Money is in the mind: Is crypto the future? — AAX Academy
As normal everyday life is brought to a standstill by the coronavirus outbreak, now is the time for reflection, development and planning for the days when the crisis is finally over.
With that in mind, let’s take a closer look at the fundamentals of Bitcoin and cryptocurrencies. Not in the sense of technology, utility or adoption, but in the context of the history and evolution of money itself.
Created many times by different people in various places, the inception of money did not depend on a technological breakthrough but rather a mental revolution. Money is not the numbers on your screen, the bills in your wallet or the coins in your pocket. It is a subjective reality that only exists in our shared imagination.
From ancient times to modern days, money can be anything that we all agree to use as a representation of value for the purpose of exchanging goods and services. The form of money and how its value is derived has changed a lot over the centuries, and in that light cryptocurrency is simply the most recent step in the ongoing evolution of money.
Before money, there was bartering
First recorded in Egypt in 9000 BC, farmers and merchants would meet at the markets to barter goods with each other. For example, cows would be exchanged for bread, grains for oils, and clothes for sheep. While that sounds simple enough at first, it’s actually very complicated to get your goods through the system if you imagine that a clothes trader needs food every day, but a farmer doesn’t need new clothes so often.
That imbalance created the need for money. A controlled transaction system that could be used to measure the value of goods as well as a medium of exchange to facilitate transactions. Cowry shells were one of the first and most widespread forms of money, with other “currencies” used in different places such as grains, cloth and even buckskin — that’s why in the US, people often say “bucks” for “dollars”.
While all these currencies look very different, they have 3 main characteristics in common:
- Community agreement: there needs to be consensus that this is indeed currency. A farmer will only accept a cowry shell for the cow, if the farmer knows that same cowry shell can be used to buy grains.
- Resilience: the object used as money needs to be able to stand the test of time in a physical sense. Using mushrooms wouldn’t be any good, as they’d decay within a few months leading to bankruptcy.
- Uniformity: One grain is no better or different than another grain. The object needs to be fungible, mutually interchangeable.
While this worked for a while, there was a little problem with acquiring money. If grains were money and you ran out, you could just farm more money. Broke merchants using cowry shells as a currency just needed to go to the beach. In many cases, it broke the first point made above: the community could not agree on what object could be used as money.
Enter the coin.
Precious metals and coins
The first known people to use coins were The Lydians of Ancient Greece in 600 BC. The coins were made from electrum — a mix of gold and silver — and minted by their weight so they were usually weighed rather than counted. Unlike cowry shells or buckskin, people couldn’t just go out and find more electrum to shape into coins stamped with royal approval. Even today, mining gold is not something the average person is able to do.
Meeting the 3 main features of money described above, coins were accepted by a society because the rulers decreed it so, gold coins don’t evaporate or rust over time, and the metal is uniform to the point it can even be smelted to create bigger or smaller pieces of gold — all that mattered was the total weight of the piece.
As majestic civilizations waxed and waned, so too did their currencies. But for centuries, precious metals were used to mint coins. All that changed was the royal face printed on the coin and its circulation.
Money evolves from coins to banknotes
While coins solved a lot of issues for money, they came with problems of their own. Coins are heavy, take up a lot of space, and circulation was limited by the availability of precious metals. These inconveniences created the need for a new form of money, which came from China.
Paper money was invented in China in 100 BC. Instead of carrying heave bags of coins, people could leave funds at the bank, and in return they would get a signed note from the bank that verified the value and ownership of these funds. These banknotes created a system of trust — people exchanged banknotes because they all trusted that at any point in time the banknote could be exchanged for tangible funds (gold coins).
The idea of banknotes representing money quickly took hold across the world, and it wasn’t long before banks in Europe picked up on paper currency. And because everyone started using banknotes rather than gold itself, banks started to issue more notes than the amount of gold available at the bank. They were depending on the idea that not everyone holding banknotes would come to the bank at the same time asking for gold.
It marked the first practice of the expansion of money supply, and it’s how we still deal with money and banknotes today.
Removing the gold standard
Up until the 1930s, every paper dollar bill was redeemable for $0.40 worth of gold. The leniency on the gold to paper money exchange rate was allowed because the US also believed not everyone would go to the bank on the same day to exchange bills for gold. But that changed with the Great Depression.
The economy needed help, but with the limited supply of gold the US government couldn’t print more money. So, to prevent economic collapse, in 1933 The President of the US made owning gold illegal, forcing everyone to hand in their gold to the Federal Reserve bank who would issue paper money in return. In 1971, President Nixon officially moved the US dollar away from gold. Private ownership was allowed again only in 1977.
Today, paper money is separated from gold or any other precious metal. In fact, if you take out a bill from your wallet right now, say a 20 dollar bill, you will see a statement printed on that bill to the effect of “the bank promises to bay the bearer on demand at its office 20 dollars”. It doesn’t mention gold, and don’t expect to get 20 dollars’ worth of gold from your bank in return for the banknote. What you can do at the bank is turn paper money, into digital money. In Sapiens, Yuval Noah Harari says that more than 90% of all money — more than $50 trillion in our accounts — exists only on computer servers.
Digital currency has evolved from digits in bank accounts, to credit accessed using plastic cards, to e-money exchanged using mobile devices. And then, just like the Great Depression in the 1930s, the 2008 Global Financial Crisis sparked another huge step in the evolution of money.
Enter Bitcoin
With the advent of Bitcoin in 2009, we had a new form of money that built on all the foundations present throughout the history of money, with a few critical enhancements. Bitcoin is not minted or controlled by a central authority but instead it is distributed and controlled by those who hold the coin.
Bitcoin kickstarted the cryptocurrency revolution but BTC itself is arguably not a medium of exchange. The price has skyrocketed, plunged, dramatically recovered, only to fall back down again, and it will continue to do so for the foreseeable future. The community certainly agrees it has value, but what that value is changes drastically in short time frames. Its volatility has made it a digital asset seem more akin to a scarce commodity rather than money.
But cryptocurrency has evolved a lot since 2009. There are now hundreds of coins for various purposes. Stablecoins for example are designed for spending and transacting, and as they exist in the digital world this form of money is programmable — giving way to unique applications that will find more utility as the technology evolves and the world we live in becomes more digital too.
Other coins such as native exchange tokens or gas in the Ethereum ecosystem are used to power operations within digital applications, with smart contracts as some of the most sophisticated technological features used today.
Crypto as the future of money
Where we go from here is simply unknown. The tokenization of commodities such as gold-pegged cryptocurrencies is an interesting development that will likely bring more traders into the crypto space, and coins pegged to partial ownership of real estate is another example of innovation happening in the crypto space.
Who knows, at some point we may not quote the price of crypto in US dollars anymore the same way we no longer associate the dollar with gold reserves.
The only thing we can say with certainty is that crypto is developing and changing rapidly, with no shortage of creativity and technological advances. It meets all the characteristics we agree money should have, with enhancements that make sense for the digital world we live in today.
And just like the inception of money centuries ago, this is a mental revolution that we all actively shape together.
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Originally published at https://academy.aax.com on March 18, 2020.
