Debunking the Bitcoin Myths

There’s a scene in The Big Short (a must-see movie about the housing crisis) when Mark Baum and his staff realize that a local Miami mortgage broker has been conning strippers into taking out highly leveraged mortgages. We haven’t quite reached that level of shady with the Bitcoin bubble. But we may not be far. An online search for bitcoins now serves up plenty of ads to buy the digital currency using a credit card loan.

Cryptocurrency advocates want you to believe we are not in a bubble. While some of these people are well-intentioned tech idealists, others are international miners engaged in price-fixing. So before investing in the hype, it’s worth knowing which claims are half-truths at best. Here are the top five myths Bitcoin promoters want you to believe.

Myth #1: Bitcoin has limited supply

You often hear that Bitcoin supply is limited — just like gold or the works of Picasso. While that’s technically correct (only 21 million bitcoins will ever be created), that sense of urgency isn’t so urgent as you’re being led to believe. Here’s the thing: You don’t need to buy a full bitcoin. Instead, you can purchase as little as one Satoshi, which is equivalent to 1 / 100,000,000 (one hundred millionth) of a bitcoin. In other words, we have 2,100,000,000,000,000 Satoshis, or 2,100 trillion units to trade. Compare that with 5.8 billion ounces of gold in the world, or 1,885 paintings by Picasso and you realize this supply is not so scarce after all.

Additionally, the Bitcoin community can ‘split’ at any point to create a new currency that shares the transaction history with Bitcoin up to a certain time and date but duplicating all future supply. Bitcoins has already encountered three forks this year.

Myth #2: Blockchain is what makes bitcoins so valuable

Cryptocurrency advocates point to blockchain as a game-changing new technology that justifies the price of bitcoins. The argument is flawed on two fronts. First, blockchain isn’t the panacea we make it to be. Imagine if email didn’t require a central server run by Google or Yahoo. Instead, you could email anyone directly without going through any central servers, but with one caveat: you must download the entire history of every email ever sent (to you or to anyone else) on your computer first and they must as well. It would eventually work, but your computer would come to a full stop before you could send a single email. That’s how the blockchain works. It’s decentralized, but also incredibly inefficient, slow, and prone to fraud. Secondly (and more importantly), bitcoins are built on top of blockchains. But you can create blockchains that have nothing to do with bitcoins. The two are not linked in value.

Myth #3: Bitcoins are secure

Each cryptocurrency has a private key (A very long number. In the case of bitcoin it is a 256 bit or a roughly 165 digit long number) that you need in order to sell it. But financial security isn’t just about protection; it’s also about remedy. Because there’s no central authority, and because bitcoin transactions are, by design, irreversible, those keys are a hot target for thieves. Not surprisingly, bitcoins are being stolen at an unprecedented rate (accounts are hacked; phone numbers are ported to new carriers then used to reset passwords, and an entire exchange was once taken down).

Many companies now offer to store your keys safely offline. Xapo, for example, keeps keys safe in secure bunkers in the Swiss Alps. It’s an ironic twist that the only way to keep digital currency safe is to store it in a bunker.

Myth #4: Cryptocurrency is mined in China because electricity there is cheap

This one is only half a lie. The cost of electricity in China is about 6 cents per kilowatt hour (kwh), compared with about 12 cents per kwh in the US. But electricity prices in the U.S. aren’t flat: they range from 45 cents in Hawaii to 7 cents in Washington state, almost the same price as in China. So why then is the US not a major producer of bitcoins? Because electricity is only part of the answer.

China mines over 60% of all new bitcoins today, followed by Georgia and closely thereafter by Venezuela. What do all these countries have in common? Capital controls. Bitcoin miners in these countries are willing to spend more money to move their money out of the country. What we have created with bitcoins isn’t democratized currency, but rather the world’s best tool for evading capital controls.

Myth #5: Bitcoin has intrinsic value

Bitcoin promoters create an analogy between bitcoins and historic stores of value like gold in the cost of production: it takes electricity to “mine” bitcoins. But price is not a function of production cost; it’s a function of supply and demand. Gold is used for jewelry. Art is in very limited supply and a way to show off one’s wealth. People do not buy bitcoins for some intrinsic value. They buy it for the hope that others would buy at a higher value; the definition of the greater fool theory.

Myth #6: Bitcoin is not a bubble

Of course it’s not. Even the Loch Ness Monster thinks it is not!

The creators of bitcoins have done something truly impressive: realize a longstanding dream of decentralized currency with software. But cryptocurrencies have become a tool for speculation. And their derivative, initial coin offerings (ICOs), have become a tool for scammers. As retired Americans start contemplating placing their life savings into bitcoins, the tech industry has a responsibility to call out the BS and stop brushing all criticism under the rug.