Dictator’s crypto crusade fail: El Salvador pays the Bitcoin price for wild experiment

For much of the time since Nayib Bukele became president in 2019, El Salvador has teetered on the brink of default. The warning signs were familiar: high debt and interest payments, exacerbated by a wide fiscal deficit; low dollar reserves; anaemic investment and GDP growth. Negotiations with the IMF over a bailout were deadlocked. Mr Bukele’s relentless attacks on the judiciary, his opponents and the media did not inspire confidence.

Then there was his crypto fixation. In 2021 El Salvador became the first country to make bitcoin legal tender, alongside the dollar. The president vowed to shun conventional capital markets and raise billions via tokenised blockchain bonds. He would buy $US500m ($800m) worth of bitcoin, build a “bitcoin city” in the jungle and develop geothermal energy to power bitcoin miners. The conventional markets shunned him. Several Salvadoran bonds traded below 30 cents on the dollar in the summer of 2022. When the government started deferring public-sector salaries to preserve cash, investors prepared for the worst.

Yet El Salvador has defied expectations — and on February 26 the IMF’s board approved a $US1.4 billion loan, agreed on in December after years of delay, to be disbursed over 40 months. In order to obtain the money, El Salvador has made the usual promises on fiscal discipline. It is also scaling back its crypto project. After a change to the law in January, taxes are no longer payable in bitcoin, and its acceptance in the private sector is voluntary.

On its way to the IMF deal, El Salvador showed remarkable commitment to paying its debts, in part motivated by Mr Bukele’s desire to show up his doubters on Wall Street. Its bond prices have climbed all the way back to par. Officials used scarce dollars to buy back bonds at a deep discount, saving a good share of future payments of principal. The fiscal deficit, which ballooned to 10 per cent of GDP in 2020, has returned to pre-pandemic levels of two to three per cent, broadly in line with peers. A crackdown on tax evasion, strong inflows of remittances and a slight uptick in the economy have boosted government revenue; the phasing-out of energy subsidies and pandemic-era programmes have slowed spending.

The fund’s loan lowers the risk of a debt crisis, especially if it unlocks a further $US2.1b from other multilateral lenders as is hoped. Despite the deficit-cutting, the country might not have managed much longer. When debt is high and growth low, raising money at 12 per cent, as El Salvador did in early 2024, is unsustainable. Sovereign default is all the more costly in a dollarised economy such as El Salvador’s, with no lender of last resort to avert a bank run or financial contagion. Local bank deposits are partly backed by government debt, so default might snowball into a banking crisis and even de-dollarisation.

As for bitcoin, its demotion may be more of a blessing than a concession. Mr Bukele touted the cryptocurrency as a way to provide financial services to the two-thirds of adults without a bank account and to lower the cost of remittances, which come to almost a quarter of GDP. But the main barriers to financial inclusion are the size of the formal economy and low digital literacy. Remittances are expensive because Salvadorans like to send and receive banknotes, a pricey business made pricier by crime. The government also rushed the rollout of Chivo, a digital wallet to make payments in dollars and bitcoin. Bugs and identity theft, to snaffle the $US30 of bitcoin for signing up, were rife.

The IMF was wary of lending to El Salvador while bitcoin was legal tender. Its volatile price posed a risk to financial and fiscal stability. The fund also pointed to bitcoin’s potential use in money laundering and other crimes. El Salvador, according to the IMF, will limit “transactions in and purchases of” the currency. The country has in fact kept buying-up to 1.6 bitcoin daily since the deal was struck, according to blockchain data. It may yet have to reduce or reverse these purchases to comply with the loan agreement. It owns 6091 bitcoin, valued at about $US500m, including unrealised gains of $US200m or so, about which the president boasts regularly.

Despite these profits, crypto has brought El Salvador more costs than benefits. The free publicity has been welcome, yet crypto-investment and crypto-tourism have been small beer. Gains in financial inclusion and from more efficient payments are meagre at best: the currency never really caught on. In 2022, when the hype was at its peak, a survey by CID-Gallup found that only a fifth of firms accepted bitcoin and just five per cent of tax payments were in crypto. Recent numbers are likely to be even lower, since Salvadorans retained their strong preference for cash and payment cards.

Moreover, the policy cost $US375m in all — from the Chivo rollout, subsidised transaction fees, bitcoin ATMs and more — estimates Moody’s, a rating agency. That far exceeds the profits on bitcoin holdings, which could still evaporate. And by delaying an IMF deal, Mr Bukele’s crypto experiment kept El Salvador’s risk premium high and his country near default.

Mr Bukele enjoys stratospheric approval ratings, often above 90 per cent. It was not crypto that made him “the world’s most popular dictator”, as he calls himself, but his draconian crackdown on crime, in which due process and the rights of presumed criminals have been forgotten. His obsession with cryptocurrency has done little to ease El Salvador’s economic woes. Although bitcoin may remain a reserve asset on the national balance sheet, its days as legal tender are over. Mr Bukele is just the latest crypto-utopian to see his wild ideas dissolve on contact with reality.