Earlier Posts:
Bitcoin Must Be Made Legal Tender (Your Coins Aren't Safe Until It Is)
If Bitcoin is Made Legal Tender: A Thought Experiment (Part 1)

In my earlier post, If Bitcoin is Made Legal Tender: A Thought Experiment (Part 1), I made some predictions as to what might happen if a forward-thinking government made Bitcoin (BTC) legal tender. The assumptions I used were:

Bitcoin (BTC) will circulate side-by-side with the existing fiat currency.

Bitcoin (BTC) is not regulated as a security or a commodity, but treated (correctly, in my opinion) as a currency. No taxes on exchange of BTC and fiat.

BTC is accepted for taxes and fees at market rates. In other words, there is no monetary advantage to using either BTC or fiat for government payments.

The government does not accumulate BTC (beyond any BTC payments), but instead sells excess BTC at market rates for fiat.

Monetary and fiscal policies remain unchanged. In other words, the taxing and spending and inflating continue as before.

Now, to continue this thought experiment, I want to change one of these assumptions. The government has decided that Bitcoin (BTC) is a competitor to its fiat currency. Wisely, they do not ban it, as history has shown that banning something the people want rarely works out and often has unintended consequences.

Instead, they decide to price Bitcoin (BTC) out of reach of most people. No longer will the government sell its excess BTC and it will not make any payments in BTC. All BTC collected by the government will be kept.

Initially, there will appear to be no difference between these two scenarios (government selling excess BTC and government holding excess BTC). But the law of supply and demand means that the price of Bitcoin (BTC) in fiat should rise in the second scenario, because of the lower supply of BTC, caused by the government holding on to its BTC.

Gresham's Law, "bad money drives out good money," will still hold and its effects will be even stronger. The price of BTC in fiat will be rising almost every day. People aren't stupid. They will see this price action and hold onto their BTC even harder, knowing it will be worth more fiat in the future. Those with cash will be buying the dips.

In order to draw BTC out of people's hands, merchants may offer discounts if paid in BTC, similar to how there are sometimes discounts for paying in cash. The government may even offer greater than market prices for BTC, in order to pull more BTC out of private hands. After all, the government has an unlimited supply of fiat.

Eventually, transactions in BTC will decline and Bitcoin (BTC) will be more of a store of value than a currency circulating. Wealth held in BTC will be accessed through loans with BTC as collateral.

I would not be surprised if such a government scheme could pull 5 million BTC off the market. That's over 25% of the number of Bitcoins currently existing and almost 25% of the maximum BTC supply. Keeping that much BTC off the market would, in my opinion, cause the BTC price in fiat to skyrocket to many times its previous all-time high. Alt-coins would also soar, as they would be used for transactions in place of Bitcoin (BTC).

Would this price Bitcoin (BTC) out of most people's hands? When a few satoshi won't buy a loaf of bread or a jug of milk, then I think it would be safe to say that Bitcoin (BTC) has been priced out of peoples hand. A satoshi shouldn't, in my opinion, be more than the basic fiat unit (unless there has been hyperinflation, then all bets are off).

Bicoin (BTC) miners could agree to add more decimal places to a BTC transaction, increasing the current eight decimal places to something like 12 or 16. That would keep a (new) satoshi inexpensive enough.

A government determined to wipe out Bitcoin (BTC) could conceivably buy all the Bitcoin out there. However, Bitcoin alternatives would take its place.

Plus, there is another way for a government to destroy Bitcoin without banning it. I'll cover that in a future post.

What would you do, under each of these scenarios? Hold, sell, buy more (if you can), use alt-coins? Leave a comment below.

It shouldn't need to be said, but here it is: This is neither financial nor legal advice. Do Your Own Research (DYOR). Stay safe out there and keep on stacking!

Earlier Posts:
Bitcoin Must Be Made Legal Tender (Your Coins Aren't Safe Until It Is)
If Bitcoin is Made Legal Tender: A Thought Experiment (Part 1)