El Salvador Runs a Bitcoin Scam

Salvadoran President

Nayib Bukele

doesn’t have to worry about that possibility anymore because on Sept. 7 El Salvador made bitcoin obligatory legal tender. By adopting a nonbanking currency that will coexist with the U.S. dollar but trade outside the internationally protected banking system, Mr. Bukele ensures that he will be able to move money electronically, even if his government should face sanctions.

The bitcoin law also gives Mr. Bukele a path to end dollarization and return to a government fiat currency that can be printed as politicians desire. This has alarmed advocates of stable money because, by dollarizing in 2001, El Salvador ended the specter of hyperinflation and devaluation.

It may be that Mr. Bukele believes that bitcoin will behave better than the dollar as a medium of exchange and a store of value. But if so, he got an education on the day of the launch. The website of the e-wallet Chivo, which the government is using to circulate bitcoin, crashed. Meanwhile the dollar value of the cryptocurrency traded down as much as 17%.

The rocky start highlighted the dangers of obligatory bitcoin for a poor country that needs investment and growth. Salvadorans who receive bitcoin—in remittances or in commercial transactions for example—will either have to accept the possibility of losses incurred by holding this volatile asset or sell it through Chivo, which is a government-sponsored enterprise with little transparency.

Article 8 of the law says that the government guarantees “automatic and instant convertibility” to dollars. It’s unclear how that works in real time or the risks to taxpayers. But as Florida Atlantic University economist

William Luther

points out “those who make the exchange won’t be getting dollars in their Chivo accounts but rather dollar-stable coins.” As you will see in a moment, this opens the door to a possible de-dollarization of the economy without the public’s approval.

A 2015 paper published by Mr. Humire’s center—titled “The Anti-Dollar Alliance”—discussed an effort, led by Russia, China and Ecuador “against the global dominance of the U.S. dollar.”

The paper described a 2014 meeting in Bolivia of foreign delegations from these countries, along with dozens more. “One of the loudest voices came from Ecuadorean President

Rafael Correa

who held several conversations with his Chinese counterparts to affirm the need to reform the international financial architecture.”

As Mr. Bukele’s government grows ever closer to China and tensions with Washington increase, it isn’t unreasonable to see his bitcoin law as an experiment in circumventing the laws that Mr. Correa so detested.

There is no evidence that Mr. Bukele dislikes dollars. He undoubtedly knows they are the world’s monetary standard and surely would like to have more of them. But he wants to get around the rules governing their circulation in the international financial system. Still, the bigger near-term risk to the nation may be the threat to currency stability.

The Chivo e-wallet allows Salvadorans in the U.S. to send money home without incurring money-gram fees. But it could also be the first step to breaking dollarization, which is popular.

The stable-dollar coin is a parallel digital asset with a fixed exchange-rate to the dollar. In other words, it’s a new currency created by the government.

To get it into circulation, the government has to get the largely unbanked nation into digital money. The bitcoin law does this by forcing merchants to accept the digital currency—Article 7 of the law—via Chivo.

When Salvadorans convert their bitcoin to dollars, they don’t receive dollars in the e-wallet. Instead they become holders of stable-dollar coins, which are only a claim to real dollars.

At that point, Salvadorans hold an asset backed by the full faith and credit of, well, Mr. Bukele’s government. It can rename that stable-dollar coin at any time, but it is most likely to do so only after it gains widespread use. It can also renege on its promise to peg it at one-to-one to the dollar, essentially devaluing the asset.

It would be impossible to stop this unpopular confiscation of assets because the dollar-equivalent coin in the Chivo e-wallet would be issued and backed by the government, which, by the way, is highly indebted. If this looks familiar it’s because it’s a gussied-up version of Argentine convertibility.

Write to O’Grady@wsj.com