Is BitCoin the currency of the future?

Economics Economics Questions
41

That’s all fine and dandy but you and several other posters seem to be laboring under the common misconception that scarcity is a sufficient condition for something to be money. Yes, BitCoins - like hashcash or bitgold that came before it - are scarce. So what? My signature is also scarce but it cannot become money because it has no value. Dean Martin’s signature, on the other hand, is valuable (and scarce). Scarcity is a logical consequence of value. Super-abundant things, like air, have no value because they are not scarce. So, all valuable things are scarce but not all scarce things are valuable. Dean Martin’s signature likely would never become money for a variety of reasons but, unlike my signature or BitCoins, it could conceivably become money because it is valuable.

In a natural order economy, a digital currency could - and likely would - become a money substitute - like the banknotes of old. Hoppe characterizes money substitutes as titles to money. But the technological problems are relatively unimportant… these are like the anti-counterfeiting features of banknotes. What is important is the legal context… are these titles to money enforceable in court? If they are not, then they are worthless. Since our courts are owned and operated by the same organization that owns and operates the reserve bank (the Fed), you can bet your life that there is zero percent chance that they will enforce any title to money except Federal Reserve Notes, which are no longer even money substitutes but have been artificially made into money itself. So, the real problem is a legal/political one, not a technological one.

Please do not mistake me to be discouraging people from trying to break out of the central-bank-controlled money system. If there is any hope of escape, it is exactly through this brazen sort of attempt to circumvent the system… hopefully, if enough people start trying to circumvent the system all at once, the system itself will collapse and we will be freed of that globe-sprawling octopus: the global central banking system. So, I encourage the e-gold, Pecunix’s, GoldMoney’s, BitCoins and the like to keep trying. My only beef is with the implicit rejection of the Austrian account of the origin of money in the paper introducing BitCoin and on its website. Something cannot become money unless people will willingly exchange other valuable things for it and no one will exchange something of value for something of no value (fiat paper or digital tokens).

Google “bitgold” - an idea originally created by Nick Szabo at George Washington University - to understand what I’m talking about. He came up with his idea years before this BitCoin thing (I can’t imagine that BitCoin was not modeled on bitgold). Bitgold, in turn, was an extension of the idea of hashcash which was originally invented as a counter-measure to spam and DDoS attacks. Szabo discusses bitgold as if it were being “mined” from some digital landscape. It’s a nice metaphor as far as it goes but the difference between gold and bitgold is that people want to mine gold for its commodity uses. What is the commodity use of bitgold? There is none. What is the commodity use of BitCoin? None that I know of. But hashcash, on the other hand, is regularly used. Why? Because it solves a real-world problem so, therefore, it has commodity value. Another poster pointed me to d2jsp and “forum gold” - fg. The fg currency unit also has a commodity value (its exchange rate against WoW, Diablo, etc. game pieces) and this explains why it is used as a medium for real exchanges.

Clayton -

42

You’re right, I’m sure people will lose interest in anonymous financial transactions any day now. Not that it even matters, since nobody ever tries hides their finances.

43

One purpose of stored value is to provide a stable long term investment. On the other end of the spectrum, its purpose is to provide short term liquidity. Physical commodities are at one end of the spectrum. They hold their value well, but they are not very liquid. Private currencies and legal documents representing ownership of commodities, such as digital gold currency and commodity exchange contracts, are more liquid than the actual commodities they represent, less liquid than money and generally a better investment than national currencies. National currencies, with their slow and steady inflation, offer a good balance between not terrible long term investment and very good local liquidity in the form of physical cash and long distant liquidity in the form of electronic banking services. Bitcoin’s place on the spectrum is on the opposite side of physical commodities. It’s not a stable investment, but it is extremely useful for its local and long distant anonymous liquidity. It doesn’t matter if bitcoins will or won’t be worth anything in two years from now because today I can purchase some bitcoins, spend them and the seller can cash out with little risk of loss or frozen assets to either of us. It works fabulously in the short term and it will continue to grow until something else better replaces it. But until then, it is the most secure way to easily and quickly transfer stored value anonymously.

I edited this post, but I didn’t mean to turn it yellow. o_O

44

“That’s all fine and dandy but you and several other posters seem to be laboring under the common misconception that scarcity is a sufficient condition for something to be money.”

I agree; scarcity isn’t the only condition. It should also function as a medium of exchange, it should be easy to store and retrieve, it should be fungible, and durable. Bitcoin meets all of these conditions except the medium of exchange, which is growing as its acceptance grows.

“But the technological problems are relatively unimportant… these are like the anti-counterfeiting features of banknotes. What is important is the legal context… are these titles to money enforceable in court? If they are not, then they are worthless… So, the real problem is a legal/political one, not a technological one.”

This is a very real problem, but it does not follow that the money becomes worthless. I believe that gold and other money substitutes have this same problem, but they still have value.

"Please do not mistake me to be discouraging people from trying to break out of the central-bank-controlled money system. If there is any hope of escape, it is exactly through this brazen sort of attempt to circumvent the system… hopefully, if enough people start trying to circumvent the system all at once, the system itself will collapse and we will be freed of that globe-sprawling octopus: the global central banking system. So, I encourage the e-gold, Pecunix’s, GoldMoney’s, BitCoins and the like to keep trying. "

I completely agree. If a truly distributed form of money takes off, it will be difficult for that to be controlled without a gross violation of civil liberties and rights. Just look at the govt’s “success” in dealing with P2P networks. Two situations can arise:

  1. Digital currencies are subject to regulation, but people get around this in practice, save for large sums exchanged for USD/etc… for which it is easy for the govt. to notice.

  2. The government completely outlaws it and proceeds to enforce this by banning all encryption (except for govt.-approved encryption) completely. I cannot predict what will happen should this come to pass, but this can only foment discontent and rebellion, as well as confirm the government’s increasing role as a tyrant in society; in the long run, this will be beneficial for those who believe in liberty and desire liberty.

“My only beef is with the implicit rejection of the Austrian account of the origin of money in the paper introducing BitCoin and on its website. Something cannot become money unless people will willingly exchange other valuable things for it and no one will exchange something of value for something of no value (fiat paper or digital tokens).”

Gold didn’t become money and wasn’t used for jewelry because it was valuable, gold became valuable because it was desired for money and for jewelry, and this was due to its beauty and its properties as money.

Bitcoin has similar properties as money applied to the digital sphere. It by no means follows that it will become valuable and that it will become an accepted means of money, but nor does it follow that it must remain worthless. Should people desire a distributed, anonymous currency that shares many of the commonly accepted properties of money, then its value will be at least what those people subjectively value it at.

“Google “bitgold” - an idea originally created by Nick Szabo at George Washington University - to understand what I’m talking about. He came up with his idea years before this BitCoin thing (I can’t imagine that BitCoin was not modeled on bitgold).”

Do you think Bitgold was a bad idea? I don’t know much about the history of Bitgold, but Bitcoin has a working implementation, it has its own website and community, and it is actually being used by 3rd parties. Volume on one of the main exchanges is between $50 and $500 a day, so it does have some demand. It is in an infant stage right now, but everything has to start somewhere. Bitcoin has many of the properties of money, not just scarcity, and it has properties that are demanded by the market, as as decentralization and anonymity.

The state monopoly on law and money is a very real obstacle; indeed, it’s probably the largest obstacle. This isn’t an issue just for Bitcoin, but for ANYTHING trying to challenge the status quo. That does not mean that we shouldn’t try to vault over this wall. Bitcoin might fail due to these reasons, but it will at least have tried. Do you see any technical reasons why it could not work? I encourage you to head over there and share your thoughts at the Bitcoin forums; I think they would benefit from a little bit of dissent and a friendly challenge.

45

The Austrian view is that a commodity becomes money (the medium of exchange) because it was first already a highly marketable commodity. Gold and silver’s commodity value for adornment is what made them valued. Because gold and silver also happened to have characteristics that made them attractive for use as a money, they won out over other commodities that had been used as media of exchange (salt, dried tobacco, pelts, cowrie shells, etc.)

Because bits have no commodity value (they are not scarce so they cannot be valuable), no digital currency will ever be money in its own right just as paper money was never money in its own right sans government interference in the market. Digital currency at best will be a money substitute and its role in exchange should be analyzed in the same light as other money substitutes.

Clayton -

46

In this case, it might very well be that “anonymity”, “transaction-cost free”, and “distributed” might be those marketable attributes of Bitcoin.

In one sense, this is like saying “Because atoms have no commodity value (they are not scarce so they cannot be valuable), no physical currency will ever be money in its own right…”. But I know you would never say such a thing; neither would I.

Gold isn’t valuable because atoms have commodity value; rather, that specific configuration of atoms in terms of protons, neutrons, and electrons, and molecule configuration as well as gold’s chemical properties, is what makes gold valuable. In the same sense, Bitcoins are not just “bits”, they are a specific pattern of bits in a pattern which is scarce by design. It is the pattern of bits which is that unit which has the qualities of money.

Now, it’s not quite as good as gold: gold can survive an EMP burst, and it could even survive the destruction of all technology. There is also no known way to “break” gold, at least not until the day where we can painlessly sift gold atoms out of seawater. I certainly concede that point. I also concede the point that so long as there are legal tender rules, Bitcoin will only be a 2nd or 3rd class currency.

That might just be good enough for now. I share the same concerns that you do; what’s important is to get the snowball rolling. You can’t get from A to Z without first going through B, C, etc… and there will most likely be improvements along the way that will address concerns like the ones you have expressed (Bitcoins don’t function as a means of exchange since their current acceptance is so low; what prevents them from being manipulated, copied, etc…?).

47

The difference is that gold atoms are naturally scarce whereas BitCoin bits are scarce only as a matter of convention. I can create “scarce” bits simply by flipping a coin repeatedly and claiming the particular pattern that emerges as “bit gold.” The bits of bitgold/BitCoin/hashcash are valuable as proof-of-work but nothing else. While proof-of-work has some value - as proven by the durability of hashcash - I think it is a long ways from being among the most highly marketable goods.

I’m being so critical only because I have worked extensively on this problem myself and have developed some of my own solutions (most have been discarded, others are currently on the drawing boards) and have wrestled with the economic and technological side of the issue at length. It is my view that the best path forward is to establish some sort of paper-currency-reserve-backed digital currency system and extend from there into gold or other commodities. My first attempt used a centralized reserve but then I ran into the problem that there is nowhere on Earth that is safe from the long arm of the Federal Reserve. So, you either follow the e-cache route and use an un-audited gold reserve or you find some way to distribute the reserve. The idea currently on the drawing boards is some kind of distributed, (physical) dollar-backed, peer-to-peer reserve system. Some of BitCoin’s solutions are highly attractive, especially the proof-of-work-based secure timestamp system, highly preferable to other secure timestamp schemes.

Clayton -

48

just like any fiat currency.. however it was started from zero like bitcoin

49

Fiat currency only exists by virtue of the force of the State manipulating the market to imbue its fiat tokens with value. It seems to me that the creator of BitCoin labors under the misconception that dollars are valuable simply because there is a finite number of them in existence. This is, of course, not true. Dollars are valuable because people accept them in payment for goods and services. And people only accept them in payment for goods and services because dollars were once a mere money substitute for gold. Only State force can convert a money substitute into money proper. I can imagine a tyrannical government forcing us all to use a BitCoin-esque fiat digital currency. But it is not possible for BitCoin or any similar currency to become valuable simply because it is scarce.

Clayton -

50

By virtue of the force of my massive gold supply, I manipulate the market to imbue bitcoins with the value of 0.000125 grams of gold per bitcoin. Before I die, I will found a foundation with enough gold reserves to maintain this value until the end of time.

51

As an aside, there is a number the “mining” of whose bits may be really valuable. This number is Chaitin’s constant also known as the “halting probability” - the probability that a random program will halt when executed on a given Universal Turing Machine (idealized computer). The bits of Omega can be used to decide whether a particular program halts in computable time. This is important because any question in mathematics can be formulated in terms of the halting of a Turing machine… an algorithm that exhaustively searches all mathematical proofs of P = NP could be programmed to halt if P = NP otherwise not to halt. Determining whether this program halts or not would be equivalent to proving P = NP or P != NP.

In this sense, Omega contains all of mathematics. Mining the bits of Omega is uncomputably hard - harder than exponential time… harder, in fact, than O(any definable mathematical function). Yet, Omega has a definite value. Computing its bits would be a genuine contribution to human knowledge since each new bit of Omega that is computed would be a novel contribution to human knowledge. The mathematical consequences of each new bit could be worked out by mathematicians and promulgated into the literature.

The Clay Institute offers a $1m prize for several open questions in mathematics. A similar kind of bounty could be placed on the mining of bits of Omega. The first person to mine a new bit of Omega could be awarded some large sum of money and this would incentivize the competitive application of computing power.

I’m not sure how any of this could be applicable to digital currency, however. :wink:

Clayton -

52

d2jsp currency is 100% fiat, was started that way, and the state was in no way involved, its a completely free market anarchistic internet enterprise, and it has grown huge. Im sure there are other success stories as well. You are simply wrong on the no fiat on free market idea.

53

I believe in Bitcoin’s case, it’s not that his statement was right or wrong, it’s that Bitcoin is not a fiat currency in the usual sense. It is designed to function much like a digital form of gold. He makes a good point that real gold had non-monetary uses which lent it value before it became to be used as money, but I believe that Bitcoin also has valuable attributes such as being distributed, transaction free, and somewhat anonymous. This may (or may not) help to drive initial adoption of the currency.

54

Agreed, we will have to see what the market thinks about the distributed nature and other qualities of Bitcoin, but the implementation still has a ways to go. It’s ok; it’s all about getting the snowball rolling :slight_smile:

I’m glad that there’s guys like you out there putting a lot of thought into this, because I see digital currencies as one of the ways to secede from the overbearing arm of government. I also find this interesting, because I believe that some form of digital currency is the way to go in the future. If/when nanotech does a sharp takeoff, it’s going to drive material costs through the floor and greatly alter the price structure; even gold won’t be safe if it becomes dirt cheap to mine; perhaps even to transmute. A new paradigm for money will be needed; I could imagine that energy and CPU time (and by extension, computronium) will continue to be scarce and valuable.

Today, however, it is the long arm of the government that we have to worry about most. I believe that any centralized system will necessarily fail because the governments have the centralized power game down pat. Having a center also means having a single point of weakness. To survive in today’s political environment, any solution will necessarily have to be distributed, and I believe that is Bitcoin’s largest advantage.

55

I’m not sure how it would be applicable, either, but that’s pretty interesting! I read through the PDF, and for some reason it got me thinking about the whole subjective/objective morality debate again, but I won’t get into that in this thread :wink:

56

@Clayton

If you are willing, I would like to run through a hypothetical with you regarding the Bitcoin concept. Let’s assume that all of the technical goals of the Bitcoin pan out. This means that they are mathematically proven to be unhackable, they do have an upper limit to the amount in circulation (21M), and the distributed system works and scales infinitely. Let’s also assume that any alternative forms of currency are largely transacted digitally, meaning that the threat of a world wide EMP would devastate/destroy any system.

Let us now assume that a totalitarian world government forces Bitcoin’s use upon everyone in the world as the only allowable form of currency. Eventually this government is overthrown but not before the BitCoin is the universal form of currency. Anarcho capitalism (or your pick of anarchy) takes over as the rule of the world with nothing forcing people to continue to use BitCoins as currency. Do you hypothesize that the use of Bitcoins as a means of currency (i.e.: something you use to pay for goods / services) would fall in favor of some other (perhaps physical) commodity or commodity backed currency?

While I can not fathom how (other than coercion) a currency such as Bitcoin could come into popular favor, I also do not see why it would fall out of favor after it has value. I do agree with you that in order for a currency to become generally used it needs to be backed by a useful commodity. However, I also believe that all that is needed for a currency to stay a currency is scarcity and security.

The USD went through a process such as this where it was once backed by a commodity, giving it it’s initial power but now it is no longer backed. As long as it has scarcity people will continue to use it as a form of currency. The thing that is now killing the USD is the world’s realization that it is not in fact scarce as the federal reserve can print it at will.

The way I see it, people desire a currency as it is much preferable over the alternative (bartering). People also desire the currency to be as widely used as possible. This means that unless a new form of currency has an advantage over the old one, people will not switch. In the case of our hypothetical scenario the Bitcoin has no (as far as I can see) disadvantages over any other form of currency. As long as it’s accepted, people will continue to use it and as long as people continue to use it, it will be accepted. While this is circular, it is also self sustaining.

Current world currencies differ from this because there are disadvantages to them. Primarily, there are risks of devaluation as more currency is injected into the market over time due to printing (in the case of the USD) or more gold is mined thereby increasing the reserves (in the case of a backed currency). I hypothesize that people prefer to know that the purchasing power of their currency can not change over time (as is the case with a fixed money supply) and therefor would have no reason to change to any other form of currency.

In a similar hypothetical, let’s say that there is a backed currency and the Bitcoin, both are used in equal proportions of the world meaning that neither currency has achieved popularity over the other. For every Walmart that accepts Bitcoin there is an equivalent Walmart that accepts this backed dollar. Given this scenario, which would win out as the supreme currency? If you assume that people desire a single currency to use then one of them will eventually become the popular choice but would it be the backed currency or the virtual one?

The virtual currency has no inherent value while the backed currency does not offer the security the virtual one does since physical goods can be stolen, seized, created, etc. This begs the question of which do people value more, security in a distributed uncontrolled but mathematically proven system or the knowledge that their currency can be turned into some physical commodity, as long as the issuing institution remains around?

57

@Micah71381

We can look at the Somali shilling to affirm that you are correct that a fiat money can continue in use even after its backing has completely collapsed. Economist Ben Powell describes in a lecture available online that the Somali shilling continued in use even after the collapse of the Somali government. Interestingly, what happened is that Somalis stopped accepting any shilling notes larger than the largest denomination at the time of the collapse. So, the shilling could not be inflated beyond a certain point and it dropped to approximately its commodity value (paper+ink+printing+transportation costs) and is used in small transactions.

But bear in mind that in the competition between currencies, the opposite of Gresham’s Law would hold… good money would drive bad money out of the market just like good cars drive bad cars out of the market. People would prefer to transact in currencies that actually meet their needs. All things equal, I cannot imagine someone choosing to use an unbacked over a backed currency. Even if there were a government-sponsored fiat BitCoin, when that government collapsed, people could issue their own gold-backed BitCoins or whatever, and wipe out the old, government fiat BitCoin system (I know I’m playing fast and loose with the technical details but I’m making a point about the economics of the situation, not the technology). This would be analogous to privately issuing gold-backed dollars in the wake of a collapse of the US government. The unbacked dollars would eventually become museum wallpaper or cigarette-wrappers.

Clayton -

58

@Clayton

My curiosity lies in why you think people would choose to switch from a commonly accepted but unbacked currency with a finite supply (no one can print new money) to a backed currency that isn’t accepted anywhere and can be printed/mined freely. Even if you could gather an initial small following for the backed currency, I don’t see how it could break into popular usage in favor of an unbacked but finite one. With current currency, the big reason I see as to why people would drop an unbacked currency with the collapse of the issuing institution is mainly because there is no longer any control on it’s printing.

The unique feature of the Bitcoin that I see is the inability for anyone (even the creators) to print new money which sets it apart from a traditional currency. This means that while it may not be backed, just as the USD is not backed, no one can create any more meaning that as long as everyone accepts it as a form of currency it serves it’s purpose better than any other kind of currency out there (it maintains or gains spending power indefinitely).

In your example of the collapse of the US government, are we assuming that it is impossible for anyone to print new currency after such a collapse? Are we also assuming that the general populous understands that printing of new currency is impossible? With all current currencies the only thing that stops printing in the wake of the collapse of the issuing institution (bank or government) are laws which generally are assumed to have also broken down in such a collapse.

The other problem I have with making a correlation between modern currencies and the Bitcoin is that should any single government collapse there are dozens of alternative currencies to switch to that essentially have all the same advantages/disadvantages that the previous one did. In the case of going from an all Bitcoin society to a backed currency society though, there is a disadvantage that must be taken into consideration, the fact that the money loses value over time due to printing/mining.

59

@Micah:

Well, in our fiat-money age, it is easy to think that the problem with modern money is that its supply can be increased. But this is not actually the problem. The problem is that the price of money - which would be set in a natural order economy by the balance between the demand for cash balances and the supply of money - is controlled. In a natural order economy, it is conceivable that a situation could arise where an increase in the quantity of money would, in fact, be beneficial to the economy. If we imagine gold to be the monetary commodity, then this situation would be addressed by an increase in gold mining until the marginal costs of mining are about equal to the marginal revenue earned, just as an in any other industry (also, by conversion of non-monetary gold into monetary gold but that’s a pedantic issue).

So, BitCoin’s fixed supply could, in the future, actually be a defect, not a feature. But again, I don’t think the technical issues are the primary obstacle to BitCoin or any other digital currency. The problem with the “bit gold” idea as originally propounded by Nick Szabo is that proof-of-work is not among the most marketable goods so it’s not even in the running to become money, even though it shares some of the other desirable attributes of money.

Clayton -

60

@Clayton

I do agree that the problem with modern money isn’t with the ability to mine/produce more of it, it’s that the value ‘assigned’ to money does not match the cost to produce it.

I would personally rather have a form of currency that I knew would remain of constant value, with no ability to mine/produce more thereby increasing it’s supply. Can you go into more detail as to what advantages you can see to the production of additional currency?

Is it perhaps an issue of the currency not being divisible enough? I can see a hypothetical situation where the population grows so large that 2.1 x 10^15 indivisible units of currency are not enough to accurately price goods / services. Perhaps a significant portion of the currency leaves the economy (e.g.: by people dying without transfer of wealth, or hoarding) over time and eventually it’s no longer 2.1x10^15 but instead a much smaller number.

The examples of problems with a non-expanding currency listed above, can be resolved through technical means such as a divisibility system that scales infinitely. Such a system may allow for modifications to the divisibility as technology advances (i.e.: 32-bit to 64-bit to 128-bit) thus allowing currency to leave the system while still maintaining value yet scaling infinitely as to it’s divisibility.