My 0.00000173120 BTC: a practicing, orthodox macroeconomist’s unsolicited views on BitCoin

Disclaimer: I have no vested interest in BitCoin whatsoever, and this post is a collection of views I’ve expressed over the past few days of concerted, growing interest in BitCoin. These views will probably be deeply unpopular with the technorati crowd present here, but I would like to clarify that my perceived hostility to the new “crypto-currency” derives not from a repudiation of BlockChain technology and exciting developments it offers, but the underlying assumption of most *coins that a fixed money supply is somehow desirable. As usual, the old adage holds true: you haven’t paid for this analysis, none of you know whom I am and what underlying motives or interests I might have (beyond those I profess, which you might be skeptical of), you’re unaware of my credentials; the cumulative effect of all these is that I don’t expect anybody to start exalting my views as gospel. I just hope to put a bit of thought “out there” and engender some debate not on the IT/blockchain point of view but on the macroeconomic implications of a fixed monetary supply, and why the world has moved away from such systems. That clarified, and if you still give a damn about what I have to say, let’s begin.

It strikes me that no BitCoin proponent seems to wonder why the world’s leading economists of the era, faced with the stagflation of the 1970s, collectively recommended to move away from limited supplies of money (bimetallism, representative money aka golden standard, & cetera) and towards fiat currency. Does everybody really think they were stupid or that their reasoning has been obsoleted? The core problem with those post-Bretton Woods systems was not whether they were centralised or not, it was that ultimately the supply of money was fixed by the availability of the underlying asset, and decentralised fixed supply blockchain technology such as bitcoin is (from the macroeconomic point of view) solving the wrong problem. Indeed it is goddamn noxious for the economy at large to have a fixed supply of money, and I wouldn’t wish it on anybody: for starters, banks cannot do fractional reserve lending and are restricted to sharing out only the currency that has been deposited into their accounts by savers, driving up the cost of money (interest rates) to exorbitant rates (because, roughly, you lose the “economies of scale” inherent in wholesale banking and lending); secondly, you limit economic growth, because the lack of inflation means that debt-service does not become more manageable over time, and thus you de-incentivise investment compared to the current inflationary system. The technologists that venerate bitcoin have certainly “disrupted” the financial order, but they don’t realise how ignorant of economic orthodoxy their underlying assumption (that a finite, fixed amount of money) is. Disruption is only a value if it doesn’t actually worsen the underlying service level, as an analogy sometimes I feel as if well-meaning technologists are running around distrusting healthcare, but simultaneously disavowing the utility of anaesthetics or antibiotics.

All these people approach money and wealth with the intuition of a zero-sum ‘conserved’ quantity as are momentum or the balance of mass, but it’s a false intuition. Wealth is not a conserved quantity: by marking an asset to market in a single transaction creating or destroying wealth for all the asset holders because the market capitalisation changes in response to the price change with a (comparatively tiny) amount of money having actually being transacted. These people are really very dismissive of somebody else’s field of expertise, and as usual the whole public is becoming enamoured of their muttering simply because speculative mania is setting in and driving the asset up and up in price. The animal spirits demand their blood sacrifice.

Wealth’s nature as a non-conserved quantity negates the intuition about the market being zero-sum. Indeed, it is very nonzero-sum insofar as the bulk of the purported value of the system derived from revaluation and windfall: much of the $158 billion market cap (as of writing) of bitcoin derives not from outright transactions at market value (and thus conversion of assets from one form to another with face-value liquidity) but from revaluation of coins purchased at lower prices or mined out of thin air (or rather electricity). This means that the market has ballooned in value (as do speculative bubbles… not stating outright that this is a bubble, but analogously) and has benefitted all asset-holders super-linearly, but it also puts them all at immense risk of devaluation (which would be sub-proportional). This nonlinearity in the risk profile is a direct result of its nonzero-sumness.

Furthermore, the way BitCoin is set up strongly favours the seller rather than the buyer, and hence the incumbent with a significant stock in BTC already accrued (presumably mainly through mining, perhaps in the earlier days). This makes it somewhat akin to a Ponzi scheme in terms of incentives, even if one ascribes to all holders absolutely sterling motives they are still at a significant advantage compared to new entrants.

Some mention is also often made of BitCoin being “anti-fragile”: that’s consistent with the past few years of BTC value, but that’s far too little data to be conclusive. For sure so far it has benefited from volatility, but in the relatively short-term many things do. Only the long term will tell whether it will regress to the mean or not, and only a bunch of ’real’ crashes (massive liquidity events, as opposed to strong fluctuations in value with limited trade volumes) will tell us empirically what that ”long term” timeframe is. Meanwhile, as a consequence of its construction and finite supply of bitcoins, the system does not allow elastic creation of money (no lending, only coining) when the need arises, so it has all the components of a catastrophic liquidity crisis: no underlying value, shallow capitalisation, no ability to adjust supply in the short term, fixed long term amount, and speculation run riot. This could be terrible.

Many of these issues are diffuse across almost all BlockChain implementations I have come across so far (and I haven’t been looking into them that closely, my time doesn’t really allow it beyond some cursory curiosity). The only proposed system that I find to be satisfying from a macroeconomic point of view is BaseCoin (no interest in them, no connection with them, no investment in them, no long or short position in their asset if indeed they have even started up at all), but their system is so fair in its construction it offers next to no incentive to early adoption at all (as any genuine currency should). I’m fairly sure blockchain technology will eventually be appropriated by central banks and governments and integrated into the financial system (”biteuro”?) but until then, I’m staying away from it.

You want to know what is scary? Two weeks ago my sister’s former boyfriend, a private soldier that left school at sixteen, started gushing enthusiastically about bitcoin and about how he had made fifty euro on his investment over the past three weeks. I started to feel sick in the pit of my stomach and I thought of how Henry Ford called his broker and instructed him to “sell everything” when his doorman or elevator-operator (anecdotes differ in detail) started telling him about stocks in 1929.

For those of you that are interested in looking to deepen your knowledge of some of the topics I have touched upon above, here’s a couple of resources I highly recommend:

• Core Economics, an open and free economics syllabus and textbook that takes market failures as a given, rather than an exception to the golden rule.
• Where Does Money Come From? an insightful and accessible (though slightly polemic) explanation of the fractional reserve banking system and how it underlies our modern monetary systems.
• Why Stock Markets Crash, an analysis of the deterministic dynamics in the long-term lead-up to catastrophic market events.