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Bitcoin

May 30, 2011 2 comments

Today’s lesson: Money is only worth something because someone with a gun says it is worth something.

If you don’t know what Bitcoin is, this is as good a place to start as any other.

The only reason Bitcoin is worth anything is because some nice/crazy/kooky/internet people decided it would be fun to buy some. It simultaneously riding the crescendo of two large memes:

1) Bankers/The Man is evil.

2) The Internet will save the world.

Now that people have bought in, the bubble has begun. The meme of Bitcoin is spreading, more misinformed people are feeding the flames by buying Bitcoins, and the price for them is doubling every couple of weeks/months depending upon whom you ask.

Classic asset bubble: people are buying something they think is valuable. It is not. The people who devised the plan in the first place, who own the valueless asset which they bought at a fair (basically zero) price, will ride the bubble up and cash out (if they are smart). The losers will end up holding the worthless asset, which in this case hardly even meets the definition of an economic asset: something that is valuable.

The stimulus for this post:  This guy is supposedly putting all his savings into Bitcoin.  These are the people whose musings and “advice” one should ignore at all costs. Not only is putting your entire life savings into a single asset incredibly risky, the volatility of Bitcoin’s price should be reason enough to make it an unfit “investment” (as a speculative gamble, I don’t anything wrong with buying bitcoin, although I also don’t see anything wrong with playing blackjack, or roulette for that matter. All three are only marginally worse than the equity market). This guy is either doing a classic pump and dump or he just has his head up his ass. Reminds me a lot of the guy who wrote this book.

People like Jerry Brito, who are in the business of predicting and profiting from tech fads, have been some of the currency’s biggest cheerleaders. As a technologist, he understands and is right about all the “on paper” advantages of Bitcoin, but he doesn’t understand the political economy of it. First, Bitcoin is not really a currency, it is a private asset, more analogous to buying property on the moon than to dollars or even gold.

There are many different currencies in the world. Currency needs to have utility. I generally hold my own savings as dollars (and dollar-denominated assets) because the places I go accept dollars, and the governments that compel me to pay taxes only accept payment in dollars. Some people prefer to hold on gold because it is really easy to convert gold into dollars anyway, and gold has intrinsic value, aesthetically and industrially.  Other prefer to hold euros because they live in the EU and pay taxes in euros and the local goods and services are denominated in euros. But in the case of Bitcoin, I have no utility from holding them. The pool of goods and services I can buy with them is small, and even if it grows 100 fold over the next year, it will still be small compared to the pool of goods and services I can buy with dollars. I also can’t pay taxes in Bitcoin. If this doesn’t seem like a big deal, take into consideration that the only reason the dollar has achieved primacy is because it is the only way to pay your debts owed for living within and benefiting from the social capital brought to you by the world’s greatest imperial superpower. The only reason dollars are worth anything is because the US military can fuck you up. It is literally illegal to not accept dollars as a form of payment within the US. People cannot be coerced into taking Bitcoin as payment, unless someone wants to step up and use Bitcoin as the national currency (which won’t ever happen, as I’ll explain).

Bitcoin won’t take off for the same reason Esperanto never took off: top-down systems “designed” by intellectuals to be “better” usually cannot gain enough critical mass to catch on without being co-opted by a violent, authoritarian institution. There is are tremendous political incentives for governments that adopt fiat currencies within a fractional reserve central banking model. Being able to debase your own national currency allows a government to decrease its real debt, stimulate short run aggregate demand (a convenient way to keep the peasants distracted and employed during a time of financial crisis), or pay for large expenditures such as wars. There are no political incentives for using Bitcoin. It is an inherently decentralized system that has no role for institutional authority, and so the institutional authorities will not use it.

Getting back to the compulsive gambler that inspired me to write all of this in the first place, the price for Bitcoins will continue to rise as it gains name recognition, but ultimately it is a classic asset bubble and it will pop (I will be generous and give it 3-8 years) as people realize that Bitcoins have no value except for what other people think they are worth. So maybe putting all your money into Bitcoin is a moneymaker for now, but many have been sent to the poorhouse trying to predict the top of an asset bubble. At least when you are buying real estate and the market crashes, you still own actual real estate. When the Bitcoin bubble crashes, all the losers will have is some 0’s and 1’s in a computer file.

Categories: Economics, Hackers, Money