I also had a longish conversation a few days ago with my financier friend Christian about Bitcoin that got me thinking. I’ve been curious about virtual currencies for a long time, and couple years ago Christian and I bought some Bitcoin jointly and practiced spending it on each other just to test out the usability of the stuff.
My main challenge in understanding Bitcoin is that the public conversation contains so many nuts — especially dreamy opensource types, shouty Libertarians, purist crypto geeks, and huckster speculators. Even as Bitcoin hits the Krug-o-verse and the rest of the mainstream I’m not sure it’s well understood, although I do applaud guys like Josh Davis who have IMVHO done a pretty good job of clarifying some of the mechanics and digging into some of Bitcoin’s mysteries.
To sort through all the noise I’ve used a couple questions to help drive my thinking and that have landed me somewhere near a working opinion on Bitcoin. Here’s what I’ve got:
Question 1 — Does Bitcoin have intrinsic value?
This question is at the bottom of a lot of the currency debates, and I think my answer here would be the same as my answer to the gold-themed version of this question, which is: of course not Ms. Rand, nothing has absolute intrinsic value to all humans, but gold has some key properties that historically have allowed it be a great way for people to keep track of value (or commoditize debt!). It’s these properties of gold, which include prettiness and the right amount of scarcity, that have made gold historically valuable in a lot of cultures.
What properties would Bitcoin have to nail in order to be a viable digital commodity and player in global currency systems? My baseline list of prerequisites to adoption would be: security, reliability, speed, simplicity. Smarter people than me have done deep dives on all these features of Bitcoin, but I find Bitcoin lacking in the speed (hey, it adds 10 minutes to my Pizza delivery time!) and simplicity. While software tends to improve over time as a function of demand and resources, some of these limitations may require a service layer to mitigate. More on that later.
The whole question of “intrinsic” value seems a little sad to me fundamentally. It presupposes a world-view where ownable, graspable absolutes actually exist. When gold is held up as an “inflation-proof store of value” (this is from the Bitcoin wiki!) I go nuts. What kind of world does a person live in who can say such a thing? What am I missing? What happened to supply and demand? Every commodity changes value over time, nothing is absolute, not even gold. Or Bitcoin. But I totally get the very melancholy human longing for certainty and absolutes that you can put in your pocket.
Question 2 — Can you trust a “store of value” that is not attached to a trusted institution like a government or a bank?
Well, it has clearly become more popular in some places (esp. little island countries.. Cyrprus! or Iceland!) to distrust banks and governments, most people tacitly have deep faith in the idea of these large public concentrations of consensus. Its these pools of consensus that allow you to exchange small bits of paper for cars and cups of coffee without a second thought. Can Bitcoin operate outside these known institutions and create from scratch a new source of trust?
In theory, absolutely. And more specifically, Bitcoin is designed to be supertrusty in a couple important regards:
a) it uses the distributed nature of the internet to provide it with resilience and durability, features that the US Federal Reserve pioneered in the 1800s with their own junior internet of banks.
b) it uses strong crypto which seems really safe in 2013.
c) it builds on the parts of the open source movement that provide a kind of forced sharing and transparency as a feature of the system. Geeky types especially see this as a very trusty move.
d) it has a built-in currency limit — only 21 million BTC will ever exist, and it will be divisible only down to 8 decimal places. This is intended to mimic the right-sizing of gold’s scarcity curve as a commidity and to keep the currency from being quantitatively eased indefinitely, a practice that some people — including the anonymous Bitcoin developer — see as an expression of banker greed.
Despite all of Bitcoin’s good intentions the question of whether you can trust it to hold value comes down to how it will get used, not so much what it was originally designed to do. Nassim Taleb last week was nicely evasive when asked about Bitcoin — “I’m waiting to understand it better, not with my brain, but with my experience.” Um, yeah, we’re all waiting on the experience part.
I’ll go one farther than Taleb. My brain says that Bitcoin is too limited and inflexible and unmanaged to be the nation-less community-regulated world currency that it aspires to be and in that sense it will fail. Like Yahoo or Napster or MySpace, the rigid first-mover is on the right track but is often overtaken by a superior second-mover.
But does that mean Bitcoin will cease to exist? Probably not. I think its very likely that Bitcoin will be the basis for some fraction of digital value exchange for decades to come. In fact, I think that the more successful Bitcoin is in the short term the more it will fail in its intended mission.
If you’ve ever looked into the question of “how much money is there in the world” you pretty quickly run into a very weird multi-dimensional world that is the product of a few fancy tricks that banks quietly perform but which are hard to explain to children. Like fractional reserve banking for example. Bitcoin was designed in protest to these tricks and to work around them. But yeah, good luck with that. It’s not hard to imagine how adding the inevitable service layer to Bitcoin, in the name of making it fast and safe, will allow for the the next round of fancy tricks. So despite the purity of Bitcoin’s intentions, the old men with guns who run all the banks in the world will continue to run the world, as they should. But now with a position of Bitcoin in their portfolios.