Bitcoins are not digital greenbacks
Should you probably donate a bitcoin to your future self?
Bitcoin has been in the news a bit lately. In case anyone hasn’t been following recent events, its price hit $266 per coin, toppled to $50, and then climbed back to a rate which has been between $80 and $140.
This goes to show its high volatility at the present time, which means that any individual trade you make will be something of a gamble with a noisy, hard-to-predict outcome. You could be buying in right before a boom or a bust. Buying and then selling at random intervals will probably cost you more money than you make, due to transaction fees. Trying to outsmart the market in the short term with nothing but your own human instincts and powers of induction will probably cost you even more money because Markets are anti-inductive. The most realistic way of making much money with bitcoin—sans owning your own exchange, having skill and resources for serious technical analysis, a faster-than-usual trading bot, or fantastic luck—is if you can determine that the current price is very poorly calibrated relative to its future value, and if you buy and hold very long-term.
Market swings constitute a psychological attack, assuming you know and care about them, so employing the buy-and-hold strategy can be more difficult than it looks. However, as it happens, you can render bitcoins almost purely unspendable (i.e. impossible to transfer via the network) for a finite period of time as a technical matter. You could for example create a brainwallet based on a lengthy memorized passphrase with a random value appended to it. The larger that appended value, the (exponentially) greater the amount of processing time needs to be spent to find out what it contains. Having access to the memorized passphrase gives you the overwhelming advantage over a brute force attacker, whereas the appended random value immunizes it against dictionary attacks. (Todo: Find or write a program for this. Prove it works, and move some of my bitcoin holdings to a wallet requiring a day or more to unlock.)
Early adopters with moderate crypto skills could thus have a distinct advantage compared to the average investor and realistically hope to beat the market on that basis if mere human psychology and resistance against short term panic-selling is the fundamental constraint. So that’s one consideration that could play to our advantage. Assuming, that is, that bitcoin is worth taking seriously to begin with, and not just a matter of geeky fun.
The question that matters for that consideration (the one that differentiates long term speculation on bitcoin from various speculative bubbles in gold, real estate, tulips, etc.) is this: Of all the possible worlds, where is the probability mass concentrated with respect to the future of bitcoin, in terms of how it will actually be used? Is there an overwhelming tendency for bitcoin to fail and be replaced by other things (e.g. other cryptocurrencies, or fiat dollars) -- or is it actually likely (in at least the minimal sense of “not overwhelmingly unlikely”) to turn into a major store of wealth in coming decades?
I rather think it is the latter. But first, let’s consider what I believe to be the strongest argument against it, which unpacks to three parts:
Deflation. Bitcoin will never be more than 21 million coins strong due to the production rate going down by half every 4 years. That implies that it will always deflate, i.e. there will be less available to buy as time goes on.
Volatility. This is the natural result of deflation. As scarcity increases, people buy out of the speculative belief that value will rise forever. They fear to spend because really, who wants to have bought a million dollar pizza? Eventually, when enough of the value is due solely to this belief in future growth, people abruptly begin to sell, and the bubble bursts.
Distrust. Currency requires trust. Volatility decreases trust. If bitcoins continue to be volatile, because of deflation, which is built into the system, it cannot be trusted well enough to compete with more stable currencies—and will therefore eventually die out.
Taken together, this seems like a pretty good knock-down argument. It apparently implies, as a matter of basic economic law, that some other cryptocurrency must win over it in the long term, and/or that fiat money will retain its dominance. But the thing to notice is that it’s not so effective against bitcoin as a massive store of wealth per se, so much as a currency that will be directly used, in a manner directly analogous to how government-backed monetary units are used. Non-currency forms of wealth which serve some other purpose can safely handle quite a bit more volatility, because their value is not dependent on being trusted as a currency, but rather as a value storage mechanism.
Here is the general scenario that I think holds more probability mass than bitcoin-as-a-traditional-currency, and yet works as a fairly realistic alternative to bitcoin-as-a-flop:
Bitcoin will fall out of circulation as a currency because of its relative volatility.
Nonetheless, alternate currencies will be built into the blockchain.
These alternate currencies will be designed for stability, instead of deflation.
Mechanisms for trading alternate currencies for bitcoins will be part of the protocol.
Rather than a currency, bitcoin plays a role as a scarce, fungible, stabilizing commodity.
The ease of turning it into these successful alternate currencies gives it the ability to outcompete traditional options like gold.
Can this be done? Consider the following more specific scenario as an example:
Alice puts 100 bitcoins in a currency wallet denoted “dollars”.
Alice withdraws 10,000 of a currency called “dollars” from an associated address.
The network knows that there are 100 times as many dollars as bitcoin, and makes a note of this.
The network will not allow Alice to withdraw bitcoins from the currency wallet until she replaces the dollars.
Bob puts 99 bitcoins in a currency wallet also denoted “dollars”
Bob withdraws 10000 dollars from it.
In the event that Alice replaced her dollars and withdrew her bitcoins quickly, the network recognizes this as valid. But in the event that she did not, the dollar is recognized as having more value and the network will not permit Bob to withdraw that amount unless he has 101 bitcoins in the wallet.
This is just one example I’ve come up with, and may not be the best. Various other schemes are possible. (For example, it could be possible for any dollar-owner to convert them back to bitcoin, as opposed to the person who originally minted them.) What the various possible models for doing this have in common is that they allow you to set up currencies which dynamically increase and decrease in supply, depending on how much bitcoin people are willing to invest into them, and how badly people want bitcoins back later on.
A competing scenario to the above would be one in which a better-optimized cryptocurrency protocol implements this, or some other stability-prone algorithm and thus outcompetes the volatile, easily manipulated, “primitive” bitcoin protocol in use today. I used to think I could just jump on the bandwagon when this comes around, maybe strategically sell someone a pizza and end up a millionaire.
However, I’ve somewhat lost faith in that possibility of late because I realized that bitcoin is much more powerful than it seems, and is capable of substantial self-modification if needed for compatibility with a newer and better system. The only thing locking us to the current protocol is the degree to which bitcoin-owning miners find it in their best interests to continue to use it as it is. A competing algorithm that makes bitcoins more valuable without violating existing expectations would probably not be hard to get people to update to.
Another thing that makes me think bitcoin will tend to self-improve to the point of winning against competitors is that at least some people with substantial assets in bitcoin form are likely to be very proactive in defense thereof. Assuming they remain committed to the long game, and are able to acquire sufficient short-term wealth to pursue their goals, they can do a number of things to defend it against the various plausible attacks: Hiring programmers to improve the client software and render it less hackable, hiring lobbyists to protect it against regulatory interference, employing botnets to attack competitor currencies, slowing down or preventing transactions that appear to be going through anonymizing laundries that could be associated with tax-dodging and illegal drugs, and so forth.
So it seems to me like owning at least one bitcoin and holding onto it for long-term purposes is probably a good idea.
I’ve been wondering how much evidential value the rise of Bitcoin offers for the success of a basement-style FAI project. Unfortunately I don’t have a lot of time to participate on LW recently but has anyone else thought in this direction? (Sorry, this isn’t directly related to the OP but I figure more interested people will see it here than in open thread.)
My understanding is that Bitcoin involves one major innovation (approximate solution to the Byzantine Generals problem) and the rest is existing tech. Granted, one probably should consider the precise balancing of incentives in the more arbitrary characteristics of BTC to be an innovation, but I’m not sure to what degree that required active management and changes (I have not examined the first version of the source code).
Presumably FAI still has many innovations to go, and as they are publicly solved the chances of a basement project solving the remainder increases.
On an unrelated note: Do you have an opinion on the fact that BTC does not include a proof of stake system in figuring out who to trust WRT to forks in the blockchain? It seems like the only major flaw in the protocol. The lead dev Andresen has discussed potentially instituting a proof of stake system for weighting votes in case of another emergency like the fork caused by the client update recently. I was surprised such things were not included in the original protocol given how well thought out the rest was. If someone is smart enough to think about proof-of-work systems it seems unlikely they wouldn’t have been aware of proof-of-stake as a means of establishing trust.
I guess I was counting the idea of “decentralized pseudonymous money implemented as a distributed ledger” as well as all of the major elements involved in how Satoshi realized this idea to be part of Bitcoin’s innovations, since my understanding is that Satoshi was not aware of either b-money or Bit Gold (both of which BTW were also developed outside of academia/government/industry) before he wrote his paper, and had reinvented the idea on his own.
You’ve previously said that Satoshi was not aware of b-money (incidentally, Adam Back recently took credit for telling Satoshi about b-money), but this is the first I’ve heard anyone suggest that Satoshi was unaware of Szabo’s Bit Gold. What makes you say that?
I think if he had been aware, he would have cited Szabo in his paper, like he did with b-money. And yes, Satoshi learned about b-money from Adam Back. Here’s part of Satoshi’s email to me:
Why might it provide much evidence relative to Craiglist or PayPal, or the broader distribution of tech startups?
Presumably Wei is referring to how the Bitcoin codebase appeared to emerge fully-formed, from out of nowhere, with no obvious precipitating discoveries or breakthroughs; and even now in 2013, perhaps 5 years after the first mentions of Bitcoin, Nakamoto’s pseudonymity remains intact: we do not know who Nakamoto is, where he worked or lived, what his training might be, what affiliations he has, what he is doing now, and having spent a bit of time over the last week investigating all of Nakamoto’s traces and looking at previous investigations like The New Yorker’s, this condition seems likely to persist*. (Unless of course Wei is Nakamoto, for which there’s not terrible evidence, in which case he knows all that but the evidential value is still there for us.)
Its subsequent uptake may have vaguely startup-like characteristics, but that is because the Bitcoin codebase is not sapient or intelligent and cannot act on its own...
* I think Nakamoto is probably not Japanese (Austrian libertarianism having zero exponents in Japan, basically, as makes sense given their own deflationary currency and deflationary spiral, and the complete absence of any Japaneseness in his writings) but beyond that he did a great job concealing any real-world aspects of himself, and so the only viable approach is to compile a large corpus from possible suspects such as every poster to the Cryptography ML, do the best stylometrics possible, weight the rankings by known aspects of Nakamoto such as C++ fluency, and then maybe do some active attacks. Even then this might fail since it relies on Nakamoto being present on the ML to a sufficient extent previously under another name.
Bitcoin seems more relevant than Craigslist, PayPal, or other tech startups because it involved major technical and conceptual/philosophical advances on the existing state of the art, and these advances didn’t originate from nor was likely funded/supported by academia, government or industry. Also, its social impact seems larger—if Craigslist or PayPal didn’t exist, something essentially identical would have been created very soon anyway, but if Bitcoin didn’t exist, another Bitcoin may not have been created for another decade, and/or may have been created with very different characteristics, for example it might have been coded with a monetary policy that emphasized price stability instead of a fixed supply of money.
I would consider Bitcoin to have failed with regard to its monetary policy (because the policy causes high price volatility which imposes a heavy cost on its users, who have to either take undesirable risks or engage in costly hedging in order to use the currency). (This may have been partially my fault because when Satoshi wrote to me asking for comments on his draft paper, I never got back to him. Otherwise perhaps I could have dissuaded him (or them) from the “fixed supply of money” idea.) I don’t know if it’s too late at this point to change the monetary policy that is built into the Bitcoin protocol or for an alternative cryptocurrency to overtake Bitcoin, but if it is, then Bitcoin is similar to self-improving AI in that it may be critical to get the first one right and it offers evidence on how hard it is for an individual or small group working outside the mainstream to do that.
Since I have a personal connection with Bitcoin I’m probably tempted to read more into it than I should relative to other evidence such as other tech startups. I’m curious what your impression is after reading the above, and whether there is other specific evidence that I should be paying more attention to.
Sure.
I agree Bitcoin is relatively audacious, novel, and technically sophisticated .
Couldn’t you describe many early-stage self-funded startups that way? Or do you mean you guess that Satoshi was not working in academia, government, or industry before developing Bitcoin?
What kind of impact? So far the volume of Bitcoin transactions is still relatively small, and presumably a large portion of the transactions conducted using Bitcoin would otherwise be undertaken using other payment systems. So getting a version of PayPal or Craigslist working somewhat earlier or better could easily affect more transactions and generate more consumer surplus if Bitcoin does not grow to larger scales.
ETA:
Cf Bitcoin transaction volumes.
Self-funded startups that also involve major technical and conceptual advances that weren’t first developed in academia, government, or industry (and then spun off) seem rare. Can you give some examples that are similar to Bitcoin in this regard?
If Satoshi was working in academia, government, or industry, it seems very likely that he didn’t develop the ideas behind Bitcoin as part of his day job, otherwise he probably wouldn’t have been allowed to publish the ideas and software under a pseudonym.
It’s hard to even say whether Bitcoin ultimately has a positive or negative impact at this point. For example one possible impact of Bitcoin might be that due to its deficient monetary policy and associated price volatility it can’t grow to very large scales, and by taking over the cryptocurrency niche, it has precluded a future where a cryptocurrency does grow to very large scales. If we take the expectation of the absolute value of its impact, it seems higher to me than the impact of a somewhat earlier or better PayPal or Craigslist.
I’m also quite worried about this, but on the other hand Bitcoin creates an obvious entry gateway into more advanced cryptographic currencies (i.e. once Bitcoin infrastructure is set up, other currencies can use Bitcoin infrastructure if there’s a way to exchange them with Bitcoins, lowering the bar to entry).
I’ve had all sorts of ideas along these lines, in fact. The main reason I haven’t published them is that I’m not sure that more advanced cryptocurrency advances FAI over AGI. In fact, you’d think it would be the reverse—the Great Stagnation may be all that’s keeping us alive right now.
I’m surprised that you are so interested in this area (i.e., monetary policy for cryptocurrency), given that the subject matter and required backgrounds to study it are not closely related to FAI. I don’t even have any strong opinions on what is the right policy, except that the one currently built into Bitcoin is pretty suboptimal (ETA: at least in the long run, in the short run it seems close to optimal for getting Bitcoin some initial scale).
Yeah, me either, or more generally whether cypherpunk-related technologies help or hinder a positive Singularity, which is part of the reason why I stopped pushing very hard on my cypherpunk ideas.
Econ relates to intelligence explosion dynamics, Scott Sumner appears to be a Correct Contrarian.
I don’t have any good ideas for how to do NGDP level targeting inside a cryptocurrency in a way that would automatically distinguish more widespread adoption from increased RGDP from somebody gaming the system.
No, he doesn’t. Edit: and I’ve found that his general reasoning to be poor in general. Some examples (which I can source later if anyone plans to update on this):
“Sumner, if what you’re saying is true, shouldn’t the Fed let anyone, including the average Joe, borrow from the Fed at 0%?” -- > “Yes.”
Sumner: “Income” is a meaningless concept.
Critic: No, it’s obviously vital to know how much you can spend before becoming unable to buy anything. And how would you value an enterprise but by discounting its income streams?
Sumner: If you want to know what a venture is worth, look at its stock price, not income.
Non-crypto, “real world” currencies have exactly the same problem of gaming the numbers to make NGDP artificially high. They’re only worthwhile to pursue when NGDP specifically is targeted, rather than some “close enough” policy.
Right now, the best velocity measure seems to be coin days destroyed. But it is gameable. It is not being gamed in bitcoin because nothing is dependent on it.
The closest GDP measure in a cryptocurrency of the structure of bitcoin seems to be sum of transaction fees. It can be gamed by early adopters, but that is true of almost every measure
I don’t see why we should obviously expect funding for AGI to benefit from economic growth in a way that funding for FAI doesn’t. If Silicon Valley is booming, I’d expect MIRI to receive more donations and Google to put more money in to self-driving cars. If Silicon Valley is contracting, I’d expect MIRI to receive fewer donations and Google to put less money in to self-driving cars. Am I missing something here?
Yes; it’s been pointed out that you can, and people have, set up competing currencies using the codebase but without the builtin caps. More interestingly, you apparently can build currencies directly on the existing Bitcoin codebase & main blockchain using colored coins (which wedrifid seems very interested in).
No, what I mean is that if anyone else sets up a cryptocurrency right now, they don’t have to worry about making it exchangeable with dollars, they just need a good way to make it exchangeable with Bitcoins, and that could easily be done using pure programming. Bitcoins is a horrible store of value and an even worse medium of account, but some of the underlying ideas have great potential as a medium of exchange, and Bitcoin can sneeze any previous development of real-world interfaces directly into a new, competing cryptocurrency.
I’m having trouble reconciling the “horrible store of value” part with the rest of your argument. A competing crypto-currency eventually comes into existence, better than dollars, everyone wants to use it instead, and you can’t get it without bitcoins… And we’re supposed to think bitcoins are not particularly likely to go up in value as a result?
Edit: I guess if you only mean “currently horrible” this makes plenty of sense. Also it could maybe lose value once it has played its part in getting everyone used to the new currency.
If such a crypto-currency comes out, everyone holding Bitcoin will want this Newcoin, everyone who would have held Bitcoin will instead be demanding Newcoin, and the only reason anyone will be holding Bitcoin will be as part of the float generated by people trading dollars for Newcoins via Bitcoin non-instantaneously. The exchange rate supported by the float could be far less, the same, or far higher than the current exchange rate.
(An example: suppose Bitcoin somehow lost popularity so that the sole use of the current n bitcoins was for Silk Road, and no buyer or seller let more than a day elapse between exchanging their $$$ for Bitcoin (buyers) and exchanging their Bitcoin for $$$ (sellers); if there’s $1m of total turnover on Silk Road per day, then buyers need to turn $1m into Bitcoins and seller need to turn X Bitcoins into dollars, and this need will be spread out over n bitcoins. IIRC, there’s like 5m bitcoins so in this scenario we would each day see 5m bitcoins traded from the sellers to the buyers in exchange for the buyers’ $1m, or an ‘exchange rate’ of $5/btc, which is approximately 1/28th the current exchange rate, and then the buyers move the bitcoins to SR and hand them over to the sellers, who move them back to the exchange to sell to the buyers...)
Are we talking about converting Bitcoins into Newcoin (say by sending them to a fake address as a precondition for minting X many Newcoins) or are we talking about trading them (“you send me X many Bitcoins, I send you Y many Newcoins” transactions)? The former strategy would drive scarcity of Bitcoin up as a direct result of demand for Newcoin.
I thought we were talking about the latter—people would convert dollars into Newcoin via an intermediary Bitcoin stage (perhaps because Newcoins are banned or something).
If we were talking about ‘converting’, such as by some of the suggested verifiable-destruction strategies… I’m not sure. Presumably each Bitcoin would always sell for at least as many dollars as its equivalent in Newcoin would fetch modulo the transaction fees and effort (since otherwise people who want Newcoins would buy up Bitcoins and convert them immediately), but if Newcoins were so much better why would any Bitcoin holder at all not immediately convert all their Bitcoins to Newcoin? Reminds me of the flows between coin and bullion in metallic regimes.
I now see that when I wrote the original post, I probably should not have used the term “trade” as a synonym for “convert”. Someone who did not read my post closely might have thought I was enthusing about incremental improvements that let you reassign ownership like a traditional marketplace, only more efficiently, with automatic bid processing or something. That might be nifty, but it is not the earth-shattering point that makes me want to buy lots of bitcoins. What makes me want to buy more bitcoins is that reassignment of ownership is not the easiest way to do it. Instead it’s easier to make a system that destroys so many bitcoins and creates so many newcoins. It is also something that the current owners of bitcoin have significant financial incentive to make sure happens. Since it’s easier and massively incentivised, I think it carries the bulk of the probability mass.
Is Bitcoin’s monetary policy really expected to be a problem? If it were to reach a steady state adoption and usage level, I imagine Bitcoin’s price would stabilize around some constant fraction of (the present value of) the market’s expectation of future world GDP. Is that not what you would predict?
Or is the problem that you don’t think Bitcoin can reach widespread adoption without users reasonably being able to price goods in BTC?
That’s a problem because then BTC is a perfect investment which always grows at exactly the same rate as the global economy. So it gives you the exactly average return on investment with zero volatility. So it seems like a near-perfect store of value and people will want to hold it rather than spend it. This decreases velocity which causes deflation and value that increases apparently even faster than the total global economy. This makes Bitcoin apparently an even better investment, until the volatility or expected volatility from the huge stores of unused Bitcoins outweighs its apparent returns on investment, and note that financial markets are apparently unusually bad at expecting future volatility to be greater than present volatility; people try to time bubbles instead. This is bad for Bitcoin because of the inevitable crash followed by hyperinflation. And it’s bad for the global economy because your currency is deflating and any given bank would rather hold Bitcoins, on average, than make loans; and then the inevitable crash is also bad. That’s a nutshell version of a longer story.
“No one wants bitcoins anymore, they’re too valuable.”
Assuming BTC gives exactly the average return on investment with zero volatility we shouldn’t expect all people to hold it rather than spend it. Neither an economy of actual humans nor an economy of ideal agents would act that way.
With respect to consumption: Use as a transactional currency for spending would track convenience factors. People buying stuff with one fungible asset is much the same as buying stuff with another asset then transferring between their two accounts. For spherical cow in a vacuum purposes we can ignore this. Investment spending is the issue here.
In the counterfactual BTC currency which perfectly tracks the global economy the incentive is for anyone who believes they know of any investment that they expect to have higher returns than the average of the global economy to spend their bitcoins and invest in that opportunity. Those who don’t believe they have any knowledge of anything that will produce better than average returns or who are risk averse will instead purchase bitcoins either directly or indirectly from those that do have that knowledge.
In that idealised scenario the BTC currency is essentially operating as a vehicle to efficiently transfer real-world capital to places those who people with value expect will provide better return in investment than the average growth of the economy. Note that I am emphatically not claiming that this is an ideal system, it would be bizarre if something so arbitrary happened to be optimal. Just that it doesn’t seem to quite have the degree of problem that is described. People would certainly want to spend it.
There are plausible reasons why predictable inflation of the above currency could be more desirable than precisely zero inflation. Let’s say Satoshi had arbitrarily decided that BTC mining should go on indefinitely, with the bitcoins produced per year exactly equalling 2% of the number of bitcoins already mined. Then the incentives to the the participants change slightly. Rather than people who expect an investment to grow at more than the average for the global economy to be the only ones to so invest, it is any (risk neutral) person who expects an investment to grow at not less than 98% of the rate of the global economy. That has (well known) advantages.
The unfortunate problem with the above monetary policy is that we just effectively dedicated 2% of the of the value stored in the bitcoin currency each year to the computation of irrelevant hashes (in addition to irrelevant computation that is proportional to transaction fees). This problem applies to any cryptocurrency based on cryptographic mining. There may not be a good solution to that problem that potentially prohibitive degree of waste that does not rely on something external to the cryptocurrency as basis. (And the latter is not necessarily a problem. The currency having value in itself isn’t the most potentially useful feature of bitcoin.)
Let me rephrase: The problem is that Bitcoins will have an advantage over the average productive investment, e.g. stocks (sort of), as a store of value, since Bitcoin has all their average expected growth with none of their added (local) volatility. This is what presents the starting problem in an economy that starts out with a steady velocity of Bitcoins, and then increased holding makes the velocity go down (and the value go up, and the bubble effect hit even harder). This is why we don’t get an equilibrium with steady Bitcoin velocities. Even if we did have that equilibrium, people would have a much greater incentive to just “invest” in Bitcoins instead of being forced to try to invest in something productive. You don’t want an economy to have a perfect non-inflating store of value which is intrinsically unproductive!
I like the rephrasing. To expand on what seems to be a generalisation of this problem: Any cryptocurrency sibling of bitcoin that relies on cryptographic mining as a basis will either have this problem or will result in (value of currency * inflation rate) additional resources wasted on computation each year.
I believe (tentatively) that the above is an unavoidable result of the cryptographic and micro-economic principles that such currencies rely on.
Note, I wrote this in reply to the original version of the grandparent, which is as quoted in the parent. This is confusing since it is a bug/feature of the lesswrong system that Eliezer’s edits to his own comments do not get marked with an asterisk like others.
I do not endorse the current version of the grandparent, in as much as it overstates the position and seems to verge on encouraging magical thinking about how a currency can extract value from a system.
Reclarified?
This is not limited to cryptocurrencies, e.g., gold-based currencies cause people to “waste resources” mining.
Yes, the ‘mining’ metaphor was well chosen.
In terms of that gold analogy, what we are talking about in the context would be if gold spontaneously generated itself in proportion to the amount of existing gold and automatically buried itself at whatever depth makes it barely worthwhile to dig up. That waste is the unavoidable cost of making bitcoin-style cryptocurrency have ongoing inflation.
Okay, I think I understand the argument that Bitcoin will likely be permanently volatile, because growth at exactly the rate of the global economy is not a stable equilibrium for the reasons you describe (esp. ‘people like to time bubbles’).
Thinking about this a bit more though, it seems like the same argument would apply to any asset we might otherwise expect to grow in sync with global wealth. In particular, the apparently-perfect-store-of-wealth-attracting-investment-and-appearing-to-be-an-even-better-store-of-wealth phenomenon seems like a straightforward explanation of what’s been happening with the price of gold in the last decade.
But also, it seems like this argument could even apply to the stock market as a whole—would we expect a global ETF (like Vanguard’s VT) to grow at the rate of the world economy? Is that stable?
So I’m curious, do you agree that the no-stable-equilibrium argument applies to the price of these other assets as well, and if so, does the existence of Bitcoin still seem like it would be a problem for the global economy?
It partially explains the price of gold, yes. Gold’s situation isn’t really the same for three reasons: First, gold can be mined if the price goes too high, and higher prices would imply larger amounts of recoverable gold. Second, a lot of the gold on the market is paper gold, theoretical gold that two parties are trading rather than sending large gold bars around, which also adds to the supply. But most of all, unlike the supposed use-case of Bitcoin, gold is not being used as a medium of account or medium of exchange any more, just one store of value among many, so its real competition is not paper gold or mined gold but other stores of value such as platinum, silver, real estate, and many other things being added to the competition for ‘stores of value’ as the economy grows. If the same fraction of the population tried to store the same fraction of their net assets in gold today as in the 1600s then the price of gold would be vastly higher—or so I would think, I haven’t run the numbers. But this in turn means that the share of the economy represented by gold can easily drop further, making it less than a perfect store of value etcetera, although gold has still tended to be a better store of value than fiat currency.
Of course fiat currency is really supposed to be a medium of exchange and account, not a long-term store of value, though dumb people like me tend to use it as a store of value too because it’s convenient and we haven’t gotten around to setting up anything different and we don’t have that much value to store. And then using your medium of exchange and account as a store of value causes recessions and depressions due to the paradox of thrift; when people want to consume in the future instead of the present they try to hold paper money instead of demanding equity in projects with long-term payoffs. On the plus side, central banks can, in principle, easily rectify some part of this problem by printing more money to meet demand for currency when fear rises, and thus make up for velocity slowdowns, keeping NGDP on a level growth path. On the minus side, central banks are stuck in 30-year-old economic thinking and don’t keep NGDP on a level growth path. Bitcoin has the potential to make things much, much worse though.
New stocks on the other hand are constantly being created as the economy grows—no particular stock, or set of stocks starting at a fixed time, are guaranteed to grow at the same rate as the global economy.
To paraphrase, you’re pointing out that stocks and precious metals come with built-in demand shock absorbers, whereas Bitcoin has none. I’m not totally sure that I accept this point, because I could see alternative cryptocurrencies playing the role of marginal new stocks or newly mined gold. However, even if Bitcoin were unique in having no demand shock absorbers, I’m not sure this matters, because it seems empirically to be the case that these shock absorbers are not always up to the task, and that both stocks and precious metals do experience a great deal of price volatility, even over the medium to long term.
In other words, even if Bitcoin is especially sensitive to changes in demand, it is neither novel nor unique in being susceptible to bubbles.
This would seem to me to imply that Bitcoin’s existence and use as a store of value is no threat to the economy. (And its use as medium of exchange seems harmless as well.)
It would seem that problems would only arise for those who try to use Bitcoin as a unit of account. This is in line with Wei’s comment where he suggests that with a currency in fixed supply, fluctuating velocity of money implies that either prices or GDP must be unstable.
So my conclusion is that using Bitcoin as a medium of exchange or store of value is not detrimental to the economy, but one should continue to price goods or services in some other fiat, ideally NGDP-targeted, currency. Does that sound about right?
Using it as a store of value is detrimental. Anyone bidding on a Bitcoin is not bidding on a productive project.
It seems that the same goes for gold, real estate, and so forth when they are used as a store of value. The difference is that unlike bitcoin, these things have other productive uses that they could be put to, less expensively, if they weren’t being used as a wealth-counting mechanism.
That seems to be saying that all of the BTC would always be able to buy exactly all of the things. I can’t imagine how that could be the case.
According to Wikipedia, “velocity of money” is not a constant but tends to fluctuate. The article lacks citations, but I think this is the current mainstream view among monetary theorists. My understanding of the implication of this is that if you have a fixed supply of money then either prices or GDP would have to be unstable. In other words either you end up with an economy with very flexible prices that change constantly, or you end up with an economy that goes through constant boom and bust cycles (or some combination of each), and both of these outcomes are costly.
I feel like this isn’t nearly the issue it is made out to be when you separate real growth from nominal growth. Say you have real growth but prices fluctuate a lot, why should you care? Frictional costs should decrease over time as people figure out how to hedge properly in this environment.
So is the solution just to use Bitcoin as a medium of exchange and a store of value, but not as a unit of account? Then prices are free to fluctuate in BTC terms, while they can remain relatively stable in fiat terms, and GDP will be unaffected.
That would make it a terrible at being a medium of exchange or a store of value, though, wouldn’t it? No one knows how much it’s worth, and you have to acquire some, pass it off, and then (on their side) turn it into currency every time you use it.
That depends on how volatile it is. On the timescale of a single transaction, a certain level of volatility might not matter very much even if the same level of volatility would prevent you from wanting to set prices in BTC.
I wonder to what degree FAI/CEV engineering considerations overlap with cryptocurrency/efficient-market engineering considerations. If they are a close match, encouraging the development of the latter would have benefits for the former, and could even be essential to overcoming scaling problems (since FAI is harder to sell investors on than cryptocurrency).
This isn’t just a random idea; markets are how humans in the absence of superintelligence actually do try (with some, not-unlimited success) to implement their values. Prediction markets are a possible extension of this concept, but even your run-of-the-mill securities markets are reliant on various kinds of predictive logic that responds somewhat to human desires and needs.
Not trying to trivialize the AGI field since it is outside my specialization, but is there some not-terribly-unlikely way in which a really good cryptocurrency could basically be/evolve into the same thing as an FAI? If so, are there any particular properties that would be likely to nudge it in that direction / away from uFAI?
I’m kind of concerned because I see bitcoin (and/or anything sufficiently similar) funding competition to purchase obscenely large amounts of hardware—which could possibly even extend to the point of satellite arrays that harvest solar energy, and space based fabrication of new ones. If it gets to that point, we might end up with a Dyson sphere that basically does nothing but compute bitcoin hashes. Extraordinarily wasteful, but not necessarily catastrophic for existing humans if the network continues to recognize them as owners/controllers of the resources in question.
This seems unlikely. If you’re going to invest that much capital, why waste it on bitcoin hashes when you could instead provide a product and sell it? This would be analogous to worrying that everyone will go into the financial sector because it pays so well, and we’ll have no one left producing actual goods.
Hmm. I think you’re probably right, now that I think about it. The maximum size of the bitcoin reward falls towards transaction fees, which are themselves a small fraction of any given transaction. So there should tend to be significant money out there to reward manufacture of other kinds of space based goods more highly than bithashes.
Basically zero on a technical level. Philosophy of caution overlaps with cryptography. Some econ knowledge overlaps with hard takeoff theory.
Well if Satoshi is in academia and has tenure.
See this (somewhat unreasonable) speculation from Paul Graham that bitcoin was created by a government. https://news.ycombinator.com/item?id=5547423
It could have been created by the UN or by multiple governments. Does it even matter just so long as the code is released, it works, and it solves problems? It wouldn’t surprise me at all if Intel agencies utilize Bitcoin nor would it surprise me if operatives helped to develop it. It does not change the utility of Bitcoin for me just because of it’s origins.
Yes. It tells us information about currently unknown or uncertain variables. Having the source code and seeing that it works by no means screens off any inferences from its origin, any more than reading carefully a paper on smoking should make you not care that it was sponsored by the tobacco industry.
In the spirit of ‘name three examples’, here are 4 off the top of my head:
future (ab)uses of the <1m bitcoins Satoshi is believed to have mined based on the minimal initial uptake by other miners and leaked nonce information; the orderbook on MtG implies that if all 1m were dumped, that could take Bitcoin down well into the <$1 range and could destroy Bitcoin as a currency and possibly destroy the prospects of any future currencies
backdoors
in the source code itself (the Underhanded C Contest, and the history of cryptography, demonstrating that backdoors or weaknesses can persist for a long time, despite review by very talented people—in Bitcoin’s case, Kaminsky and others—and note that the coding style of Bitcoin has been described as very weird and Bitcoin is also an implementation-defined standard, ‘whatever the Satoshi client does or accepts’)
in the primitives it uses (canonical example: NSA & DES)
likelihood of future government crackdown or crackdowns based on blockchain movements
future government uses of Bitcoin (mandatory public transactions, eg. using the colored coins mechanism, leading to a complete loss of all financial privacy?)
a) Future abuses via Satoshi having too many Bitcoin or from a Bitcoin elite can be countered right here and right now by supporting alt-cryptocurrencies. If one government backed Bitcoin then back the alts so that that one government competes with all those other government backed alt currencies. My attitude and behavior remains unchanged regardless of who backed Bitcoin initially or who Satoshi is.
b) Backdoors should be assumed to be in Bitcoin already. If you run it on Windows and you didn’t compile it yourself then assume the NSA and FBi backdoor is already there in the code you either didn’t compile yourself or you ran on a closed source operation system which once again you didn’t compile yourself. If your behavior would be the same whether the backdoor exists or not then you’re okay, and in my case my behavior would be exactly the same whether a backdoor exists or not so I don’t fear the possibility.
c) The government crackdown possibility is real but the best way to defend against it is to actually support many cryptocurrencies knowing that some governments are possibly going to benefit from them. When enough governments stand to benefit from the technology in general, then sort of like the Internet it’s here to stay and for the same reasons.
d) Even if the government designed Bitcoin it does not control it, and it’s highly unlikely that any single government could maintain control of cryptocurrencies as a technology let alone control Bitcoin. So in a way Bitcoin is decentralized enough that no single government can dominate it but I’m sure many governments are involved at the clandestine level.
No. You’re not getting it. This is about information, not your vague issues of ‘I feel this is a large enough danger to worry about or I can come up with some vague ways to limit the fallout’. The question was: does learning the government did Bitcoin change our beliefs about anything else at all? The answer remains, for all you’ve said: yes, it does.
These tactics are not guaranteed to work, therefore on learning the government did Bitcoin you will be more worried about abuse then before; Satoshi as technoidealist is far less likely to abuse or use the mined coins than Satoshi as calculated government project and public manipulation.
No, they shouldn’t. Only some software is ever backdoored, which means you should make no ‘assumptions’. If we learn Bitcoin was done by the government, do any of our beliefs change at all? Yes, the odds of backdooring go up since the US government has, as a matter of historical record, advocated backdoors and sought to build in backdoors (eg. the Clipper chip), and the possibility of NSA involvement that much higher.
Is completely irrelevant, because you’re not getting the point, and actually getting it backwards: if we learned the government did Bitcoin, would this affect our predictions about future crackdowns at all? Yes, it would: we would worry less about a crackdown, because that would render developing & releasing Bitcoin a complete waste of effort and accomplish no apparent goal which was not already accomplished by actions like crushing e-gold. The obvious continuing example of this is Tor, developed by the US government and still supported and not cracked down upon, because cracking down would defeat the point of making it, which was to enable its servants to browse anonymously and also help out its enemies’ critics & foes.
Something which you cannot know, and which flies in the face of points #1 and #2.
No doubt you are as sure of this as anyone can be sure of something in the complete absence of any evidence.
The US government made Tor? Awesome. I wonder which part of the government did it. The intelligence agencies could be expect to oppose it because they effectively lose power.
U.S. Naval Research Laboratory.
Only 90s kids will remember Triangle Boy.
Consider the Great Deflation. US prices sagged from 1870-1890 due to a slow increase in the supply of money (gold) and a rapid increase in total economic production due to the 2nd Industrial Revolution. Prices weren’t volatile, they just steadily dropped… by about 2% per year.
This may well parallel the situation Bitcoin will face as it matures, as the supply of new bitcoins slowly increases and the Bitcoin economy grows. Before that can happen, the markets will have to go through a process of discovering things like how widely it will be used for transactions, how governments will respond, etc.
It certainly isn’t inevitable that deflation causes volatility. The cause of Bitcoin volatility is not deflation, it’s caused by speculation under conditions of extreme uncertainty.The uncertainty will be resolved eventually, one way or another.
This seems correct to me.
Certainly true for now, BTC currently is experiencing ~13% inflation YoY. Pricing in future deflation is inherently speculative as it assumes BTC will be around long enough for it to matter.
And speculation is popular because it’s perhaps the easiest way to make profits from Bitcoin. People don’t create money to waste money unless it’s inflationary on purpose. People tend to want to earn, save, and invest. Bitcoin allows people to earn, save, and invest, but the reason why people don’t like to spend is because it’s very hard to earn.
People do like to save, invest and speculate. The point is if I own any Bitcoins I’m not going to spend it on a Pizza which once I eat it those Bitcoins are gone forever and I can never get them back? No I’m instead going to invest my Bitcoins to either help me make more Bitcoins in the future or to protect whatever Bitcoins I already have. I would seek to increase my income in Bitcoins and decrease costs. I would seek to maximize my profits. Once I have enough income and profits that I know I’ll always have some Bitcoins to play with that is when I’ll start to spend.
The point is not to ever spend them down. It makes no rational sense to spend your life savings down, but it makes all the sense in the world to spend up or spend across. Luxury Bitcoins is not something most people have right now but that will change when the value of Bitcoins go up in relation to USD and the income sources for Bitcoins increase.
Once I can earn Bitcoins fairly easily and I know the value is over $1000 a coin it becomes a different story and at $10,000 a coin even more likely to spend. The point is people are more likely to spend also when the value of a Bitcoin in reality matches the value they have set for it in their mind. People who believe each Bitcoin is worth $100,000 aren’t going to spend until they are worth that much and this is okay because our willingness to spend is what decides how much they are worth. So maybe we shouldn’t spend them for a while.
Is that how you spend dollars already?
Right. There seems to be a broad misconception that “The currency will be fixed in [ultimate] supply (physical deflation), therefore it will undergo constant increases in value (value deflation).” But the two are very different: prices change in response to new knowledge, not old knowledge. The implications of future bitcoin supply are already factored into bids.
The belief that “it’s a perfect investment that will trend with general economic growth”? Already priced in.
The benefit of guaranteeing to yourself a known fraction of the eventual money supply? Already priced in.
I can at least imagine that your position is correct. But I still think that attaching a complex set of beliefs regarding the future value of a currency’s individual units generates noise that makes them less useful as units of price value, and really less valuable as a medium of exchange. Added complexity to a given calculation makes it harder to perform, resulting in a relatively slower, clunkier economy, with high probability of buyer’s remorse and so forth arising from miscalculation.
Don’t get me wrong; I am overwhelmingly pro-bitcoin, and see it gaining massive value for reasons I’ve stated (destroying/locking a sum of bitcoins is an extremely efficient way to add recognizable value to another currency), but I have reservations about the specific scenario of it directly filling the niche occupied by cash such as dollars, i.e as a method of. fulfilling long term contractual obligations, pricing goods, and so forth.
Are you talking about bitcoin or conventional sovereign currencies? The future supply of bitcoins is much more certain than the typical currency out there because it’s laid down in advance.
Bitcoin. Traditional currencies have the same problem though, in that they tend to have variable, policy-based inflation rates that confuse the markets. I am arguing in favor of a something designed for price stability, enforced by algorithmic means in accordance to demand.
Sure, the physical supply is laid out in advance, but the amount available to do transactions with at any given time, or even in the long term, is not. There’s no reliable way to predict who will choose to sit on their coins (possibly even cryptographically putting them in an unspendable stasis for an unknown amount of time) versus spending them on useful trades or engaging in short-term speculation. The market is rendered more stochastic, with more of a butterfly effect, more black swans, and so forth. Each and every transaction is impacted to some degree by this hidden complexity, which negatively impacts the use currency’s use value.
I don’t see how you’ve explained a problem more predominant with or unique to bitcoins. All currencies have the problem that their usage as a currency can shift. There’s no reliable way to predict who will sit on their money rather than spend it. You’re comparing bitcoin to perfection, not to real currencies.
The whole point of money is that it has the option value to spend it now or later, so the fact that its option value isn’t being exercise doesn’t mean it’s failing at its purpose; just the opposite, in fact. If all you care about is how often a currency is used, then the optimal currency would be spent the moment it is earned—but that’s scarcely better than barter.
I am only an interested amateur, and my doubt is related to potential legal and regulatory actions rather than to volatility. As ThrustVectoring said, if a government decides to legislate BTC out of existence, or severely limit its usefulness, the game may be over quickly. It does not matter whether the security is crackable or what tricks the exchanges want to use, if the US govt prohibits them from transacting bitcoins anonymously and convinces other governments to follow suit. Then all you will have left is an illegal underground economy. At best this would be like betting on cocaine appreciation, at worst BTC will be supplanted by something more controlled and eventually disappear into some niche underground thing. So, in my mind the main question is the odds of a sweeping regulatory action and its potential severity, balanced against the potential appreciation due to the factors you mentioned, should it survive unmolested. I have no idea how to estimate these odds.
Even if bitcoin goes entirely underground that doesn’t mean it will necessarily be insignificant or “niche.” Internet piracy is black market but not remotely niche—P2P is 98% illegal copyright infringement but it takes up about a quarter of internet bandwidth.
I could see bitcoin thriving in an entirely illegal capacity, being as widely used among some groups as P2P filesharing. Once upon a time people thought filesharing would become insignificant and restricted to a small community of tech-savvy individuals if they just took down Napster and Limewire. But as far as I can tell, illegal filesharing is as pervasive as ever.
They are already used in such capacity in the black markets over the Tor network.
The information to calculate such odds is probably inaccessible. The incentive structures of regulatory action is opaque, otherwise you wouldn’t expect to see price swings based on regulatory announcements in normal markets.
The good news: Yes, it can be done.
The better news: It can be done right now without any changing to the bitchain or mining protocols.
The even better news: It’s being worked on right now. Not least of which by myself.
The caveat: It cannot work quite like your specific proposal. This is due to limitations in the other currencies, not due to limitations in bitcoin. Due to the very nature of the alternate currencies there must be trust in a third party. Someone must have the alternate currencies stored and they must be trusted to deliver it on request (even if in practice this is seldom required).
Consider whether the below modification of your example would satisfy the stable alternate currency need:
Can this be done? Consider the following more specific scenario as an example:
Alice sends 100 bitcoins to TrustworthyBank, with a request for USDCoins.
TrustworthyBank calculates the value of the bitcoins received in USD at current exchange rates and finds that it is worth USD$10,000.
TrustworthyBank sells or stores 99 bitcoins and signs the remaining coin as a colored coin which it then sends to Alice. These coins are identifiable to everyone as USDCoins and are redeemable by TrustworthyBank for USD$10,000 each according to the publicly accessible contract cryptographically signed by the same key used to ‘color’ the coin.
Alice gives 0.8 USDCoins to Bob in exchange for $8k worth of cocain.
Bob places bets summing to the entire 0.8 USDCoins on the (still hypothetical) BitKnow.com Prediction Market, all on the proposition “Arnold Schwarzenegger Elected President of Australia in 2013”.
Craig, one of the people having bet against Bob, receives 0.2 USDCoins on January 1st 2014.
Craig sends 0.2 USDcoins to TrustworthyBank.
TrustworthyBank sends $2,000 to Craig (or equivalent value in bitcoin). It does not know or care what has been done with the coins since they were created. It simply looks at the bitchain, confirms that the coins can be followed back to a signing transaction.
The above example demonstrates the use of bitcoin as a way to make exchanges any other currency. It has the features:
Only a small amount of trust required.
Pseudonymity (with the same mechanisms for increasing that to anonymity if necessary).
Transparency. All the (bitcoin based) transactions made by TrustworthyBank are public. If TrustworthyBank breaches the contract it isn’t possible to hide it. Then people start using ActuallyTrustworthyBank instead. TrustworthyBankOwner goes to jail. (Because naturally the bank that people actually use should be one in whichever country has the most suitable laws.)
Distribution. It requires no interaction with the banking institution except when adding or removing currency from the overall micro-economy. Transactions of the currency are between peers and do not involve TrustworthyBank at all.
All services that already use bitcoin either just work with USDcoins or can be adapted to with little effort. For example an escrow service or Prediction Market that works on bitcoin using 2-of-3 multisignature transactions can be used with USDcoins without the escrow service even needing to have heard of USDCoins.
It is potentially vulnerable to government intervention. If the government that rules the country where TrusworthyBank is incorporated they could choose to come in obliterate it if they want.
Note: The above weakness is a feature. Moreover it is an optional feature.
Buying USDCoins backed by TrustworthyBank who is established in the real world and subject to government sanctions is a way to establish trust. If they rip people off the usual mechanisms of punishment for that can be counted on. However this relies on having a country that has suitable laws and practices. But what if we don’t find this to be the case?
A (hopefully not too plausible) scenario: The US government decides that if encryption is a munition then bitcoin is a Weapon of Mass Destruction. It starts sending nuclear ICBMs at any country that harbors bitcoin banks. That ensures that bitcoin is a black market currency rather than becoming mainstream. Do these alternate real-world-backed currencies still work?
Yes, they do. Consider MorpheusBank. Morpheus is completely anonymous and untracable. He never interacts with anyone directly and instead monitors the bitchain and responds to stimulus. If a transaction sends bitcoin to the 1morpheusETC address Morpheus sends MorpheusCoin to whichever address the bitcoins were sent from. If the bitchain shows him MorpheusCoin being sent to the 1morpheusETC address then sends bitcoins back. The exchange rate is determined by a publicly accessible algorithm referring to established real world exchange rate sources.
Where TrustworthyBank is trusted based in part on trusting laws, and governments to prevent fruad, MorpheusBank is trusted via observation of past transactions (all publicly verifiable) and estimation that the Morpheus reputation and expected value of all future business exceeds the value he gets if he defects immediately. That is, users trust that Morpheus will not kill the golden goose because he doesn’t want to lose an indefinite supply of golden eggs. This relies on the service returning a sufficient premium to Morpheus to incentivise him.
Why not have the state where MorpheusBank need not be trusted? Allow a user to propose an exchange, and MorpheusBank to sign off on it, and make the two transfers simultaneous and contingent on both being legal transfers.
I don’t think I have properly communicated just which kind of trust in MorpheusBank is required. Perhaps I shouldn’t have used the term ‘Bank’. Morpheus is only required at the point in which external-to-bitcoin value is exchanged with internal-to-bitcoin stuff. ie. It is something that ties an electronic asset to the value of gold, or the value of an index fund, or a particular government backed currency.
Absolutely, that kind of arrangement is possible (using the same kind of transaction mechanism we discussed elsewhere). Where the reputation of Morpheus is concerned the trust is in Morpheus’s contracted promise to make such exchanges in future at a specified rate. The basic decision theoretic reasoning is then:
Morpheus has publicly committed to exchanging MorpheusGold for bitcoins at any time at a rate determined by and .
The fully transparent and publicly accessible bitchain confirms that Morpheus has indeed honoured that commitment.
Morpheus can be seen to be making a known, significant, amount of profit from his business under that identity.
Defecting on his contracts will give Morpheus an immediate payoff while destroying his ability to do business under that name.
The expected future profits of business under the Morpheus name (either by the person using it or whoever it is sold to) exceed the amount that an immediate defection could grant him.
It is likely that Morpheus will indeed trade back the specified value in exchange for MorpheusGold (or MorpheusUSD, whatever) in the future. It is (fairly) safe to buy or exchange MorpheusGold now.
Note that there is actually some advantage to just unilaterally transferring MorpheusGold to Morpheus’s address. That makes the exchange part of the public record and obliges Morpheus to send bitcoin back promptly or be obviously shown to be unreliable. Whereas when proposing simultaneous exchanges with Morpheus, if he delays or refuses trades then the ripped off party must use some other mechanism by which to actively damage Morpheus’s reputation and Morpheus deny it. It also requires communicating with Morpheus directly somehow, either by encrypting data into the bitchain or by Morpheus being directly contactable somehow.
Note that in this case the only additional counterparty risk taken on by making unilateral transfers rather than arranging simultaneous exchanges is whatever the value of the bitcoins were upon which the MorpheusGold has been ‘printed’. He is already being trusted for the component (Gold-representing component of the coins—bitcoin value of the coins).
I figured that the proposed trade would enter the public record; doesn’t it have to in order for MorpheusBank to see and sign it?
I also didn’t notice where MorpheusGold was ever convertible to gold. Clearly MorpheusBank cannot be guaranteed to have enough bitcoin to redeem all of the MorpheusGold to bitcoin if e.g. bitcoin tanks. MorpheusBank is being trusted with the total value of the gold represented by his coins (minus their bitcoin value) and can walk away at any time with that difference. MB has an incentive to sell as much MG as possible and then defect, and any transaction that appears to build trust is not evidence that MB does not intend to defect. (Since if MB was intending to defect, it would perform transactions to build trust)
All in all, I can’t tell the difference between MB and Currin Trading.
MB should be engaging in continuous rebalancing to keep their ability to purchase gold constant.
Whoa-what? If the demand for gold drives a price increase in gold, there is no ‘rebalancing’ possible to keep one’s ability to purchase gold constant without putting additional reserves into the bank. Likewise, if bitcoin tanks to the point where an ounce of gold can buy all ~21 million bitcoins, but MB has twenty ounces of MG outstanding, it becomes impossible to redeem them for bitcoin (and they were never redeemable for gold).
MB could theoretically avoid both cases by keeping a full reserve of gold, selling gold only as needed to get bitcoins; in the case where bitcoin becomes worthless, MB could effectively set the exchange rate of gold for bitcoin, since there would be no other sellers. If gold became more valuable but bitcoin remained a medium of exchange, MB could simply sell gold at the market rate for any currency convertible to bitcoin.
It looks like colored coins have the ability to completely replace actual bitcoins as units of value, and in fact this might be preferable. I am surprised I didn’t think of this myself because the first (or maybe second or third) thing I thought of when hearing about bitcoins was that a currency based on a issuer-backed market-basket of goods would have been superior, but much more difficult to bootstrap (how do you build trust in a currency that anyone can issue on a network with no enforcement mechanism?). Having an existing infrastructure to pass new coins of arbitrary value sounds like a Win, and bootstrapping the first colored coin value against bitcoin value is smart.
Do you think it’s possible that fiat $10,000/USDcoins2 colored coins redeemable for either $10,000 OR 100 bitcoins would be economically feasible? There would be no demand if there was an expected movement from $100/bitcoin since the issuer wins on volatility, but what if a distribution of distinct USDcoins2 were issued, with 1% being redeemable for $15,000 or 150 and the remaining 99% redeemable for $10,000 or 100 bitcoins, but whose actual value would only be revealed after a period of time (months). Pre-committing to this seems fairly straightforward and would generate demand for the currency with a positive expected net value. I believe the effect would be toward stabilizing the exchange rates at ~$100/bitcoin and 100 bitcoins/USDcoins2. I don’t know if the exact percentages would work, but I imagine that there is some distribution that would have the intended effect. The issuer would be spending to achieve a stable exchange rate, which may be important for clearinghouses, banks, or individuals with savings.
EDIT: I forgot to clarify that the issuer of USDcoins2 decides whether to pay $10,000 or 100 bitcoins when an owner redeems 1 USDcoins2.
Sure. And once USDcoins are available USDcoin call options are possible, as are all the various permutations of security constructs you can think of. It’s just a matter of having someone to bet against.
I don’t think the issuer spending to try to force the exchange rate to be stable works too well. It would be better if the issuer is paid an appropriate premium for the issuing the option and the purchaser paying them for what amounts for insurance against a large risk. (And instead of ‘better’ I could also have said “outright inevitable if crypocurrency use becomes widespread”.)
Why is the issuer keeping both a fractional reserve of BTC and a reserve of USD large enough to maintain the value of the USDcoin2?
Just to be clear, you mean that the issuer decides which value to redeem the coins at, not the holder, right?
They″ll sell for more than $10k dollars. You’d be long bitcoins by owning that, and won’t be long bitcoins for the nonexchangeable version.
Apparently I left out the important part: The issuer of USDcoins2 would buy them back for either $10k or 100 bitcoins at their option, not at the option of the owner. Issuing USDcoins2 would be a hedge against either currency losing value which is why there would need to be an incentive for anyone else to buy them.
Eh, that’s the same thing as the straight up USDcoins, along with the issuer buying an option to buy back the USDcoin for 100 bitcoins instead of it’s market price.
The straight commission structure makes more sense to me. The bundle isn’t an attractive option to potential customers.
My thoughts exactly. People use put and call options rather than ‘bundles’ for a reason. It’s just so much simpler.
If it hasn’t already been implemented/suggested, I would point out a new transaction type is needed: One party announces that they have traded a number of BTC for a number of colored coin of a specified type, and the other party confirms. That would allow a user to buy colored coin from a third-party reseller without needing to trust the reseller.
This usecase is possible right now. Technically. That is, I can execute this counterparty-risk-free trade right now by typing commands into the console. And this is using the standard bitcoin software that doesn’t even have the faintest idea what a ‘colored coin’ is. This is the kind of possibility that intrigues me about bitcoin. I care next to nothing about the currency itself but the potential use of the infrastructure to solve other tasks through clever combination of known cryptographic primitives is enormous.
For curiosity’s sake, a sketch of how your use case can be implemented as a transaction is:
Each transaction consists of a list of input transactions and a list of outputs. (The amount of bitcoin going to each output is specified, for inputs the entire amount of bitcoin from each input transaction is used.)
Colored coins are just plain old bitcoins that happen to have a signature stamped on a transaction somewhere in the history of that coin. Clients not familiar with such markings—as well as miners storing the transactions—treat them the same way as all other coins.
When colored coins are combined in a transaction with uncolored coins, the colored coin protocol is defined such that the first outputs are the first outputs get the colored coins and the uncolored coins go to the remaining outputs.
Either party A or party B can create a transaction in which a bunch of bitcoins from an address owned by A and a bunch of colored coins owned by B go to addresses owned by A and B (with the A output going first).
After the first party creates the transaction and signs it with the relevant signature it can send it to the other party.
The second party signs it as well and sends it off to be added to the bitchain.
Without both signatures the transaction is worthless.
With both signatures the entire trade takes place in a single transaction. Neither party needs to trust the other.
transactions involving more than two people? Is there a way to turn a colored coin back into a regular bitcoin? When the contract associated with the colored coin is fulfilled, it shouldn’t still color a limited bitcoin.
The title of the OP suggests to me this should be a good thread in which to get to the heart of bitcoin. Please skip the rest of this comment and any subthread it produces if you disagree.
As a child of the 1970s in the US, I don’t put much store in any currencies. My conclusions, living through the high inflation, were to own stuff. Inflation after all is a statement about the exchange rate between stuff and money. The point of money is that you can trade it for stuff. It has seemed to me that I don’t need to be particularly long or short money, I need relatively small amounts of money for relatively short periods of time in order to facilitate trading one kind of stuff for another kind of stuff.
In fact, I generally have tried to go slightly short on money compared to stuff. I have usually carried mortgages (short position in money) larger than any cash balances I have carried. I haven’t analyzed my results from this carefully, but given the more-or-less steady 3%-ish inflation of US dollars, and the wierd US and California tax codes which combine to cut my cost of carrying a mortgage in half, this has probably been a little better than break even.
Of course, “owning” stuff is a matter of placing trust in governments. My shares in Berkshire Hathaway are only as good as a complex legal system backed up by courts, regulatory agencies, and a mix of officially jackbooted thugs to prevent other humans from walking off with the stuff which I think I own through my having signed various documents many years in the past to trade dollars (which I owned as tenuously as I own my BRK.B shares) for BRK.B shares.
So for my life, I am stuck, if I want to have wealth, relying on governments, in my case primarily US and to a lesser extent California and other US state governments. At least as I organize my wealth, the trust I place in order to use dollars is transient and insignificant compared to the trust I place in having wealth.
I can’t imagine there will ever be a cryptologic solution to owning stuff that renders trust in governments with their sanctioned jackbooted thugs irrelevant. Is this a defect of my imagination?
For someone like me, do bitcoins matter at all?
Are there big holes in my thinking of the purpose of money or currency that render bitcoins, compared to US dollars, an important thing to me and people like me?
This is sort of the reason BTC is so interesting. Throughout all of human history everything has ultimately relied on jackbooted thugs or the implication thereof to secure title. A reliable distributed ledger is fundamentally new. Sure, you can be threatened physically, but how do they actually link you to your holdings if you’re smart about it? And if your locality is threatening people who use it, you go somewhere where they aren’t and retrieve your encrypted wallet from cloud storage. BTC’s biggest use case is capital flight IMO.
First of all, I think bitcoins are basically a kind of stuff and not a kind of dollars. My brother commented that the market reminds him of the market for certain rare items in certain MMOs. And that’s basically what this is, to my thinking. Stuff that exists online in limited supply, that people want. A more environmentally friendly way of satisfying our consumer impulses than cars and houses. (But also more fungible and so forth, and I think possible to convert into a kind of dollars in the sense of something optimized for price stability.)
However, there is a hole in the model that this particular kind of stuff also depends on the standard set of sanctioned jack-booted thugs who protect it and promise to give it back and so forth. Bitcoins really only exist as information codes (private keys, placed in files known as wallets). You can arrange it so that the only thing that gives someone the ability to transmit your bitcoins is knowledge of a passphrase (or rather, which passphrase out of millions possible was the one you used). Or if you choose, you can move the only copy of the numbers needed to use your bitcoins to a piece of paper, USB drive, etc.
This also isn’t the same thing as logging into a website where you basically have to take their word for it that they are storing only a salted hash of your password, where they could potentially shut you down or transfer out your funds due to a power outage or government intervention, etc. Rather, it’s something where you yourself do the encryption all client-side and publish your transactions when you want to. The choice to republish and share that transaction to the network is made independently by a bunch of different nodes, who are programmed to block you if you try anything mathematically fishy. You only have to publish anything when you sign a transaction, which itself only happens when you need to prove that money someone else sent to your public address (which otherwise would be just a random number) does in fact belong to you, so you can pass it along to another public address.
There are two aspects to owning stuff: One is knowing who has ownership rights to stuff, and the other is enforcing those ownership rights against people who don’t respect them. If you can trust people not to do the second, you still need the first.
I can’t parse that, sorry. If you can trust people not to enforce ownership rights, you still need to establish ownership rights? I don’t understand the point.
Even if you don’t need to lock your bike, you need to have some way of selling your bike to someone else.
Thanks for writing this! I’d like to hear some second and third opinions. What are economists and other domain experts saying about Bitcoin?
The domain experts in making money are hedge funds, investment banks, etc. They haven’t put much money into bitcoins, so if you think its a good investment you have to sincerely believe you are substantially better informed or more rational than they are, which seems unlikely.
I don’t know if this is typical, but I recently a professional trader stated in an email to me that he knew very little about Bitcoin and basically had no idea what to think of it. This may hint that the lack of interest isn’t based on certainty that bitcoin will flop, but simply on not knowing how to treat it and sticking to markets where they do have reasonably well-understood ways of making a profit, since exposure to risk is a limited resource.
Financial laws prevent hedge funds and investment banks from investing in “alternative assets” like Bitcoin unless they are formed into a licensed financial product. Individuals do not have to abide by these finance regulations.
Even so, Reuters reports that “Workers at Morgan Stanley and Goldman Sachs in London and New York have been visiting online Bitcoin exchanges as often as 30 times a day, according to documents seen by Reuters.” It seems that there is interest, but they are constrained in multiple ways that individuals are not. For example, the total value of all mined Bitcoins is on the order of ~$1 Billion—the entire value of the currency is trivial to them.
Consider:
You are walking down the street, and Warren Buffet is walking a few feet in front of you. You notice a five dollar bill on the sidewalk. Warren Buffet looks down, then keeps walking past it. Do you stop to pick it up? Maybe, maybe not. But the fact that Buffet knows more about making money is only one factor in the decision. You have different opportunity costs, different discount rates, etc.
That’s 30 visits total, right? That could just be a couple of workers (one of which was perhaps Fred Ehrsam?) checking the price a couple of times an hour, so it doesn’t seem to me like it represents much evidence of interest on the part of the firm as a whole.
Upvoted for the rest of the comment and the colorful Warren Buffet analogy.
Buffett with two ts.
Well, or that it’s not really worth their time to speculate on Bitcoin. The current market capitalization of Bitcoin is tiny compared to the markets that they’re interested in- and so even though there’s lots of price fluctuation, that doesn’t mean there’s lots of money to be made out of riding that wave. The highest daily trade volume was $34M; that’s a thousandth of a normal day on the NYSE.
The only good argument I’ve heard for buying bitcoin is “there’s a X% chance that one bitcoin will be worth 1/21M of the total cash savings supply of the world in the long term,” which is not the sort of thing hedge funds are interested in.
I don’t think those guys are domain experts at understand the value of a new technology like bitcoin.
One thing that bugs me about deflationary criticism is that it seems very asymmetric. People and institutions are able to adjust their future expectations for inflationary conditions but not deflationary ones. “People don’t want to spend in a deflationary environment” also flies in the face of talking about the price crashing, usually just a paragraph later. Clearly people have price levels at which they do wish to consume. That this level is different in an inflationary environment from a deflationary one is not a death knell.
That seems right to me. In addition it seems that people who harp on Bitcoin’s deflationary quality are failing to make a distinction between expected and unexpected inflation/deflation. In particular, I’ve noticed a number of people making the “deflation hurts borrowers” claim. This is only true if deflation is surprising and unexpected. Otherwise real interest rates adjust to take deflation/inflation into account.
The slow increase in Bitcoin supply is not going to surprise anyone, it’s planned and well-known. Demand for Bitcoin should also become more predictable over time as the uncertainty is resolved and the currency matures, becoming less like a highly volatile penny stock and more like a stable blue-chip.
a) When I can earn Bitcoins I will be more likely to spend them. Dollars as inflationary but I’m not likely to spend the last dollar in my pocket on something I don’t actually need. Bitcoins are inflationary but I’m not likely to spend my last Bitcoin on something I don’t really need. It’s currently very hard to earn a significant amount of Bitcoins so no one is ready to spend them and at the same time there aren’t many places to spend them either. So while the deflation is good we need to be able to replace every Bitcoin we spent to make it spendable like a currency. When I can spend X amount a week based on an income of Y amount a week then why not spend Bitcoins in that scenario? I don’t lose any Bitcoins so there is no reason not to spend my profits. I’m not however going to spend my savings and who exactly would?
b) Volatility isn’t a problem. Bitspend and Bitpay can handle it. Better designed payment processors can handle it. Better designed exchanges can handle it. But for now volatility means increased profits for speculators and right now speculation is one of the only ways to turn 1 BTC into 2 BTC. So if that is the best source of income in the Bitcoin economy it’s going to create a natural incentive to pump and dump which drives volatility up.
c) Bitcoin does not have to replace the dollar to be a success it merely has to coexist. Alternative cryptocurrencies don’t have to replace Bitcoin but merely compete. Bitcoin is like the first web browser when no one knows how the web works but experts from other fields expect it to work like something else. Bitcoin is unique and we cannot base how it works around fiat currency, gold or anything else.
a) Bitcoins are deflationary in the sense that supply does not increase as fast as demand. If you have any bitcoins, your incentive is to hold onto them for dear life—unless your expenditure is a very safe strategy to net you more bitcoins. You can’t easily loan them because as the value increases over time the pressure to default will increase. Maybe this creates creative pressure to minimize risk or some other positive trait, but I’m cautious of labeling it good for the long term economy. The strategy I’ve outlined minimizes risk of losing your bitcoins by letting you loan them out in a form that will be worth the same later, which means defaulting on a loan has less severe consequences and less extreme incentives.
b) Volatility is a huge concern for contracts. If you can’t count on it being worth the same tomorrow, a given contract costing you so much makes it much harder to juggle long term financial gains and losses from holding many contracts with many different businesses and individuals. This imposes extra accounting costs that I would argue make it much harder to do complex business without incurring extreme risk.
c) I do agree that bitcoin does not need to replace the dollar to coexist with it. However, the case for it being a major financial instrument is better if we can define a niche that it fills better than the dollar. Also, if you are planning to hold long-term, it is important to distinguish whether its value is mainly fad/signaling based or not. Right now it seems like something geeks and hipsters use to buy each other coffee—which is neat, but could easily lose popularity when something else comes along.
Yes I know Bitcoins are deflationary and I think that is one of the best things about Bitcoin. I think demand should always increase faster than supply if you look at it holistically. We have a world where population growth is increasing faster than job growth can ever keep up, we have a sustainability problem with pollution and waste, and we have inflationary currencies, credit, and debt contributing to diminished liberty and justice for all. Spending isn’t always a good thing when we currently spend on stuff which destroys the planet, which isn’t necessary, which doesn’t make sense, it’s growth for growth sake and it’s as bad as economic cancer.
Volatility is bad for large contracts but this can be solved technologically. There are ways to make Bitcoin less volatile for use in contracts and colored coins, Ripple and smart contracts may be a part of the solution.
I think Bitcoin is in a niche, that niche being it is the best currency for the digital space and for digital content. If you’re offering digital content then it makes much more sense to exchange that content for Bitcoin because there is no micropayment structure which makes sense in fiat currency and there is no easy way to do it which would be obviously better than Bitcoin. I’m not going to tip you with my credit card number but I might with Bitcoin.
Long term Bitcoin is probably going to be replaced by something better. It will last for 10 years, perhaps 15, but it’s dominance will mainly be in the next 5 years. How long did Netscape last? This is why it’s good to invest in alternative cryptocurrencies which promote innovative solutions. Rather than change Bitcoin’s protocol it’s important to help fuel competition for Bitcoin so we can find out from the market which alternatives are necessary. For certain niches Litecoin might be better, but for certain things Bitcoin may be best and for other things we might have other coins like PPcoin and anything which comes after it. The point is the more cryptocurrencies we have the more solutions we have and the more niche markets we fill. So if you want to encourage that then you should buy the alt-crypto currencies.
The main thing in my opinion is getting infrastructure built. I think once Bitcoin has infrastructure built then all the alt currencies will piggy back on Bitcoins infrastructure whether Bitcoin fails or is a success or falls into a niche does not matter as long as the infrastructure is built.
That there may be environmental advantages to deflation (and/or environmental harm from inflation) is not something I had deeply considered, but it makes a certain amount of sense. Thank you for pointing it out.
My long-term goals are to live as long as possible, to eventually establish residence off planet, and to minimize the number of people who die from preventable causes like (as I see it) aging. I think that can be done without harming the environment, but I much less sure deflation and an overall shrinking of the economy is beneficial to that goal. Stable currency that lets you send clear market signals about your desires in the form of expenditure and investment seems better.
Digital goods are already pretty popular in an inflationary economy, and I see this growing as they get better. Cleaner tech will tend to become more widespread as well, which is again a form of economic growth.
That’s an okay near term perspective. Bitcoin currently serves that niche, for people who have bitcoin and view it as spendable. It could get replaced in that niche fairly quickly by something viewed as more stable. But then, digital content has little investment cost so it is plausible that bitcoin could continue to dominate there due to lack of need to borrow money for this kind of production.
It’s a complicated question. But I think people may underestimate how well bitcoin has picked the low hanging technological fruit and/or how adaptable it is. Most of the cryptocurrency money is apparently in bitcoin form, and it has massive physical infrastructure in the form of mining FPGAs and ASICs supporting it.
Bitcoin’s long-term value, in my opinion, is near-zero. It’s not anonymous currency, but pseudonymous. If you set up a network of number-only Swiss bank accounts and use it to conduct business illegal in the US, the US government will eventually link Swiss account numbers to people and get everyone in trouble. Analogously, the US government will eventually force currency exchanges to link people to bitcoins as a prerequisite for operating. Foreign bitcoin exchanges complicate this somewhat, but it merely slows the US government down.
Drug dealers (etc) have bills to pay, and those bills are denominated in USD. Take away the ability to anonymously convert bitcoins into cash or vice versa, and the there are no longer sellers willing to accept bitcoins, since they can’t be used to pay rent. Selling the bitcoins for other things just kicks the can down the road—whoever is buying the bitcoins faces the same dilemma.
So in short, my analysis is that the bitcoin network operates essentially at the mercy of the US government, and it’s value of a currency is directly tied to the fact that it hasn’t been a big enough issue for the US government to mobilize a shutdown. That doesn’t stop you from going broke shorting bitcoins.
I realize this is one of the current meta-contrarian points about Bitcoin contrarianism, but it’s still wrong: the pseudonymity is only partial and doesn’t matter:
No one has ever been busted on Silk Road due to Bitcoin or Tor
Exchanges can be located anywhere and be informal (eg
#bitcoin-otc); hawala still exists despite substantial US interest and effort into crackdownsExchanges can collect all the info they want, because you can always use a laundry/mix to eliminate connections between your bitcoins and contaminated bitcoins
No laundry/mix has been successfully attacked so far that I know of.
Secure laundry/mixes can and have been done using secure multi-party computation
There is no reason that stronger anonymity cannot be built into Bitcoin; the very recent Zerocoin proposal is a reminder of this fact even if it ultimately does not prove to be secure or go live.
There are political reasons. The Bitcoin Foundation is lead by people who have a business interest to avoid upsetting the US authorities.
Not much of one. They have yet to apparently delay any noxious-to-US-authorities features or bugfixes, and Gavin’s past actions indicate he feels more beholden to the miners than the authorities (witness him giving away something like $70k to the people who contributed to the recent 0.8 blockchain fork).
Besides the absence of evidence that this is an issue, the Satoshi client can be forked easily, and refusing to incorporate a usable Zerocoin—which is something a lot of people want even if they don’t use SR—would be an excellent incentive to do so.
But the miners aren’t on the Bitcoin Foundation board. MtGox, BitInstant and CoinLab have their representatives on the board.
Gavin also acted under immense timepressure in the 0.8 fork case.
And yet.
His recompense was done afterwards, where he could repent at leisure; during the fork, of course, he was quite busy.
Actually, I realized that my mental model of how bitcoins acquired value with respect to the US dollar is wrong. BTC being fungible with US dollars is still important, but it’s use in transactions isn’t. A drug dealer and drug buyer would both willingly trade $40 worth of drugs for $40 worth of bitcoins, but whether $40 of bitcoins is 1 BTC or 100 doesn’t make a bit of difference to them. Drug dealer still immediately cashes out his bitcoins so that they can restock their inventory, and the drug buyer still immediately buys bitcoins so that they can buy drugs. What these transactions do is merely fund the BTC exchanges through transaction fees—there’s no long-BTC position held for any appreciable length of time.
There’s still a kernel of truth to the analysis, though. BTC speculators—those actually holding the long positions in BTC—aren’t going to be willing to stick around for the legal risks of money laundering (at least, that’s what it could be in the eyes of the US Government). I’m still retracting, though, since I realized that I did things wrong.
In short, the risk is more of money coming from the bitcoin ecosystem being automatically treated as dirty money. This discourages speculation, which tanks the price.
This assumes that the drug dealer has an easy and fast way to wash the bitcoins into clean money. If a drug dealer withdraws $100,000 from mtgox that will raise some flags. He has to explain to the IRS the source of the money.
Given his situation he has an incentive to buy the drugs from his supplier with bitcoins. Those Bitcoins might go to a warlord in Afghanistan who uses them to buy weapons.
Have you read the FINCEN Bitcoin guidance?
Yes. Also, governments won’t tolerate further taxation and financial regulatory control being taken away from them (since that taking away is not paid for by lobbying) towards some kind of shadow economy. If it becomes large enough so that a random senator will know what it is, there’ll be some guise (“drug currency”) to control it, its viability for the US market will plummet, and once that’s out of the picture …
For what it’s worth, two senators did mention Bitcoin in a letter to the Attorney General about the Silk Road two years ago. As far as I’m aware, nothing came of it.
My argument does not depend on it being anonymous. Decentralization is valuable for reasons other than anonymity. If being anonymous is bad for bitcoin, then the network has incentive to avoid implementing strategies that make it anonymous.
I am very skeptical of this argument. Bitcoin has the ability to become a “perfect” numeraire currency, in the sense that it has no intrinsic value (unlike gold, which people can use for jewelry and such). The idea of “deflation” for a numeraire currency is meaningless. The value of the numeraire currency is just a bookkeeping trick that enables you to keep track of the relative prices of N goods using N values instead of N^2 values.
For example, say the price of tomatoes is 10 BTC per barrel, and the price of oil is 20 BTC per barrel. What those numbers really mean is that you can exchange two barrels of tomatoes for one barrel of oil. Now say BTC “deflates” by 10x so that you need 1 BTC for a barrel of tomatoes and 2 BTC for a barrel of oil. This simply doesn’t change anything, because you can still trade two barrels of tomatoes for one barrel of oil.
Edit: I changed the numbers in the second paragraph; thanks to knb for pointing out that I multiplied when I was supposed to divide (I don’t think this mistake changes my point).
This assumes that the change in prices with respect to BTC is unimportant, but this is not true in practice for a number of reasons: prices are sticky (so such changes disrupt trade), people hold varying quantities of BCT ( so it has distributional effects), and contracts are often specified in terms of a currency (more distributional effects).
(I will also note it is common for smart people to think they know the major relevant issues about monetary policy, and thus have useful things to say about it, long before they actually do. I think you are one of those people right now. No offense intended.)
That is true as far as it goes, but for people deciding what portion of their savings need to be in bitcoin versus some other form from one week to the next it is very relevant. A counterexample would be countries with runaway inflation, where people are forced to spend their money extremely quickly. I’m not sure that runaway deflation ruins commerce to the degree that inflation does, but it seems like it would slow it down quite a bit by placing greater incentive pressure towards cash savings rather than investment or expenditure.
Saving and investment are the solution to debt. Bitcoin encourages both saving and investing. Investing isn’t the same as mere spending because you earn profits on investing. The majority of people in the USA are in debt because of inflation, credit, loans, etc.
I agree that it encourages saving. But does it really encourage investing? It would seem that the faster bitcoin’s value is rising the less incentive there is for me to allocate my scarce bitcoins towards stocks, startups, etc. -- it’s safer to hold onto them.
Also note that in the absence of as much spending, there are fewer profitable investments. That would also mean less jobs, less income, and possibly a deflationary spiral where nobody spends more than the bare basics for survival.
So what you’re basically saying is that we must increase the supply of fools by offering cheap money so they can buy stuff which isn’t valuable(junk) so as to inflate the economy. I disagree if that is what you suggest.
The reason for my disagreement is because I disagree when you say people wont be willing to spend. People are willing to spend on entertainment provided they have an income. People will spend on entertainment because there is no guarantee any of us will be alive in 10 years when Bitcoins could be worth 1 million a coin or whatever high value number people are throwing around. There is also no guarantee Bitcoin will be there 10 years from now. So basically the deflationary anti spending argument is actually an argument in favor of saving.
If you think people shouldn’t save anything then you basically have another USD where everyone is living on credit, living on debt, and no one can afford to save. That is no better than what we already have honestly except perhaps it’s an Internet dollar but it maintains all the flaws of the fiat monatary system.
Investing is something I would entertain right now because its one of the few ways to spend money to make money. There is risk involved but depending on how many Bitcoins you have the incentive for taking those risks might or might not be worth it. It also depends on how many Bitcoins you invest, but to have some Bitcoins invested in Silver, in Stocks, in alternative cryptocurrencies, or in promising technologies, that is what I see going on quite a bit. I see people investing in cryptostocks, I see people buying Gold and Silver physical Bitcoins, I see people buying mining equipment like Avalon ASICS using Bitcoins. This behavior will increase in the future when the ROI becomes high enough to make more people invest.
The entertainment market will not suffer during deflation. People want comfort and happiness and will spend any amount of money to achieve it. Gaming sites, movies/music, gambling sites, cam/porn sites, etc., will all do well under Bitcoin. These all count as spending, and over time more money will be spent on these activities.
What people will spend Bitcoins on does not have to be what people spend USD on. People will spend Bitcoins on virtual or digital content, this could be e-books or access to academic journals. The only thing Bitcoin is missing is infrastructure and exclusive content which can only be bought with Bitcoin. You have both those in place and people will have to spend Bitcoin to get content and anyone can make content.
Of course I do not advocate people buying (or selling) junk. The whole point is to allow suppliers to more accurately gauge the level of interest in things on the part of consumers, by measuring their willingness to spend money without confusing interference from a changing currency supply.
I would argue that both deflation and inflation are forms of noise that inhibit market signals from traveling because they introduce more complex variables to the equation which don’t actually do anything. Volatility is probably worse than either of these things. Any of the three is probably tolerable in small amounts, but they will tend to act as a burden on the system.
If people are saving rather than spending, it’s a signal that products aren’t good enough to spend on, which should trigger investment in better products. If people hold cash savings instead of loaning it out to businesses, this makes it harder for businesses to find adequate capital to produce a better product.
I could agree with you if people were rational but they aren’t. People need incentives to do what is rational and deflation provides those incentives by rewarding the rational and punishing the irrational. You can spend in a deflationary currency but if you spend on stuff which isn’t worth it then you get to experience buyers remorse or guilt over all the money you could have saved if you had not bought that Pizza. I think that is a really good thing because it makes people give considerably more thought into their investments.
And you’re right if people are saving rather than spending it means products aren’t good enough. And most products truly aren’t good enough which is why people are sending that signal. Businesses who need capital in the Bitcoin world can get it from USD which is inflationary. There is plenty of credit and cheap USD money that angel investors can supply to Bitcoin businesses. This is why USD and Bitcoin will have to co-exist.
This is an example of why I don’t like deflation, at least not for the economy as a whole. It makes you get buyer’s remorse about things like pizza, which actually are a pretty good deal in some situations. You can get fed without having to make food, you can arrange a party without hiring a catering service. The time spent by humans on making the pizzas is drastically reduced on a per-pizza basis because the pizza maker has specialized tools and skilled personnel.
So to me the fact that it discourages people from buying pizza is a sign of economic inefficiency. If they were not buying pizza in a market where the choice to hold onto your cash does nothing aside from retaining the ability to make other purchases, it would be a clearer signal that pizzas are not needed, that other things are more important.
Not really. There will be people who like to eat. There will be morbidly obese people who will eat until a heart attack. But there is nothing fundamental about pizza that it’s essential to the planet, the survival of the species, the sustainability of the environment, or staying happy and healthy. If it were important then people would buy more pizza, such as if pizza were shown to extend human lifespan then yes people will buy a lot of pizza. But if pizza doesn’t do that but vitamins do then people will spend Bitcoin on expensive vitamins instead of pizza but the Bitcoin will always be spent.
Pizza almost certainly would not go away even in a deflationary economy. If anything, more people would spend time creating pizzas in their own kitchens. This would take away from their hours previously available for leisure, education, and jobs. This is just one example of how deflation could make people act in less efficient ways, by relying less on mass production and economies of scale.
If you needed 10x as much money to buy the same thing, that would be inflation, not deflation.
Would that be different for any other currency, e.g. dollars?
Bitcoins themselves are limited, but a new Bitcoin protocol can be introduced which includes existing bitcoins and adds new ones, and these would prevent the overall supply from being limited.
Increasing the overall supply of bitcoin will not happen. If a new cryptocurrency with more than 21 million coins becomes the norm it will not be bitcoin. Adding more coins arbitrarily is is also not desirable. The prevention of the ‘someone decided to print more money’ kind of inflation strengthens the trust in the currency. If this hard prohibition was discarded the credibility of the currency would potentially be outright destroyed.
Fortunately, issuing more coins is also not necessary. The solution is to increase the precision and allow smaller denominations to be represented. This requires an utterly trivial change for the miners to adopt and will occur as soon as it becomes necessary. Particularly because over time the business model for mining is fees on small transactions. The miners NEED small denominations to be tradable so they can take their even smaller denomination fee from them.
The remaining problem with deflation is that trading 0.00000001 bitcoin just sounds ridiculous. It isn’t convenient for humans to think about. Fortunately this problem is already solved. The aforementioned figure is already known as a “Satoshi”. If the currency ended up valued sufficiently highly then people would just gradually start talking about satoshi, or any of the other plausible units.
Using smaller fragments of a bitcoin doesn’t solve the problems of a fixed money supply. While an arbitrary increase in coins is not desirable, a fixed-rate increase may well be (see arguments of eg Scott Sumner in favour of fixed growth in nominal GDP).
(Not to mention that you could do the exact same thing with any currency—there used to be 1⁄4 pennies and so on).
If bitcoin ever becomes a major currency and Austrian economics fails to take over the majority of economics I find it hard to believe that the majority of miners will indefinitely refuse to increase the limit on bitcoins in the future.
We still call federal reserve notes “dollars” despite their inability to be redeemed for silver.
While I don’t question your understanding of macroeconomics, you seem to be confused about how it applies. Rather than following from prevailing (Keynsian) macoeconomic wisdom, the conversion from a 21M bitcoin to a NotBitcoin currency with arbitrarily many more coins would instead entail debunking microeconomics as a discipline while doing something largely orthogonal to the relevant macroeconomic principles.
This isn’t a matter of ‘a majority of bitcoin miners refusing to increase the limit’. This isn’t something the miners could pull off themselves even with perfect cooperation among them. Producing additional coins above those specified by the bitcoin protocol is visible. Everyone can see whether the number that happens to be hashed represents a bitcoin or some other thing the miner decided to make (a NotBitcoin). The task of the miner then is to find someone who is willing to buy his newly minted alternate currency for the same amount that a bitcoin sells for. That is difficult. Very difficult. Especially since the change is from something stable to something that is already known can be changed on a whim.
From the perspective of economics creating “bitcoin with more coins” is exactly equivalent to to creating any old new cryptocurrency, with all the same problems.
This is true but an innaplicable and entirely misleading analogy. To try to express what it would mean in those terms it would be if there were federal reserve notes called “dollars” that can be redeemed for silver and an entirely different kind of note that someone tries to call “dollar” that cannot be redeemed for silver. Expecting people to assign just as much value to the latter as the former is difficult. Especially if there is no government there decreeing that it is law that everyone must accept NotDollars as legal tender.
I should have been clearer about what I meant by increasing the number of bitcoins. I meant altering the bitcoin protocol so that either the per-block reward is increased or the number of blocks between the reward-halving is increased, or that the fraction by which the reward decreases is decreased. Changing the current per-block reward would be much more difficult because it wouldn’t be accepted by the majority of clients. Changing the reward-halving rate or fraction would be easier because it could be implemented in the current clients to occur far enough in the future that the vast majority of clients would accept blocks with the altered protocol. If a sufficient number of miners began using the new protocol it would be difficult for exchanges and normal users to stay on the old protocol after the fork; the delay between blocks in the original-protocol chain would increase significantly until the difficulty adjusted and having a split networkd would make it very difficult for the minority supporters to do business with bitcoins. Perhaps the old original chain would continue and be revalued according to its new utility, kind of like gold and silver coins were kept around for quite a while after the Federal Reserve started issuing notes. Neither chain would have precisely the same value it did before, but they could diverge fairly smoothly and slowly if it was a small change in the protocol.
In other words; if enough people think a permanent finite supply of bitcoins is a bug, it will be treated like previous bugs in the block chain. It will be fixed in advance, with users and miners given enough time to update to the new clients. So long as at least one exchange and the majority of miners agree on a protocol change I think it’s inevitable that it will happen.
But that’s precisely what happened. A US Dollar(1792) is worth “three hundred and seventy-one grains and four sixteenth parts of a grain of pure, or four hundred and sixteen grains of standard silver”. A US Dollar(2013) (Federal Reserve Note) is worth less. If you actually possess a US Dollar(1792) it is still worth 371.25 grains of silver by definition, but probably quite a bit more to a collector. I don’t know the complete history of the Dollar, and its change in value didn’t happen overnight, but it’s probably mostly because of the length of time it took for that change to occur. I don’t think a large change to the bitcoin protocol would be accepted today. But a planned change that would occur in 5 years and was expected to incur a minimal change of value at that point? Definitely.
So say that these miners, who are incidentally nearly always owners of significant numbers of bitcoins decide that they want to inflate the currency and voluntarily devalue their assets (because people totally do that kind of thing).
They announce their intention to do so far in advance.
They fork changes to both their mining software and at least one bitcoin client. (They can’t change the reference implementations. They have no chance in hell of persuading Gavin Anderson to change the official bitcoin software in violation of the prohibited changes list.)
They try to convince all uses to download their modified clients. They have to overcome all (rather rational) fears that this new currency is unstable in as much as even the fundamental aspects are changed at whim. They have to overcome the (entirely rational) fear of each individual that if they accept NotBitcoins then others may not, whereas if they accept bitcoins then NotBitcoin users must accept them. The users have to not care (or be kept ignorant) of the fact that their client is incapable of distinguishing between two inherently different currencies.
They have to somehow prevent any of the other people in the world with a vested interest in maintaining the value of bitcoins from doing mining. Even if the current miners ignore their own rational incentive to maintain the value of the coins they just mined, everyone else has years in which to set up hardware to do mining. And wouldn’t need years. They need days, even assuming not a single existing miner defected against the inflation alliance.
The “51% of computing power” metric which is relevant to different histories of the bitchain is irrelevant. If the inflation alliance manages to have 20 times the computing power of those who have created miners for the original currency all that serves to do is create massive incentives for inflation alliance members to defect back to the original currency. Their hardware and electricity costs become suddenly far more productive at creating bitcoins in the conventional bitchain.
Send in the clergy! They can move diagonally!
You are treating the bitcoin economy as if it has the same rules, incentives and capabilities as a country with a government enforced currency and a central bank which implements monetary policy in pursuit of political objectives. However, these similarities are superficial. The actual microeconomic incentives, available tools, problems, goals and powers are not the same. Your proposal requires many actors to do things that go against their personal self interest voluntarily. That isn’t how the world works.
I’m confused; surely there could exist a client that can parse both Bitcoin and NotBitcoin, even if it uses an identical protocol to talk about them.
The entire proposal still seems more absurd than a 8-1 or 10-1 split (with the instant inflation that is efficient for such a split) which would be the actual result of adding a byte or decimal point to the maximum precision.
Yes. the creation of such a client does not seem to be a technical difficulty. Convincing people to use it and treat the two currencies as equivalent is what isn’t trivial.
That does overcome the in-principle argument that bitcoins are limited, deflationary, and thus too volatile to be used as cash. However, considering that the network (comprised of bitcoin holders, presumably) would have to decide they are okay with diluting the supply and changing the rules, I feel that is somewhat unlikely.
Bitcoins are released on a fixed schedule. If the new protocol enables them to maintain this schedule indefinitely, it will not have a shocking dilution effect.
That might be a step in the right direction, and could plausibly be based on bitcoin. Its virtues over my proposal is that it is relatively simple, and easy to implement and understand. However, if the demand for money shrinks for some reason it would cause inflation whereas if it grows (e.g. exponential population growth) it would cause deflation. It is also reasonable to think market manipulators would create volatility by abruptly offering or withholding large amounts of bitcoins. So I would say this is less optimal than a currency that can reflexively adapt itself to be automatically worth roughly the same thing to you tomorrow as it was worth today.
Let’s not quote EY as gospel on this topic. There are a lot of people who say lots of things about the market, and unless something is supported by theorems or solid empirical data rather than handwaving, I’m reluctant to adopt it as a quotable principle. And FWIW, I have a very smart friend who makes a ton of money playing the stock market and part of what he does is look for patterns and exploit them.
The background assumption here seems to be that if bitcoins see widespread use, their price will rise. I’d like to see this justified. It looks like bitcoin’s price is controlled by speculators now. Will this change if people start to use them as real currency? Why?
Another thing: it seems like the incentives for bitcoin adoption aren’t especially good. From a merchant’s perspective, accepting bitcoin requires a software change. In general, it seems that companies that aren’t software companies are slow to change their software. From a user’s perspective, bitcoin adoption requires a substantial hassle and a wait of a few days. From an incentive perspective, all you get is saving a bit of money on credit card fees. This is a relatively bad startup idea ’cause it helps a lot of people just a little instead of being something that a few people are desperate for.
My current weakly confident prediction for bitcoins: some time in the next 1-2 months, the press will get tired of writing about them, Mt. Gox’s new account queue will run out, and the price will go down. 5-10 years from now, some failure mode or another will still have prevented widespread adoption (government action, apathy, etc.) and they’re still considered either a fad or a niche thing, like gold buying or HAM radio. Probably another bubble or two within that 5-10 year period, which is why I’m aiming to buy when the Mt. Gox new account queue runs out.
Keep in mind that bitcoins have already been around for years and haven’t seen really widespread adoption outside of niche stuff like Silk Road. And the big bitcoin story has been price changes, which are meaningless from an adoption perspective.
You vastly underestimate the importance of this. When you run a business with margins of 6%, 3% fees are cutting your profits in half.
growth has been ridiculously rapid. https://en.bitcoin.it/wiki/Trade
Bitpay has 0.99% fees. Exchanging bitcoin at mtgox costs you 0.60% fees.
In total bitcoin doesn’t allow free transfers.
“Saving money on fees” =/= “No fees”
That’s a good point from a company’s perspective. (Note, though, that if bitcoins ever became a serious threat, credit card companies could probably respond by lowering their fees.) From an individual’s perspective, it’s not very meaningful. And getting individuals to adopt bitcoin is going to be a bigger barrier, because there are more individuals than companies. Getting individuals to pay with bitcoin is even harder ’cause of deflation issues.
Given that bitcoin was introduced over four years ago, I think “ridiculously rapid” is an exaggeration.
Do you know of data on actual transactions completed with bitcoin, as opposed to merchant adoption or speculation?
Given that credit card companies are already cutting their effective margins (by offering a percentage of purchases as cash back to their customers, for the most direct example) to be competitive with each other, how much do you think they could afford to cut for a system that doesn’t have centralized costs to subsidize?
Err… That isn’t EY making stuff up. It is supported by theorems. That is the efficient market hypothesis described in different language. You can deny that a given market is efficient but that is you handwaving away the theorems.
This isn’t implausible. It can come about from any one of:
Your friend is smarter than the people he is trading with.
Your friend has happened to be lucky.
Your friend is using practices that concentrate risk. (ie. He is one of the countless traders using strategies that give ongoing steady returns with a small chance of being completely wiped out in a day.)
I don’t think the efficient market hypothesis is universally accepted among economists. Correct me if I’m wrong though.
What’s your support for the assertion about “countless traders” using practices that concentrate risk? It does seem intuitively plausible, but is there serious scholarly support for this idea?
So, there’s a continuum of EMHs from the strong-but-probably-false “markets react instantly to information” to the weak-but-more-plausible “markets on average tend to react to publicly available information, perhaps after some lag.”
As that suggests, more economists accept the weaker forms than the stronger forms.
The scope for disagreement is on to what degree a particular market is efficient (and what form of efficiency there is). Many markets (particularly smaller ones) are far from efficient and strong-form efficiency (where it isn’t even possible to make money based off insider information) more or less have to be contrived scenarios. The markets are anti-inductive post that is being discussed roughly speaking only claims that markets have pressures pushing in the direction of efficiency. John’s claim is a little stronger, claiming that the particular market under discussion is likely to be more efficient than you are.
The heavily traded global markets that we have now are not perfectly efficient. It is clear however that they are sufficiently close to efficient that extracting money from them from nothing more than historical trends in the prices is not easy.
I don’t believe I am referring to something controversial. Someone else more familiar with the nomenclature may probably more suited than I for the task of bludgeoning the principles home with authoritative references than I. All I have is an example, the famous popularisation and the name of the risk that has not been hedged against or accounted for when making this particular mistake.
I’m sure that traders ignore black swans all the time, but I was curious if you knew of, for example, a paper arguing that the majority of traders who appear to consistently get positive returns are actually exposing themselves to black swans, or a paper that tried to estimate just how common this “concentration of risk” phenomenon was.
As an aside, I wouldn’t assume there existed authoritative references on a topic without having seen the references. My take: Authoritative references constitute strong evidence. Popular books, anecdotes, and short Wikipedia pages constitute middling evidence. If middling evidence implied the near-certain existence of strong evidence, then it wouldn’t be middling evidence in the first place ;)
The efficient market hypothesis is not called the efficient market theorem because it isn’t a theorem. The various efficient market hypotheses are at best mostly true: there are plenty of markets clearly understood to be significantly inefficient (residential real estate market) and no markets that can be proven efficient.
So you don’t have to handwave away theorems in order to not think (one or all of the many) efficient market hypothesis is true.
Consider Renaissance Technologies returning a compounded 34% for 11 years. What are the probabilities that this is just pure dumb luck? Consider the subpar performance of average investors. How does this fit an efficient market?
Perhaps we can’t resolve this issue in a short comment thread. But the suggestion that skepticism about an efficient market hypothesis (not a theorem) requires handwaving away things seems entirely disconnected from the reality of markets.
I don’t deny that. In fact I call writing much the same thing in this very thread.
Suffice it to say that you seem to have formed a very different impression of the nature and substance of John_Maxwell’s comments than I did. I chose to tap out silently from that conversation because I had no anticipation of any benefit coming from either continuing it or in saying why it wasn’t worth continuing. I suppose me engaging further (or perhaps even engaging this much) would serve to undermine my rare application of polite restraint.
Regarding your excessive emphasis on the ‘theorems’ word, I note that I did not describe the efficient market hypothesis as a theorem. The relevant theorems being referred to are those underpinning the description of the behavior of selfish agents (eg. VNM utility), which when combined with various permutations of assumptions about available episitemic resources imply various forms and degrees of market efficiency. (And to pre-empt the obvious accusation the preceding sentence could produce: No, I most explicitly do not conflate the theoretical reasoning about idealised agents with the hypothesis that a given market perfectly follows those idealised expectations—even the weak ones.)
I have looked through the referenced EY posts and realize in some sense the discussion on lesswrong of EMH is not the usual discussion.
It is the case that markets are “largely efficient,” and that seems to be what passes for the Efficient Market Hypothesis around here. EY suggests “inexploitability” as an alternative for efficiency in stating what is meant: if a market is efficient enough, then an actor can’t come along and have an expectation of excess returns (which the financial world refers to as “alpha”).
But of course in virtually any market you care to examine, you can see people who give every appearance of making predictably more than others in the market. Donald Trump has made more money more consistently trading real estate than most other traders. Peter Lynch, George Soros, Warren Buffett, and a host of others have made more money trading stocks and other financial instruments, and seemingly more consistently, then almost all other stock traders.
If EMH is merely “well its sort of harder than it looks to make money in a market, that is why we call it efficient” Then that is not a very strong statement at all. If in fact people can come along and consistently make more than others, then that is not an efficient market. Along EY’s terms, that market IS exploitable.
Now you or I or many others may fail to exploit it. It may be HARD to exploit. But if it is exploitable, then that is a very different situation to it not being exploitable.
By analogy I might suggest the “Incomprehensible Universe Hypothesis.” IUH suggests it is really hard to exploit the universe by having knowledge of how it works. The second law will win almost all the time. But then someone comes along and points to Albert Einstein, atomic bombs, transistors, space ships that go to the moon. Ahhh.. but risk-adjusted, those were just statistical variances, highly risky lucky guesses that paid off and are most of what we think about due to survivorship and other biases.
Or are there just some people who really can understand the universe well enough to predictably design stuff that will work? Are there some people who understand business and the markets well enough to predictably make higher returns than those they trade against in the market?
So I would submit that the only EMH that is true is this: unless you actually know more or can generate knowledge that is of a quantity and quality that beats many of those you are trading with, your investment performance will not reliably exceed market averages. We believe that there are people who do better as engineers than others, why would we not think that there are people who do better as investors, who successfully exploit the market, especially when we can name them and evaluate their investment performance over decades of time?
I had trouble following the Alice and Bob scenario. In particular, step 3 says:
How does it know that—is it because Alice withdrew 100 dollars from her wallet for each bitcoin she put into it? Could she have withdrawn a different amount? Does she have to have had more than 10k dollars in the wallet to start with, or did her bitcoins get converted to dollars?
Yes, it would be because she withdrew the 100 times as many dollars and it is the only wallet so far that qualifies as dollars. She does get to set the amount more or less arbitrarily with the first minting transaction. Later when Bob attempts to pull out 10k dollars from his own 99-bitcoin or 101-bitcoin currency wallet, he has to reference the dollar-currency created by Alice (possibly by address or by reference to the initial transaction signature) to connect the two kinds of dollars and render them fungible with each other. When he does that he has to prove that he has enough bitcoins to justify that number of dollars, based on recent history of minting transactions as well as whatever parameters the specific currency goes by, otherwise the network won’t approve his transaction.
Oh, I think I understand part that I didn’t before. The reason you put dollars in quotes in the original post is because Alice is essentially creating a new currency with her transaction and calling it “dollars”. If Bob uses the same name (and if Alice hasn’t cleared out her transaction with an equal and opposite transaction yet), then the proposed system will require him to use the same conversion rate.
Is that right?
Exactly right. I might have done better to create a fictitious name for the currency, but I figured “dollars” would be suitably generic because there are many different countries also using the term. Note that you can have unlimited different currencies each with its own rules and starting point. This could also be used to mimic stock or other intangible assets.