By Dave Birch
This article first appeared 3/04/2013 on Consult Hyperion, and is republished here under Creative Commons Attribution-ShareAlike 3.0 Unported License.
I'm very curious about media interest in Bitcoin, which seems to have accelerated in the last couple of weeks. Last week, for example, I found myself being interviewed for the BBC's current affairs flagship "Newsnight". A couple of days later, this package appeared on the BBC News site. Here it is, in fact.
I forced my family to watch this. Afterward, my good lady wife (a lay person of great intelligence) told me that while she had enjoyed my performance on national television, "I know no more about Bitcoin than I already did - ie, nothing - and I really wanted it explained". All of the graphics about cryptography hadn't helped at all. That set me thinking about alternative ways to explain the technology. When I've tried to explain Bitcoin to lay persons before, I've not started off by talking about cryptography, I've started off with narrative.
The closest analogy to this is the stone currency of the island of Yap, in the South Pacific.
So what was the stone currency of Yap and why is it a useful way to explain Bitcoin? This was explained by the economist Milton Friedman in a famous 1991 paper called "The Island of Stone Money" and there was a terrific NPR programme about this a couple of years ago. Here's my summary of the story and why it would have given the BBC better graphics for Newsnight!
The nation of Yap is a group of four islands in the South Pacific. The islands have no gold or silver or any form of precious metal that could serve the function of money that we are used to. Consequently where we developed the habit of using metal ingots as stores of value, the inhabitants of Yap used stones. A few centuries ago, they discovered a particular kind of limestone on another group of islands about 250 miles away. Since this limestone was not available on Yap, the supply was limited. From time to time, the tribal chiefs would organise expeditions to these distant islands to quarry and bring back new stones carved into disks. The disks were of various sizes, some only a few inches across and weighing a pound or two, while others could be 12 feet across and weigh thousands of pounds. At the end of a successful expedition the chief who organised it would keep the large stones and 40% of the smaller stones, the remainder being divided between the expedition members. A long-lived and successful chief might therefore have many very large stones outside his house.
Now, suppose that chief engages in some form of trade or has to pay a large dowry or give a gift to a neighbouring chief some reason. These large stones are too big to move without considerable effort, so the Yap islanders came up with a practical solution to the problem of minimising transactions costs. Since the stones were too big to move, they didn't bother. The tribes just agreed that the particular stone no longer belonged to Chief A and now belonged to Chief B instead. Everyone was happy. Over time the stones might be traded again and again, each time staying exactly where they were but with all the tribes agreeing on their new owner.
The system worked even when the stones were invisible. Here's what I mean. Suppose the expedition quarried some stones but on the return journey, as would happen from time to time, their raft (which I picture as being a bit like the Koni Tiki, below) got caught in a storm and to survive they had to chuck one of the stones off of the raft. When they got back to the chief they told him about the stone which is now five miles down at the bottom of the Pacific. Everyone agreed that the stone still belonged to the chief and when he used that stone in a trade all of the tribes agreed that the stone belonged to the payee. Not only does the stone not go anywhere, none of the participants in the trade have ever even seen it. In a way, and this was Friedman's point, it doesn't really matter whether the stone actually existed or not. Everyone agreed it did, and therefore it was money.
The tribal chiefs were the central bankers of this system because they organised the quarrying of the stone that brought the new money into existence and the distribution of the stones that formed a rudimentary system of taxation. It all worked reasonably well. It is very interesting to me that the stone money survived the arrival of fiat currency andreports from a few years ago seem to indicate that the value of the large stones had remained fairly stable over time. Interestingly, the 12 foot stone disk weighing thousands of pounds had one very significant advantage over a bar of gold, which is that you can steal a bar of gold but even the most skilled burglar isn't going anywhere with a 12 foot limestone "coin".
So this is the analogy with Bitcoin. In Bitcoin, instead of expending manual labour to find a kind of stone that is rare, we expend computing power to find sets of numbers that are rare. These sets of numbers have a particular mathematical property that makes them difficult to find but once you have found them it is easy to check that they have that property, just as the Islanders could easily check that your disk was made from the rare limestone from Palau. Once you (or rather, your computer) has found one of these numbers then it is yours and you can keep it or trade it.
Bitcoin releases a twenty-five-coin reward to the first node in the network that succeeds in solving a difficult mathematical problem requiring a certain amount of brute-force computation (known as a proof-of-work calculation.) The solution is then broadcast throughout the network, and competition for a new block and its twenty-five-coin reward begins.
As in the case of the stones, if I send you my Bitcoin, the coin isn't really going anywhere (after all, all I'm doing is sending you a copy of the numbers that I found) and what we are really doing is just telling everybody else that the coin now belongs to you and not to me. On Yap, the record of ownership of the stones was part of the collective cultural memory, but in Bitcoin it is the distributed transaction ledger known as the "block chain" (if you click on that link, you can see all of the Bitcoin transactions as they happen). In essence, when I give you a Bitcoin the record of that transaction is copied out to all of the other users so that everyone now knows that the coin belongs to you. Because of the particular mathematical properties of the numbers used in the Bitcoin system there is a finite suppy (21 million) of these numbers and once they are all discovered no more can ever be "minted". It would be as if Palau had been eroded away by the Pacific storms so that no more limestone disks could enter the Yap economy.
There is one conceptual difference between Bitcoins and stone disks that is much remarked on in media reports. When it came to the stones, everyone knew who the stones belonged to. They knew that Stone X belonged to Tribesman A and everyone knew who Tribesman A was. But in Bitcoin, the coins are associated with cryptographic keys rather than individuals. You might know which internet address one of those cryptographic keys is associated with during a transaction, but that doesn't tell you who the person is. So there is a kind of anonymity associated with Bitcoin that would have been impossible to imagine for the Yap islanders. This anonymity seems to be a focus for the media, with all the talk of the "Silk Road" market for drugs etc.
But back to my question at the beginning. Why the media interest? I think it points to something more interesting than Bitcoin itself, which is recognition that there is a latent demand for change. The media interest isn't specifically about Bitcoin, to my mind, but about the appearance of an alternative to the state-issued, interest-bearing fiat currency money system that has been in place for the last forty years. The post-industrial economy needs a new kind of money and, I might suggest, it needs to cast the net for alternatives, not have the same representatives of the status quo framing the solution as they did the problem. We have been here before, you know.
Towards the end of the 17th century money the government gave up passing pointless laws (such as the 1660 act forbidding the export of bullion) and instead of asking investment bankers or celebrities for advice in the modern fashion, they decided to ask someone clever instead. Thus was the smartest man that ever lived, Sir Isaac Newton, then the Lucasian Professor or Mathematics at the University of Cambridge, appointed the Master of the Mint.
I'm not suggesting that the creator of Bitcoin is another Newton, but what I am suggesting is that the technology used to create Bitcoin could be used to create the new kinds of money and a new kind of economy needs.