Thoughts on Currency Controls
Currency controls (also known as capital controls) are restrictions on the trade or transfer of government-backed fiat currencies. They usually exist to keep capital within a country, and often to enforce a government-mandated exchange rate. Currency controls are very common in developing countries, but even certain developed countries have currency controls in place (looking at you, South Korea).
Currency controls often result in two exchange rates for the same currency. There is a government dictated rate, and then there is a black market rate, which is in most senses the “real” rate. Argentina is a prime example of a country which imposes an “official” exchange rate on their currency, which has completely decoupled from the real market rate.
What are the Implications?
In Argentina, the government-enforced exchange rate values the ARS around 100–1 with the USD (100 ARS = 1.05 USD at the moment). However, neither you or I could walk into a bank in Argentina and sell our ARS for USD at this rate. Currency controls often restrict your ability to sell the local currency, but will usually not restrict your ability to buy the local currency.
It is obvious how this would create a disconnect. If the government does not support both buying and selling of ARS at their official rate, then the real exchange rate will differ from the official exchange rate. In this case, the government allows you to buy ARS, but not sell. Therefore, it is a near certainty that the real market will value ARS lower than the official rate.
How to Track the Real Exchange Rate in Argentina
In the past, you’d need people on the ground in Argentina to report on the black market exchange rate between ARS and USD. The Argentinian government has dictated that trading ARS for foreign currency outside their banks is illegal. Nevertheless, there is a thriving black/gray market where locals exchange their ARS for foreign currency.
The rate that these independent black market exchangers offer for currency exchange between ARS and foreign currency is effectively the “real rate”. However, these exchangers will also add a spread to give them a profit margin. It is surprising how much this real market rate differs from the official rate in Argentina.
The official bank rate might be 95 ARS to 1.00 USD at the moment, but the real market rate is about 162.6 ARS to 1.00 USD. How do we calculate that so easily today? Thanks to cryptocurrency, we can easily compare the price of BTC in Argentina in ARS with the price of BTC in the USD. Since the USD has no currency controls, we can consider the USD price to represent the real market value of 1 BTC.
Crypto exchanges in Argentina are showing you the real rate of ARS, because BTC is a liquid and freely trading commodity/currency (call it what you want!). We can simply take the ARS price of BTC on an Argentinian BTC exchange, divide it by the USD price, and find the real ARS/USD exchange rate.
Example:
Argentina BTC Price today from https://www.ripio.com/ar/bitcoin/
~5,750,000 ARS = 1 BTC
USD BTC Price today from https://www.bitstamp.net/
~35,348 USD = 1 BTC
5,750,000 ARS / 35,348 USD = ~162.66 ARS / 1 USD
In the past, we needed to go interact in person within Argentina to find this real exchange rate. We needed to talk with a few black market exchangers and compare prices to find an approximate market rate. Today, we can find it instantly online, thanks to crypto exchanges.
This is true for any market where there are currency controls and active BTC markets in the local currency.
Arbitrage Opportunities
Not every country with currency controls has such a massive spread between the government rate and the real rate. One interesting currency that many follow in the crypto space is the South Korean Won (KRW).
South Korea is a very stable economy. Unlike the Argentine Peso, the Korean Won has fluctuated very little against the USD over the past 10 years. This may be thanks to their capital controls. In 2010, Korea introduced capital controls to prevent volatility in their currency, after a massive drop in its value in the Global Financial Crisis of 2008.
More information here: https://www.reuters.com/article/us-korea-economy-idUSTRE65C0HZ20100613
The controls in Korea allow for certain companies and individuals to buy/sell foreign currency on the open market. However, the average individual is restricted. This has resulted in a wildly fluctuating BTC exchange rate, which often trades at premiums above 10%. Many in the crypto world refer to it as the “kimchi premium”.
Unlike the Argentine Peso, many people in Korea are able to take advantage of the so-called Kimchi Premium. This is because there are several ways to sell KRW at the market rate (like the rate you’d find here — https://www.xe.com/currencyconverter/convert/?Amount=1&From=KRW&To=USD).
The goal is to buy BTC on a USD or EUR exchange (such as Bitstamp), transfer the BTC to a KRW exchange like Upbit, sell for KRW, and then sell the KRW for USD and repeat the process.
For an average person in Korea, it is difficult to sell large amounts of KRW for USD. Foreign exchange transactions are restricted, and are only permitted for specific and substantiated reasons. They don’t view Bitcoin arbitrage as an acceptable reason!
Of course, there are many tricks to get your KRW into USD. You can travel to Hong Kong and exchange your KRW cash outside the country. Restrictions only apply within Korea. So long as you can get your cash outside the country, you can find a place to exchange it close to the market rate.
Foreign residents can also exchange and remit their earned income overseas. A foreign resident who earns an income of $200K USD per year could theoretically export that same amount of KRW by wiring it out of the country in USD.
The people making big boy money using Bitcoin arbitrage probably have a company set up in Korea whose business model allows them to exchange foreign currency more or less freely. This is not my area of expertise, all I can say is that once this premium hits double digits (above 10%), there are many feasible ways to take advantage. Especially if you are already living in Korea and are a resident/citizen.
Currency Controls — Good or Bad?
I believe in financial freedom, I believe people should be allowed to spend their money as they please, without scrutiny or explanation. However, currency controls do appear to provide some benefits to under-developed economies, and can prevent huge swings in purchasing power for local people.
Whether the good outweighs the bad probably depends on perspective and circumstance. However, it appears currency controls are becoming less effective with the advent of cryptocurrency. If a local resident can freely buy or sell cryptocurrency in their local currency, then they are effectively skirting capital controls, and they are able to convert their money into foreign currency.
It’s certainly a driving factor behind so many countries attempting to resist cryptocurrency adoption. It is certainly hard to see how a government which imposes capital controls on their own fiat currency could support a decentralized payment system and currency which effectively negates their policy.