When is money not money?

“Bitcoin,” declares Bitcoin.org, a site which coordinates Bitcoin’s open source software development and acts as an education resource for the public, “is an innovative payment network and a new kind of money.”

That may have been the original intent behind the blockchain-based innovation, but the current exponential bubble-like rise in the value of Bitcoin proves unequivocally that it can never be a means of exchange.

Bitcoin is not a currency

It is – as currency – inherently deflationary.

The first requirement of a means of exchange is that it be invisible. We appreciate the risks of hyperinflation, but Bitcoin suffers from hyperdeflation.

Why would you use it to buy anything if it doubles in value every few weeks? And this isn’t some accident. It’s a function of its fundamental design.

Back in my first novel, I had the US on a blockchain currency with the space-bound Achenians in a similar position to China today: exporting lots of stuff but buying very little in return, and stockpiling currency they don’t have any real use for.

Except with China and the US now, China doesn’t control dollar money supply. Even as the Chinese take dollars out of circulation, the US central bank can continue to ensure money supply by printing more.

I know this is the sort of thing that incenses Bitcoin evangelists, but the alternative to not maintaining consistent liquidity is terrible.

If the US could not control its own money supply, and China has a large store of it, then China would control the US economy absolutely. They would do the opposite of what the US Central Bank would do. They could release money and drive down its value, leading to inflation. Or hoard it and increase its value, leading to deflation.

China would love to do this, because China wants the renminbi to be the world’s reserve currency.

The choice for Achenia in my novel – leaving the solar system forever – was what to do about their Bitcoin hoard. Release it and cause a collapse. Or leave with it and cause dramatic deflation (since removing money from circulation forever is equivalent to destroying it).

Central Banks protect monetary stability

Fiat money is all about money supply controlled by a central bank with the duty to protect monetary stability. Bitcoin is a distributed system with a duty to produce a fixed supply of money at a controlled rate of production.

To mimic the functions of a central bank, the network would need to control supply. At the moment, a new block produces a fixed supply of new Bitcoins aimed towards an overall static end-supply of 21 million Bitcoins.

That could be changed to increase supply (if the exchange rate of Bitcoin were targeted to remain within trade range of a basket of currencies, for instance) by producing a variable amount of new coins.

But how do you ensure the network destroys coins during periods of over-supply? No miner – in the current configuration – will want to give up bitcoin after mining a new block.

Central banks have numerous tools to control money destruction: print less physical money than they destroy of notes returned; devalue bond issues; buy notes in circulation with gold, or other currencies.

How would you empower a distributed network to do this? Any autonomous agent acting on the network to achieve this – whether a person, company, or AI – would be duplicating the function of a central bank. And that would be counter to the philosophy behind the current Bitcoin development community.

So… If bitcoin can’t be money, can it be virtual gold?

Can Bitcoin be a new asset class?

And here I’m really not sure. I mean, gold is already equivalent to bitcoin. It exists in and of itself. A limited supply is produced by mining. Hodlers (gold bugs) will hang on to it forever, and a significant quantity is owned by large institutional investors and nation states. Plus it has the advantage of being immutable. It survives war, genocide, nuclear war, and massive network failure. All the gold ever produced is still in circulation.

Could we say the same about bitcoin come some future apocalypse?

Bloomberg’s Tyler Cowen seems to feel it could be part of a diversified asset portfolio:

One approach is to ask what role bitcoin and other cryptoassets are likely to play in global portfolios. Under one (very rough) estimate, total global wealth is about $241 trillion. Because the total value of cryptoassets has been hovering in the neighborhood of $300 billion, that constitutes about one-eighth of 1 percent of the total global portfolio. If you think of cryptoassets as taking on some of the hedging functions of gold or government securities, that valuation doesn’t sound so crazy.

The FT reports on the hefty derivatives market in Japan, where bitFlyer “has an 80 per cent share of bitcoin trading in Japan and 20-30 per cent of the global market”:

Trading on bitFlyer is roughly 25 per cent in actual bitcoin and 75 per cent in derivatives, where customers make leveraged side bets with each other on the bitcoin price.

And Bitcoin began futures trading on Cboe Global Markets Inc.’s exchange on Wall Street today (11 December 2017) where so manic was its price rise (26 percent at one point) that two temporary trading halts were triggered to cool sentiments.

Yeah … this is a frothy asset, not money. And, while it will eventually stabilise, expect it to be a bumpy process getting there (and even gold has its wild and crazy moments).

Bitcoin is only one application of blockchain

So… Aside from Bitcoin, what is blockchain for? And here I’m more comfortable with the idea behind Etherium (even if its implementation is dodgy). Being a distributed means of validating other transactions or contracts does create something new.

Think of the fundamental online problem of our identities (and good name) being tied to platforms. Patreon is topical, so think of some person wanting to leave them for a competitor… Now they’re in the same position as a peasant farmer leaving their community and losing their social lending network. You have to build up your reputation all over again.

In January 2015, I wrote a paper on using blockchain as a mechanism to provide cryptoidentity to the billions of people denied formal identity by their governments (because – as the US Republicans well know – a person without formal identity cannot vote, and cannot demand representation by a government of their peers).

I still think blockchain is one of the most important innovations of our age, but Bitcoin as money? Yeah, not really working out that way …