Bitcoin

[Dick Whitman]

Another story today in the NYT about "bitcoin." As most probably know by now, this is an Internet-based, non-government-backed virtual currency that is all the rage right now. I'm not exactly sure on how it works. I've read that it is limited to 21 billion units, forever and ever. But I've also read that

Today's piece in the NYT business section doesn't seem to think highly of it:

http://dealbook.nytimes.com/2013/11/25/render-unto-caesar-but-who-backs-the-bitcoin/?ref=business

Neither does this piece from The Atlantic. (Note: I did not find this Atlantic piece myself. It was referred to in the NYT story.)

http://www.theatlantic.com/business/archive/2013/11/bitcoin-is-the-segway-of-currency/281625/

Anyway, I'm curious to hear some thoughts from some of the board's economics experts, like DoctorQuant, Big Ragu, and 93Devil, about what they think of the phenomenon. Here to stay? Massive bubble? How the hell does this even work?

Oh, and I love the Warren Buffett quote about gold. I'm sure Ragu won't like it too much, but it seemed fairly dead-on to me.

 

[The Big Ragu]

Peter Schiff covered it as well the other day, or better, than I could in a post on here. In particular, he covers what Buffett has wrong -- gold has intrinsic value. For thousands of years, people have actually WANTED gold, just for itself.



I'll expand on one thing he said. To be an effective currency, you need stability, or an assurance that your currency is going to be a store of value. Bitcoins have no stability because the value relative to anything you want to trade it in has been all over the place. It's a speculative vehicle right now. Most of the people who are buying bitcoins are buying in the hope that it appreciates in value. So there is a disincentive to spend it. If you thought you might wake up tomorrow and your dollar would have appreciated in value by 30 percent, you would not spend your dollars. And the dollar would fail -- even as a fiat currency.

For bitcoins to work as a currency, you need a widespread swath of people who accept it as currency and see it as relatively stable. Without intrinsic value, I can't see how that will happen. What is the store of value in a bitcoin, in and of itself?

 

[LongTimeListener]

the board's economics experts, like DoctorQuant, Big Ragu, and 93Devil,

This was excellent.

Re Bitcoin, I said it before, but ... a totally unregulated currency where you don't know who's on the other end of the transaction? What could possibly go wrong?

 

[The Big Ragu]

the board's economics experts, like DoctorQuant, Big Ragu, and 93Devil,

This was excellent.

Re Bitcoin, I said it before, but ... a totally unregulated currency where you don't know who's on the other end of the transaction? What could possibly go wrong?

I agree with you. If you don't have faith in how much of something can be created out of thin air, then all you have is a fiat currency. And fiat currencies have always failed -- because the temptation for those who control it (usually the King and Queen historically, today central banks at the behest of politicians) is to debase it. Since 2008, the U.S. has debased the dollar by more than 60 percent, and it continues. It is a looming disaster that has not played out to its conclusion yet.

That is the allure of the bitcoin. It can only be produced up to a fixed amount (I believe it is 21 million bitcoins, without looking). It is algorithmic and can only be mined (they use gold terminology to give you the sense of its scarcity) by people setting up powerful computers that can perform complex calculations.

In theory, it sounds great, because unlike a fiat currency, it should be fixed.

The problems I would worry about are the ones I think you are getting at. First, there was a paper recently (think it was some computer scientists out of Cornell) that demonstrated how the market for bitcoins could be cornered. I didn't understand the technology behind it, but I can understand how that could be disastrous for any market. And then there are some problems with how bitcoins can get used in practice. There have already been bitcoin bank robberies, believe it or not. One guy claimed his bitcoin bank was robbed of more than $1 million. Who do you call when that happens? And since the whole idea behind the currency is that transactions can't be traced, how do you catch the perpetrator. Also, in practice, that anonymity is hard to protect, because, let's say you are walking around with bitcoins ready to be spent on your phone. Lose your phone and your bitcoins are gone -- and untraceable.

Again, it's something I have followed really closely the last few years, but my posts on it would just get the same bull****. I don't have strong feelings about bitcoins either way. I think it really is tulipmania (although even tulipmania wasn't tulipmania, apparently). So I wouldn't touch it -- the same way I don't touch a lot of things I see trading in mania-like market conditions because of all the debasement of currencies worldwide and how all of that added liquidity has created a bunch of bubbles. But the one place that bitcoin apparently has potential is as a payment system. And in that regard, it could be an interesting technology -- I am sure Visa, Mastercard, AMEX, etc. are watching it very closely and with a bit of trepidation. But as a currency? I saw Richard Branson being interviewed recently. Virgin Atlantic started accepting bitcoin payments for flights. The interviewer asked him about the volatility, and Branson admitted that they just take the bitcoin and immediately trade them in for dollars. The dollar is the real currency that Virgin can trust. The bitcoin is just a payment system.

 

[RickStain]

This has long been one of my favorite stories to follow.

It's primary devotees are techies, libertarians and criminals. What a glorious combination. The lulz are endless.

It takes massive amounts of computing power to "mine" bitcoins (complicated, don't feel like explaining it) and people have burned their houses down trying to create homemade computing farms to do it.

At shockingly regular intervals, people create online banks to store bitcoins, collect a lot of deposits, then steal all the deposits and claim they were hacked.

 

[RickStain]

Also, the anonymity of bitcoins is rather ... iffy.

One of the ways bitcoins work is that there is a massive file that is publicly shared by the entire network that contains every transaction ever made. I may be not have to connect a bitcoin wallet to my real name, but everything I've ever done with a bitcoin can be traced backwards, and I let my identity slip online in any way, at any time, it can be traced back to me.

 

[The Big Ragu]

Presumably if you are a drug or arms dealer, you are careful about the trail you leave. :)

I don't think this has legs as a currency -- and even if it did, the world's sovereigns would tear it down. There is a reason why it is illegal to pay your taxes and conduct certain kinds of commerce in anything except dollars in the U.S. They need to force it on us to keep faith in it. Otherwise, people would realize a dollar isn't worth the paper it is printed on.

What has interested me most about bitcoins is if it is possible to trade them for profit -- speculate.

I earn most of my living trading. I'd trade cow turds if there was an orderly market for it and I could come up with some kind of swing trading methodology or momentum-based trading strategy that I found was reliable more often than not. If I can potentially make money in a risk-adjusted way doing it, I am usually all over it.

I can't trade bitcoins, though. Yeah, there has been a lot of momentum in the market, but the liquidity really sucks. And the swings have been wild. I followed a couple of the "exchanges" for a week, and it was a waste of my time. I walked away and really just saw a mania not following any kind of orderly pattern. To step in there -- even as a short-term trader, I don't see how you are doing anything except gambling without being able to have any sense of what your downside risk is. Good on anyone who is making money that way, but I know it is not for me.

 

[RickStain]

http://www.reddit.com/r/Bitcoin/comments/1r88vl/need_advice_on_inheritance_arbitrage_family_etc/

Presumably if you are a drug or arms dealer, you are careful about the trail you leave. :)

You'd think so, but http://en.wikipedia.org/wiki/Ross_William_Ulbricht

(not technically a dealer, but close enough)

 

[Big Circus]

I agree with you. If you don't have faith in how much of something can be created out of thin air, then all you have is a fiat currency. And fiat currencies have always failed -- because the temptation for those who control it (usually the King and Queen historically, today central banks at the behest of politicians) is to debase it. Since 2008, the U.S. has debased the dollar by more than 60 percent, and it continues. It is a looming disaster that has not played out to its conclusion yet.

http://www.theonion.com/articles/us-economy-grinds-to-halt-as-nation-realizes-money,2912/

 

[Michael_ Gee]

A fool and his virtual currency are soon parted from the fool's fiat currency.

 

[User 11148]

Don't know much about it, but have been reading a bit (ha!) and it's awfully interesting. In some ways it's sort of the ultimate end-state (or, perhaps better put, the end-of-the-state) promise of the internet.

If nothing else, the bitcoin phenomenon gives a flavor of the complexities/assumptions underpinning any currency. When I delve into these things, it makes me wonder how well I'd do were I to face my own Brobdingnagian interrogation.

Here's a pretty good discussion of it from an economist:

http://www.econlib.org/library/Columns/y2013/Murphybitcoin.html

Seems to call into question the Mises-grounded criticism of bitcoin:

More substantively, some critics (who are often proponents of hard money such as gold) object that Bitcoin is in a perpetual "bubble" because it has no "intrinsic value." Yet these critics often seem to overlook just how much the exchange value of gold and silver is (and was) due to their use as media of exchange. Thus, if Bitcoin is currently in a bubble, then, by the same token, gold bullion in the year 1900 (say) was also in a massive bubble because it was trading for a far higher exchange value than could be explained merely by its industrial and ornamental uses.

Some critics rely on the work of Ludwig von Mises and his "regression theorem" to argue that the world will never embrace Bitcoin as a true money. According to this argument, Mises demonstrated that all money—even today's fiat money—must have been, at some point in the past, linked to a commodity that was useful in the days of barter. Since Bitcoin has no such history, the critics argue, we have the authority of Mises himself to show that Bitcoin will never be more than a fad.

This article won't address the question of whether this is a valid interpretation of Mises' writings. Instead, I will make the modest point that if Mises is used to rule out Bitcoin's acceptance as money, then it seems that Mises has already lost. If this logic is correct, then Bitcoin should never have been adopted as even a medium of exchange because it served no useful role as a regular commodity. (Recall that money is simply a medium of exchange that is accepted by everyone in the community.) But Bitcoin has already surpassed that hurdle, as there are websites on which people from all over the world exchange their bitcoins directly for goods and services.

 

[The Big Ragu]

Go back 4,000 years ago when gold or silver was being minted into coins, DQ, and it had nothing to do with its industrial or ornamental value. That is just an arbitrary way to decide the instrinsic value of something.

"Intrinsic value" simply means whether something is valued for itself. Nothing more, nothing less. Which is why Murphy misses the point that the exchange value -- or gold's use as money itself -- is exactly WHAT gives it its intrinsic value. If there is any evidence that people want a bitcoin simply for the utility they derive from having a bitcoin, then bitcoins have intrinsic value, too. I am skeptical of that ever happening.

In the case of gold and silver, we have thousands of years of history that demonstrate that it does provide utility -- which is what determines the instrinsic value of something. Specifically, its utility is as money. People needed something to trade in and they needed assurances that that medium of trade couldn't be devalued through making more of it. Gold and silver, because of how difficult they are to mine, took on that role. And it is the fabric that has held together every stable currency we have seen (among a sea of failed fiat currencies).

Its intrinsic value is as money, and that value is derived from the properties it has -- scarcity; can be melted and meted out in divisible increments.

That is where Murphy (and Warren Buffett, too) just get it wrong. It's where Buffett is consistently wrong. He will tell you that "gold has no utility."

You know very well (I know this from your posts) that utility is personal. Who is Warren Buffett to determine that something has no utility, when 4,000 + years of human behavior demonstrate otherwise?

It's where he always loses me. He has done that too, when it comes to Bill Gates 'giving pledge. I have seen Buffett try to shame the billionaires he calls on into donating away their fortune by talking about how another $500 million doesn't provide them any "utility."

How does he know what they derive utility from? What I derive utility from doesn't equal what you derive utility from doesn't equal what Warren Buffett derives utility from.

Intrinsic value is simply a measure of the utility that people in the aggregate get from something. It's not someone subjectively deciding that intrinsic value has to be determined by industrial use. In the case of gold, it has always functioned as money -- which is its intrinsic value. It still does. Warren Buffett (or Robert Murphy) telling us that it has no intrinsic value doesn't override the value everyone has historically put on it as a store of value in a world of fiat currencies (for reasons they may not understand), or the value people still put on it for those same exact reasons.

I can give endless examples of actual human behavior demonstrating the instrinsic value of gold. Every Central Bank has been holding onto its gold (Italy wouldn't consider selling its really large holdings, even to fix its debt problem) -- and in the case of China and Russia, frantically trying to buy up whatever gold they can get their hands on to catch up to the reserves that the U.S. and Europe hold. If it has no intrinsic value, why would they be doing that?

They know their dollar reserves are doomed; they see the worldwide currency war that is in full rage and they don't want to be stuck holding dollars when the dollar collapses. They apparently find intrinsic value in gold, as an alternative currency that can't be debased.

 

[MisterCreosote]

 

[Justin_Rice]

Specifically, its utility is as money.

As it turns out: The dollar's specific utility is as money, too.

You can't eat gold or silver. You can burn it to keep warm. You can't even really fashion primitive tools out of it.

Gold has value because it's shiny and rare. That's it. It works as currency because we (us, you, me, humans, the world) accept it as currency. It's pretty portable, and as you said, easily dividable.

The dollar is valuable also because it's pretty portable and easily dividable. It works as currency because we (us, you, me, humans, the world) accept it as currency. The great news for Americans is we control the world's only dollar mine. ... and we protect it with the greatest military the world has ever known.

How long have the "End Fiat Currency!!!!!" folks been predicting doom and gloom? When will those predictions finally come true?

And were we any safer from economic calamity back when the world embraced the gold standard?

 

[Dick Whitman]

Specifically, its utility is as money.

As it turns out: The dollar's specific utility is as money, too.

As is Bitcoin's, right? I'm not sure why Ragu thinks that gold has utility but bitcoin does not. Pedigree?

 

[Justin_Rice]

As is Bitcoin's, right? I'm not sure why Ragu thinks that gold has utility but bitcoin does not. Pedigree?

Gold has universal acceptance as currency; bitcoin doesn't.

 

[Oggiedoggie]

There was a show about the Bitcoin on NPR.

Monetary experts put the utility value of gold (its value as a material in electronics and industry) at about 20 percent of its market value.

Though gold does have some physical value, most of its value comes from being an accepted form of economic exchange (money).

 

[Baron Scicluna]

There is also this fun story of a Norwegian man, who bought $27 worth of Bitcoins in '09, forgets about them, then discovers four years later that they're worth $800K+

http://www.uproxx.com/webculture/2013/10/norwegian-man-bought-27-worth-bitcoins-2009-now-800000/

Kicking myself now .... even though I had never heard of it until about 2 months ago.

 

[The Big Ragu]

Specifically, its utility is as money.

As it turns out: The dollar's specific utility is as money, too.

You can't eat gold or silver. You can burn it to keep warm. You can't even really fashion primitive tools out of it.

Gold has value because it's shiny and rare. That's it. It works as currency because we (us, you, me, humans, the world) accept it as currency. It's pretty portable, and as you said, easily dividable.

The dollar is valuable also because it's pretty portable and easily dividable. It works as currency because we (us, you, me, humans, the world) accept it as currency. The great news for Americans is we control the world's only dollar mine. ... and we protect it with the greatest military the world has ever known.

How long have the "End Fiat Currency!!!!!" folks been predicting doom and gloom? When will those predictions finally come true?

And were we any safer from economic calamity back when the world embraced the gold standard?

Dollars only work as currency as long as people have faith in.

Unlike gold, there is nothing stopping our central bank from figuratively printing more and more of them(they do this through zero interest rate loans to a handful of crony banks that then inject newly created money into the economy. ... and by buying up assets in a relatively new disastrous experiment to inject money into our economy) .

It has been doing it at an insane pace -- particularly since it went on a binge after 2008.

Nearly every country now (including Europe as a whole with the Euro) is in a financial war in which it is trying to import inflation by destroying their currencies.

And if your particular faith in the currency you feel safe in hasn't eroded, frankly it should be.

It has an end game. And one that is very likely closer than I think most people on here realize. I will go with Jim Rickards (google him if you don't know who he is, please) and suggest that we are going to have a dollar crisis within the next 3 to 5 years. In the past, I would never have predicted that, because we could always reverse course. But we have backed ourselves into a corner in which it is inevitable. I just wish I could time the collapse. In the mean time, yeah, I am not mindlessly holding dollars as they lose value due to a deliberate debasement. I want to protect my wealth.

 

[RickStain]

There is an important difference between the sort of scarcity that gold and silver bring vs. the kind of scarcity bitcoins bring. There may only be 21 million bitcoins ever, but it's relatively simple to create functionally equivalent copies. Litecoin and several others have already done so.