Silk Road forums
Discussion => Silk Road discussion => Topic started by: Jediknight on April 12, 2013, 08:59 pm
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http://www.forbes.com/sites/louiswoodhill/2013/04/11/bitcoins-are-digital-collectibles-not-real-money/
The bitcoin logo (Photo credit: Wikipedia)
In case there is any doubt after yesterday’s market action, Bitcoins are not money. They also can never be money, in the sense of providing an alternative to the U.S. dollar for operating the U.S. economy. Rather, they are “digital collectibles,” the cyber equivalent of rare postage stamps.
Money has three basic functions, and Bitcoins don’t do a good job of performing any of them.
First, money provides our fundamental unit of market value, the yardstick against which the market value of everything else in the economy is expressed. For example, a car might be 200 inches long, weigh 4000 pounds, go 120 miles per hour, and cost $50,000. These numbers express data concerning the car, as measured in the American units of length, weight, time, and market value.
The most important thing about any unit of measure is that it has a constant, unchanging magnitude. Since President Nixon abrogated the Bretton Woods gold standard in August 1971, the dollar has not provided a particularly stable unit of market value. However the Bitcoin is far worse in this respect.
On April 9, the market value of the Bitcoin closed at $233. During trading yesterday, the Bitcoin popped up to $266 and plunged to $105 before closing at $130. This left it down by 44.2% on the day in terms of dollars and by 43.3% in terms of gold.
Over the past two months, the value of the Bitcoin in dollars has varied between 15.4% and 204.6% of its April 10 closing value. During the same period, the price of gold in dollars has ranged between 98.4% and 105.7% of its April 10 close.
It would not be possible to base an economy on a currency whose real value was as volatile as the Bitcoin’s. For one thing, money is used to mobilize society’s capital to create real, productive assets, like factories and chemical plants. Obviously, no one could take the risk of buying or selling 10-year bonds denominated in Bitcoins, when the long-term real value of the Bitcoin is so uncertain.
Interestingly enough, as a unit of market value, the Bitcoin suffers from the same basic flaw as our fiat dollar. At any given moment, the supply of the “currency” is fixed, and the market is asked to determine the value of the monetary unit via supply and demand. In contrast, a good monetary control system would fix the value of the currency unit (in terms of gold or something else real) and then adjust the size of the monetary base on a moment-by-moment basis in order to maintain this value in the markets.
The second major use of money is as a medium of exchange. While it is possible today to use Bitcoins to purchase certain items, it would not be possible to substitute Bitcoins for dollars on a large scale. As of the end of March 2013, the U.S. monetary base was $2,961 billion and there were only about 8 million Bitcoins in existence.
To replace our entire dollar base money with Bitcoins would require that each Bitcoin be valued at more than $370,000. Perhaps this fact is what drove speculators to bid up the price of the Bitcoin to $266 yesterday.
Also, by design, there can never be more than 21 million Bitcoins, and that number won’t be reached until 2040. As a practical matter, this means that Bitcoins were never designed to be used as money. Whether this was intentional or not doesn’t matter. It is simply a fact that there will never be enough Bitcoins to use as a substitute for the dollar. No modern economy could survive the constant, grinding deflation that having a fixed monetary base would eventually produce.
The third important function of money is that it provides a way to hold wealth in a completely liquid form. The volatility of the real value of the Bitcoin makes it completely unsuited for this role. However, Bitcoins carry with them an additional risk that is not shared by the dollar. They could all simply vanish into the ether from which they were “mined.”
In the computer world, there is no security without physical security, and it is not possible to protect a computer system from its own administrators. Consider the following account of Bitcoin events in 2010, taken from Wikipedia:
On 6 August, a major vulnerability in the bitcoin protocol was found. Transactions weren’t properly verified before they were included in the transaction log or “blockchain” which allowed for users to bypass bitcoin’s economic restrictions and create an indefinite amount of bitcoins.[27][28]
On 15 August, the major vulnerability was exploited. Over 184 billion bitcoins were generated in a transaction, and sent to two addresses on the network. Within hours, the transaction was spotted and erased from the transaction log after the bug was fixed and the network forked to an updated version of the bitcoin protocol.
Obviously, the same people who erased the 184 billion phony Bitcoins could erase the 8 million “real” ones. Money always involves trust, and in the case of Bitcoins, you don’t even know whom you are trusting.
Given all of the hair on the Bitcoin dog, what accounts for all of the interest in Bitcoins? Actually, we have seen this phenomenon before.
During the 1970s, as inflation rose and public anxiety rose with it, ads advocating “investment” in “collectibles” started to appear. Financial advisors began recommending that people keep 10% of their net worth in “alternative investments,” including not only precious metals like gold, but “luxury valuables and collectibles.”
An unstable dollar is deeply frightening to people. Fear of inflation (and the societal breakdown that it can bring) motivates citizens to do things that, from the standpoint of the economy as a whole, are really dumb. One such dumb thing is to devote real resources to producing and squirreling away “collectibles.”
One company that was prominent in the collectibles business during the 1970s was the Franklin Mint. Near the peak of the inflation bubble in 1980, Warner Communications (now part of Time Warner) bought the Franklin Mint for about $225 million. Six years later, after Ronald Reagan and Paul Volcker had crushed the inflation, Warner sold the company for $167.5 million. “Collectibles” turned out to be not such a hot investment after all.
Bitcoins are nothing more than digital collectibles. They are bought by speculators to hedge against inflation. Stabilize the U.S. dollar and all interest in Bitcoins will vanish.