes. You may reasonably wonder how this is possible. Consider the manner in which the government of any country prints money.

Let’s look at the US dollar. If people suddenly stopped borrowing money one day, there would quite quickly be no currency in circulation. In essence, the existence of the US dollar in the global economy is contingent upon individuals taking out loans from financial institutions. This is similar across all fiat currencies that exist today.

The majority of a government’s new currency comes from citizens taking out loans. When borrowers pay back their loans, the bank “prints” money. 

The introduction of virtual currencies has sparked a discussion regarding the longevity of traditional currencies and if they will eventually be replaced by digital coinage. Since Bitcoin and other cryptocurrencies are not issued, controlled, or backed by any government, they cannot be considered fiat money. Further, there are scenarios when the maximum possible supply is intended to be capped.

Some skeptics claim that cryptocurrencies are unlikely to replace fiat money as the major means of exchange due to the extreme price volatility of cryptocurrencies. However, widespread support for crypto has been expanding. In 2021, El Salvador became the first country to recognize Bitcoin as legal tender. Certain PayPal customers can now utilize Bitcoin as a payment option. Certain Visa card plans include collaborations with cryptocurrency platforms such as Crypto.com.

Some people refer to Bitcoin as “digital gold,” but there are thousands of other cryptocurrencies. Steady coins are digital currencies that are tied to a stable value, such as a commodity or fiat currency. When used for money transfers or to fuel decentralized networks and apps, cryptocurrencies can serve a useful purpose. Some are made just for laughs. Also, there is the possibility that others are fraudulent.

How Do Fiat Currencies Get Valued?

The Latin word “fiat” can be loosely translated as “let it be” or “it shall be”. Instead of being tied to the value of a tangible good, the worth of fiat currency is determined by market forces and the credibility of the government that issues it.

The origins of currency may be traced back to the days when governments minted coins from precious metals like gold and silver or printed banknotes that could be exchanged for a predetermined amount of the metals. However, there is no redeemable value for fiat money because it is not backed by any physical commodity. Nowadays, central banks have more sway over the economy when using fiat currency since they decide how much currency is created.

Since fiat money is not backed by any tangible asset, such as a central bank’s gold or silver reserves, it is highly susceptible to inflation and even hyperinflation, which might render it worthless. Extreme examples of hyperinflation, like the one that hit Hungary following World War II, can cause the rate of inflation to double in a single day.

Furthermore, if people (or investors) stop having faith in a country’s currency, it loses value, as was witnessed in Malaysia after the 1MDB crisis and in the United Kingdom after Brexit. Unlike a currency backed by gold, for instance, this one has value in and of itself due to the widespread usage of gold in industries such as jewelry, art, electronics, and aircraft.

Overall, one of the primary benefits of fiat currency is that it is relatively stable, and its supply can be managed and controlled by the central bank. However, these measures aren’t always effective, and some critics claim that fiat currencies might actually aggravate economic shocks if policymakers print too much money.

Final thoughts

Most of the world uses fiat currency, which is currency whose value is based on the public’s confidence in the government or central bank that issued it. Unlike commodity currency, which is pegged to the price of a commodity like gold or silver, this one has no such backing. Instead, the worth of fiat currency is founded on people’s confidence in the governments that issue it.

On the other hand, cryptocurrencies are purely digital currencies that exist through blockchain technology. Although crypto has no widespread usage to make purchases, there are countries such as El Salvador that have started accepting Bitcoin as legal tender. No one can predict how or where cryptocurrencies will fit into the global monetary system, or how they will be utilized for financial activities. So, keep a close eye on the world of crypto and Web3 to stay ahead of the game.