On November 22, 2021, El Savador’s President, Mr. Nayib Bukele, announced the country’s plan to establish a Bitcoin City which will be funded by Bitcoin Bonds.
By making that announcement, El Savador joins 3 other countries which have reported to the International Monetary Fund (IMF) of their intention to issue these types of bonds, namely:
- Tunisia
- Uzbekistan
- Afghanistan
This article will gloss over Bitcoin Bonds and their functionality.
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Bonds are categorized under securities since they are tradable financial instruments used to raise capital in public and private markets.
They are debt instruments used to raise money from the public by Governments or corporates and are regarded as fixed-income securities because investors are aware from the onset of the amount of money they will receive if they hold the security until maturity.
Governments use the proceeds from bonds to fund their projects, for instance, infrastructure.
In order to understand how Bitcoin bonds work, one must grasp the concepts revolving around bonds.
Concepts about Bonds
- Bond Issuer – The issuer of a bond is the party that sells a bond in order to raise or borrow money
- Bond Coupon – The coupon refers to the interest rate that applies for a bond. It is usually predetermined and has a set schedule for payout – quarterly, bi-annually or annually. If the issuer states that the coupon will be market determined, it means that the interest rate applicable will be an average of all accepted bids
- Face Value – It is the amount of money an investor or lender will receive when the bond matures
- Value Date – This refers to the date when the money will start working and accumulate interest
- Primary Market – It refers to the initial sale of the bond by the issuer to an investor or lender
- Secondary Market – This refers to the second point of sale where investors can sell their bonds through the securities exchange to other public investors
- Maturity Date – This is the date on which the Bond issuer must repay the amount that was borrowed from the investors or lenders
- Taxation – This refers to the classification of tax applicable and its rate. In Kenya, money accrued from bonds is subject to withholding tax, usually at a rate of 15%
A Bitcoin Bond simply means it has a Bitcoin component.
In El Salvador’s case, the amount raised ($1,000,000,000) will be split into funding and building the Bitcoin City while the other half will be used to purchase Bitcoin. The City will be using the volcano’s heat and steam to power Bitcoin mining and hopefully, this coupled with the numerous tax exemptions, will incentivize miners to move there.
Investors shall be paid annually at a rate of 6.5% for the first 5 years and after the bitcoin lock up, they shall be paid their bitcoin dividend with the proceeds from the bitcoin sales.
Similar to all other bonds issuances, these investors shall be receiving their payouts which are regarded as additional income that can be reinvested in other financial instruments, hence a great opportunity to make money passively.
Some critics are wary of this option as an investment tool due to bitcoin’s volatility. Notably, the high volatility associated with bitcoin and cryptocurrencies is based on how new of an asset class they are compared to other assets.
Nevertheless, according to some people, the risk-reward theory is applicable in such instances – the higher the risk, the higher the reward.
Whether or not this will pay off as a great investment will be determined with time. Meanwhile, we hope it will be a successful project that eventually motivates other countries to implement it in raising funds and ultimately drive the adoption of blockchain technology, bitcoin and cryptocurrencies.
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RECOMMENDED READING: Understanding Preservation Orders – A Look at the 102 Million Kenya Shillings Crypto Saga from a Legal Perspective
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