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Mises: Is Bitcoin Money of the Future or Old-Fashioned Bubble?

Is Bitcoin Money of the Future or Old-Fashioned Bubble?

Mises Daily: Tuesday, April 09, 2013 by Patrik Korda

Bitcoin has been all the rage lately. The stuff, or lack thereof, runs on peer-to-peer technology, is fully decentralized, has no patents, and is open source. Currently, there are almost 11 million bitcoin units in existence and the maximum amount of bitcoin units that will ever be created by the logic of its design are 21 million. For more details on how they work, see the recent Mises Daily “The Money-Ness of Bitcoins” by economist Nikolay Gertchev.

The Issue

While bitcoins are designed so that they cannot be hyperinflated in name, they certainly can be hyperinflated in substance. Already, there are numerous knockoffs such as litecoin, namecoin, and freicoin in place. This is a particularly valid point because bitcoin is a starfish, i.e., it is fully decentralized. As stated by Ori Brafman and Rod A. Beckstrom,

The starfish doesn’t have a head. Its central body isn’t even in charge. In fact, the major organs are replicated throughout each and every arm. If you cut the starfish in half, you’ll be in for a surprise: the animal won’t die, and pretty soon you’ll have two starfish to deal with.[1]

After the music-sharing service Napster went under, Niklas Zennström (the creator of Skype) stepped in with his creation called Kazaa, which had no central server that could be shut down. Eventually, such peer-to-peer programs became more numerous, to include Kazaa Lite, eDonkey, eMule, BitTorrent, etc. While this may be good news for people who like to download and share content for free, it certainly is not for people who are under the impression that bitcoin is a hedge against inflation. Those who compare bitcoin to a language neglect the fact that most people do not have an incentive to create a new language out of the blue. On the other hand, a great chunk of human history consists of people searching for the philosopher’s stone to magically produce gold. There can be no doubt that bitcoin has a built-in gold rush mechanism, which has already spilled over to litecoin and will be sure to spill over to
subsequent knockoffs as well.[2]

Money

Does bitcoin jibe with the Austrian stand on money? The only way to find out is to read what the great Austrians had to say. Let’s start with Carl Menger. In Principles of Economics, Carl Menger made the point that money, a general medium of exchange, has always tended to be the most “saleable” (i.e., “marketable” or “liquid”) commodity of the time.

What is saleability? It is not simply value. One may have a Picasso at home, which will fetch quite a sum at a Sotheby’s auction during a boom, but a Picasso, like a poem by Friedrich Shiller, a work of Sanskrit, or a decades-old bottle of red wine can never be the most saleable good. As Menger put it, saleability is the

facility with which [a good] can be disposed of at a market at any convenient time at current purchasing prices, or with less or more diminution of the same. (...) Compare only the number of persons to whom bread and meat can be sold with the number to whom astronomical instruments can be sold.

Menger went on to point out that cattle were the most saleable commodity in the ancient world. This is perfectly understandable in a world where bare-bones subsistence is a reality for most people and the structure of production is virtually nonexistent. As society progressed, however, cattle became less and less marketable.

As civilization progressed, Menger states that,

… peoples who were led to adopt a copper standard as a result of the material circumstances under which their economy developed, passed on from the less precious metals to the more precious ones, from copper and iron to silver and gold, with the further development of civilization, and especially with the geographical extension of commerce.

Gold won out due to a variety of reasons, such as being durable, amalgamable, malleable, divisible, homogeneous, and rare. Yet, the ultimate reason that gold won out is because it was the most saleable of commodities. As Menger went on to write,

Gold nuggets extracted from the sands of the Aranyos River by a dirty Transylvanian gypsy are just as saleable in his hands as in the hands of the owner of [the] gold mine, provided the gypsy knows where to find the right market for his commodity. Gold nuggets can pass through any number of hands without any decrease whatsoever in marketability. But articles of clothing, bedding, prepared foods, etc., would be suspect and almost unsaleable, or at any rate of greatly depreciated value, in the hands of the gypsy, even if they had not been used by him, and even if he had, from the beginning, acquired them only with the intention of passing them on in exchange.

This leads us to another criticism of bitcoin: It can never be the most saleable good. The reasoning for this is quite simple. Until the majority of the 7 billion or so people that inhabit this planet have either a smart phone or frequent access to the internet, a digital currency is out of the question.

Gold, on the other hand, is easily recognizable, as opposed to silver that may be mistaken for other metals such as nickel. Moreover, it melts at a relatively low temperature and is a relatively soft metal, which provides superior amalgamation and partly explains why it historically won out over metals such as platinum. If one questions the role of gold in the present monetary system, one only has to walk down the street in a metropolitan area and see a ‘We Buy Gold’ sign. Moreover, central banks hold gold and lots of it. They do not hold cattle, wheat, soybeans, copper, silver, or bitcoins.

Menger also wrote,

I am ready to admit that, under highly developed conditions of trade, money is regarded by many economizing men only as a token. But it is quite certain that this illusion would immediately be dispelled if the character of coins as quantities of industrial raw materials
were lost.
[3]

While it may very well be true that some early adopters valued bitcoins with what Menger described as imaginary value, the point of the most saleable good bears repeating. Gold is and has been seen as an object of beauty since the dawn of civilization. Thus, the argument that bitcoins are in accord with the regression theorem because a handful of people consume them as they would a Picasso, is like saying paper money has value because John Law or Ben Bernanke really enjoy playing monopoly. In fact, we might as well say that alchemy works, considering that a significant amount of human history and energy was spent in attempting to find the philosopher’s stone. Some people may enjoy work just for the sake of working. Unfortunately, this is not a sufficient justification for slavery nor the labor theory of value.

Anonymity

With the imminent hyperinflation meme fading away and no longer holding much water, the new reason to hold bitcoins is the anonymity, nay, the freedom that it provides. Want to gamble online or buy something illegal? Bitcoins are the solution. It is a way of circumventing the authorities and uplifting free and voluntary trade, or so goes the story. Unfortunately for many of the misinformed, the reality is toto caelo. It would be best to take it from bitcoin developer Jeff Garzik himself. The fun starts at 3:20.

The ironic part about this is that anyone and everyone who has participated in illegal activity using bitcoins, presumably because they thought it was anonymous, now has a permanent record of every single one of their transactions contained on the public ledger. Those who think they are clever by using add-ons such as Tor are just as foolish as those who think prepaid cards or smart phones are anonymous. Imagine if bitcoins existed 50 years ago. Chances are, none of the last three presidents (including Barack Obama) would have run for office.

Bubble Time?

The question left to be answered is whether or not bitcoin is once again taking the shape of a bubble. The answer is yes. There is present a reflexive pattern of people buying because prices are rising, and prices rising because people are buying. The myopic are extrapolating the price trend of the past four months, which they deem is normal, and in so doing they exacerbate it to the upside, thus attracting even greater fools. The inflection point will come when the continuity of bullish thought is broken. One thing is for sure, the amount of suckers left who are willing to jump on the moving and ever-accelerating train is drawing thin, and so are their pockets.

When prices for any asset go parabolic, it does technical damage to a chart. It is sort of like someone deciding to go full speed in the middle of a marathon. Surely, one would look good for a few minutes. However, at a certain point one would inevitably collapse, with the possibilities of finishing the race being greatly diminished, let alone doing as well as they would have otherwise.

Gold went parabolic toward the second half of 2011 to $1,900/oz., which did a lot of technical damage to the charts that gold is just now beginning to shake off. Like Icarus, who had soared too high and melted the wax on his wings, parabolic moves always end in a correction, and if prolonged, a crash. Ironically, the best thing that can happen for bitcoin naysayers is if bitcoin skyrockets to $300/btc within a week.

There is nothing anti-Austrian about acknowledging that there exists in the market place a lot of naïve, irrational, and misinformed players. During the dotcom bubble, for example, a maintenance and building company called Temco Services almost tripled in a matter of minutes in 1998. The reason is because by 1998 every other layperson was involved in the market. Thus, the level of competence significantly dropped. The ticker symbol for Temco is TMCO, which was fairly close to that of Ticketmaster Online, which was TMCS. Ticketmaster Online (then TMCS) just happened to trade publicly for the first time on the day that Temco Services (TMCO) tripled. Rising asset prices create euphoria, and euphoria significantly drops the IQ of the participants.

Another reason why bitcoin is so susceptible to bubble behavior is because it is perceived as being something new. “New era” thinking always attracts lots of attention. The tulip was introduced to Europe by way of Turkey in the middle of the sixteenth century. (In fact, the word tulip came from the Turkish tulipan, which means turban.) The tulip was perceived as something new to Amsterdam, a country which at the time possessed an abundance of newly discovered gold and silver from the New World. Likewise, the Mississippi bubble, which was perpetrated by John Law, promised vast riches to be had from the New World. The manias in railways, the radio, the internet, you name it, most of them involved something new or something perceived to be new.

There is no doubt that bitcoin is a spontaneous answer to the monetary instability that we see all around us today. On one side of the pond people are worried about the glorified currency peg known as the Euro and on the other about the amount of damage that Bernanke is willing to inflict upon the world’s reserve currency. However, let us not become so enamored of an innovative stateless solution that we forget Austrian economics and hitch libertarianism’s wagon to something heading for a crash.

- - - - -

Patrik Korda holds a bachelor’s degree in political science from BISLA and currently lives in New York, NY, where he works in market research. Follow him and Professor Mark Thornton on Fighting Apoplithorismosphobia. See Patrik Korda's article archives.

You can subscribe to future articles by Patrik Korda via this RSS feed.


creativecommons.org

Notes

[1]
The Starfish and the Spider
was originally published in 2006

[2]
Consider that bitcoin started at $35/btc in March and is currently at $185/btc, this is an increase of 429%. However, litecoin started at $0.07/ltc in March and is currently at $4.49/ltc, this is an increase of 6,314%. It makes perfect sense for people to pile into knockoffs because the potential profits, due to starting from a much smaller base, are exponentially higher. This is the gold rush mechanism at work.

[3]
Underline added by the present writer



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I believe Bitcoin is a bubble, but...

I believe Bitcoin is a bubble, but I must point out that your argument is economically invalid. The maximum numerical total of coins (or units) that will exist is no barrier to use of a currency. If there are fewer units, each unit will just be worth more, to match the overall wealth of society. It only matters that the currency is conveniently divisible.

Bitcoin is divisible down to eight decimal places, not just two. So even though the price of a single coin is peeking over the $200USD mark right now, you can still spend as little as two ten-thousandths of a cent in equivalent USD.

In fact, the price of a single Bitcoin will need to reach $1,000,000 before the smallest unit possible will be equivalent to one cent in today's USD.

This is the same argument often used against gold as currency: "There is just not enough gold to support the needs of a population of 300 million much less a population of 7 billion." That's baloney. Of course there is enough gold. Each unit of gold will just be worth more, so people will have the same wealth, but just using less of it.

"And if some individual was to somehow buy all the gold then how much would they be worth?" Buying all the world's Bitcoins is about as realistic as someone buying all the world's gold.

The word....

...is bologna.

Michael Nystrom's picture

A rude awakening for some is indeed in the cards

Who those people are remains to be seen.

Only 21 million will be "mined" so it could never support the needs of a population of 300 million much less a population of 7 billion.

This is clearly not true, and is the same fallacious argument made by those who say "There isn't enough gold in the world to support a gold standard." Bitcoins are infinitely divisible. The marketcap of the entire 21 million coins is infinity. So that argument is false.

And if some individual was to somehow buy every bitcoin then how much would they be worth? Nothing, unlike gold or silver which are real.

Would they be worth any more than if someone bought every ounce of silver and gold? If none is for sale, a valuation is impossible - with bitcoins or gold.

And at least if I use cash for a transaction then it can be totally and completely anonymous while nothing is anonymous with bitcoin.

This is certainly true. The video linked in the article above is most helpful:

http://www.youtube.com/watch?v=zhj1zeisqWY

I would recommend watching it all the way through. Bitcoin is not anonymous. Furthermore, they are working with Federal authorities to register bitcoins as money, subject to all federal rules & laws.

On the one hand, yikes. On the other hand, this indicates a potential staying power. Meaning that it may not just be a bubble...

The final valuation remains a mystery.

Finally, I have to disagree with your conclusion that Bitcoin does nothing to promote liberty or freedom.

Bitcoin functions as money, meaning it facilitates transactions and voluntary exchanges, and that has everything to do with liberty and freedom.

He's the man.

i could be wrong but

i think btc's are way more anonymous than claimed by the guy in the video.
your name is in no way connected to your btc account. it's a good idea to create a few addresses just to be safe though. for the gov to try and come after you would be like the gov trying to arrest and prosecute everyone who smoked a joint. at this time it's not gonna happen because it's not worth the trouble and cost. maybe in the future it could become a problem but there are already services to "wash" your bitcoins for a small fee if you are paranoid.

Official Daily Paul BTC address: 16oZXSGAcDrSbZeBnSu84w5UWwbLtZsBms
Rand Paul 2016

So do poker chips, but they don't have any value.

"Bitcoin functions as money, meaning it facilitates transactions and voluntary exchanges, and that has everything to do with liberty and freedom."

So do poker chips but they don't have any value. A poker chip represents 'something of value' stored elsewhere. There is NOTHING OF VALUE BACKING UP BITCOIN. Should I believe a poker chip has value because it was "mined" into existence? What of value was mined? Another poker chip?

No thanks. Poker chips are bad way to store value, and poker chips create nothing of value unless you gamble them in a Ponzi Scheme.

BitCoin is the very definition of a pyramid scam and what I see is you and many others promoting a pyramid scam here at the Daily Paul. It's a dime store scam just like all the other monetary scams born from people who want call poker chips money.

He's ABSOLUTELY right saying 'Bitcoin does NOTHING to promote liberty or freedom' because it leaves me thinking "the liberty and freedom movement" is filled with conmen and frauds trying to call poker chips money and profit off a pyramid scam.

You know BitCoin is fraud backed up by nothing of value, but you recognize the profit making potential a pyramid scam offers, so you promote it here at the Daily Paul.

i'm right there with you. i

i'm right there with you. i don't know what these people are thinking. it's almost like they're the adolescent children looking for the first opportunity to rebel from their parents. but instead of drugs, they found bitcoin, and the better job they do of convincing people it has value, the more people will join and increase the value of their "stock". ponzi scheme if there ever was one.

They cannot control Bit Coin.

Only bitcoin exchange companies: which are not even necessary.

"We’ve moved beyond the Mises textbook. We’re running in the open market." - Erik Voorhees

excellent points micheal, but

excellent points micheal, but people still don't realize that an infinite number of bitcoin clones can be created, which would inflate the supply and drive value down.

That's like saying that

That's like saying that because the euro is like the dollar, adding euro's to the dollar supply will inflate the dollar. Makes no sense whatsoever.

There already exists multiple BC copies. Some of them have only minor differences. But they aren't considered as part of the BC supply. And there's a very easy way one can see this: the price mechanism. Really, I can make one long ass post detailing the differences, but I have yet to see any economic theory even SUGGESTING that two currencies that have price differences are one and the same currency. The very idea itself is contradictory and devoid of any logic.

let's say someone creates

let's say someone creates another bitcoin-like system, with all of the same properties as bitcoin, but it creates 21 million more coins in a completely separate database or wherever the coins are found (remember, 21 million was a random number to begin with, anyway) . you would see an increase in the amount of coins higher than the demand. this is noteworthy because an infinite number of "clones" can be created, and because they all have the same properties (aside from 1st dibs), they can essentially be considered the same currency. unlike the euro or american dollar, where each is controlled by it's own private central bank with different rules and regulations.

"Bitcoin is infinitely divisible".

You said a mouth full right there. "Nothing" IS infinitely divisible. Not the same as the gold standard argument. Gold is finite and real.

If someone owned and hoarded all the bicoins they would be worthless. If someone owned and hoarded all the gold or silver then it would be priceless.

I stand by my belief that bitcoin does nothing to promote liberty or freedom. No more than FRNs or any other currency that is.

:-)

It doesn't need to be infinitely divisible

Does the dollar need to be infinitely divisible? No. A currency only needs to be conveniently divisible.

Bitcoin promotes liberty and freedom in that it is currently uncontrolled by governments. It is what Ron Paul termed a "competing currency". Just because it isn't gold backed, isn't a reason not to praise it for at least offering an alternative to FRN.

I actually disagree with the Mises article on this. I want hundreds of competing currencies. Even if some of them are built on shaky foundations, the more the better! I'm for anything that makes it more difficult for government to burden its citizens with taxes. As more of the economy is taken underground, the increasing desperation of an out-of-control government will be further revealed.

Sure it could...

Bitcoin is divisible to ten units back. The last unit being called a satoshi. If one Bitcoin becomes so valuable people will trade for Satoshi's. All your criticisms have been thought about by people much more smarter than you and addressed in the white paper put out by Satoshi Nakomoto. Also, If bitcoin is the digital gold... There can be a digital Silver.. I would think that would be litecoins. plenty of room in this world for competing currency's and litecoin has an attribute about it that bitcoin doesn't have. Litecoins are designed to be CPU driven for mining. Meaning you dont need these expensive 50k rigs to mine litecoin. So a poor kid in india can find some computer parts put them together and start mining.

END THE FED- USE BITCOIN/LITECOIN

Stop using the Dollar and empowering the central bankers!

Fight for Liberty!

I didn't get past your second sentence.

Before I realized that you are one of the stupid kids the guy was taking about in the video. If you can't offer any meaningful discussion then shut your ignorant pie hole.