Bitcoin Bonds and How El Salvador Is Building Bitcoin City

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Nov. 22 2021, Published 11:55 a.m. ET

Months after El Salvador first made Bitcoin a legal tender alongside the U.S. dollar, the country plans to build Bitcoin City. Reportedly, the government will use Bitcoin bonds to fund the project.

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What are Bitcoin bonds, and how could this financial product help or hinder El Salvador and other nations develop in a modern world?

El Salvador to build Bitcoin City with Bitcoin bonds

El Salvador plans to construct Bitcoin City, which will be circular to reflect the shape of a physical coin. The country's leader, President Nayib Bukele, announced that the government will initially fund the project with Bitcoin-backed bonds.

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The move comes about two months after El Salvador first announced that it will label Bitcoin as a legal tender. The country says that about 20 percent of its GDP comes from remittances from migrants who live in the U.S. International transfer costs eat into the GDP, and Bukele hopes widespread Bitcoin adoption will cut back on these costs.

Ethereum co-founder Vitalik Buterin criticized the mandatory adoption that requires businesses to accept Bitcoin. According to Butalik, "Making it mandatory for businesses to accept a specific cryptocurrency is contrary to the ideals of freedom that are supposed to be so important to the crypto space."

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How Bitcoin bonds come into play

Bukele plans to use Bitcoin bonds to fund the upcoming Bitcoin City. El Salvador plans to institute a VAT (value-added tax) to help fund the city. Half of the VAT revenue will go toward funding the bonds reserved for the city. The other half of the VAT will help better support El Salvadorians through public services like garbage collection.

Ultimately, the project is expected to cost roughly 300,000 Bitcoins or $17.5 billion. Bitcoin City will be located near the base of the Conchagua volcano in southeastern El Salvador and it will be powered by thermal energy from the volcano.

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What are Bitcoin bonds?

El Salvador is partnering with a company called Blockstream to raise money via Bitcoin bonds. Blockstream is a digital assets infrastructure firm focusing on blockchain technology.

According to the chief strategy officer of blockchain technology at Blockstream, Samson Mow, the "volcano bond" will come first, or a 10-year issue worth $1 billion. More bonds will follow. The government can't fund its projects with direct Bitcoin ownership, so it has to use a bond buy-in structure.

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Basically, investors can buy into the tokenized bond and get an annual special dividend. They will also be bound by a five-year lock-up period, during which half a billion dollars of Bitcoin will be off the market. The other half a billion dollars in bonds will go to Bitcoin-specific mining and power infrastructure.

Investors can find the tokenized bonds on a federated sidechain called Liquid. Sidechains are parallel blockchains that "enable interoperability via a two-way peg," according to BTSE. Liquid was the world's first operational sidechain as well as the first to use a federative form of governance.

El Salvador will issue the first bonds in early 2022—about two months from the late November announcement.

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