Writing a serialised monetary policy dystopia seems to be a good way to thin out your readership, but I am going to plough on regardless.

In the event of a partial take-over of a cryptocurrency, politics in the state may become strained.

The currency fissure creates a new cleavage of monetary and fiscal interests that did not exist before.

Most obviously, those who have adopted the cryptocurrency have an interest in using whatever power their state has to preserve or improve the protocols underpinning that currency, to nurture its integrity and ensure that it offers the most enlightened monetary and payments security policy possible.  This is less of a priority for the vestigial fiat currency users.

As discussed in the last post, the introduction of a new exchange rate into the economy warps ideal monetary and fiscal policy towards managing fluctuations in the nominal exchange rate between the vestigial fiat and the new cryptocurrency.

A channel for this to happen is the price stickiness in home units of account that typifies economies today.  Which means fluctuations in the nominal exchange rate translate to fluctuations in the real exchange rate.  Those fluctuations – caused by this price rigidity – are damaging.  But from the perspective of those who live only in the vestigial economy, policy could be improved upon, freed from the compromises enforced by a multi-currency area.

Moreover, for  similar set of reasons the new currency cleavage will induce a commonality of interests in fiscal flows amongst those on either side of the divide that did not exist before.

If the cleavage were to produce two economies that were in other respsects identical, these problems would not arise.  But such a cleavage is highly unlikely.  More likely, it would arise because cryptocurrencies worked well for some activities or some people and not others, or in some places and not others.

The unit of account and medium of exchange cleavage will give rise to a correlation in outcomes for employment and output and all the things we care about, even if there is no change in the fundamental disturbances hitting either economy.  And that will mean there are now times when there are fiscal transfers needing to go one way across the currency cleavage, and times when they go the other way.  In a situation where these flows reverse quickly, it might be relatively easy to sustain support for the fiscal union.  But as we see from the Eurozone and, in fact, the history of the US, differences in ‘business cycle’ conditions can persist for very long periods – decades.  During such time, voters in one region see their taxes [or their fiscal space] used for spending in the other economy, and may resent it, having short enough memories that they don’t recall times when things were in reverse, and short enough horizons not to care about a reversal in the future.

Aside from this stress, and supposing that the monetary policy in the cryptocurrency area is rubbish – as it seems to be in the protocols for those currencies currently operating that I know about – voters in the vestigial fiat area will grumble at the volatility in fiscal settings in their region caused by the need to compensate for the gold-standard like monetary inflexibility in the neighbouring crypto-economy.

It might not be too implausible to think that the new currency cleavage could cause functions of the old state – like risk sharing – to wither, and even, if the currency cleavage operated also as a geographical cleavage, for the state to split eventually.