Bitcoin has been a hot topic for the past few days, particularly because of the news of bitcoin ATMs which will accept Federal Reserve Notes and exchange them for bitcoins. What are bitcoins? Bitcoins are a digital currency that are created by a computer program which harnesses computing power to "mine" units of the currency. As additional units of the currency are created, each marginal bitcoin requires more and more computing power to create, until the total number of bitcoins in existence reaches 21 million.
Proponents and early adopters of bitcoin are touting bitcoin as a revolution in currency, a decentralized peer-to-peer currency system which will help to break the state/banking monopoly on currency issuance. But is bitcoin really all it's cracked up to be?
While I like the decentralized aspect of bitcoin and the fact that it seeks to work outside the banking monopoly, I believe that those who promote it lack an understanding of the origins and nature of money. I also believe that bitcoin does not in fact live up to its hype.
The Nature of Money
What is money? Money is a commonly accepted medium of exchange, a store of value, and a unit of account. That means that money can be used to facilitate indirect exchange; it can be held as a store of value; and it enables basic accounting and the calculation of profit and loss. Money has certain properties: divisibility, portability, recognizability, uniformity and scarcity. These mean that units of money are easily divided into smaller units to facilitate smaller transactions; money can be easily carried from place to place; it is easily recognized as money by many people; each monetary unit is identical to every other one; and money is not available in quantities such that if fulfils everyone's demand for money simultaneously. The ideal money is one which possesses all these properties and characteristics.
Traditionally, money has always been a commodity, the most widely accepted commodity in a society. In some societies it was goats, in others beads or tobacco, or for the past several centuries, gold and silver. But it was always a commodity that had a non-monetary use as well, something that had some non-monetary utility. Should the monetary order break down, or should the demand for non-monetary uses of money be greater than the demand for its monetary use, money could be consumed rather than saved. Goats can be eaten, tobacco smoked, and gold and silver fashioned into jewelry. Even Federal Reserve Notes can be burned for heat. But what can you do with a bitcoin?
The Nature of Bitcoin
Bitcoin is just a representation of energy expended. It is a function of a certain amount of electricity powering a computer processor running a particular program that creates these bitcoins. The energy used to create bitcoins is energy which can no longer be put towards any productive purpose, it has ceased to exist. Bitcoins therefore are backed by nothing and represent nothing. In comparison to dollars that are created out of thin air on bank ledgers by the Federal Reserve, bitcoins differ only in degree, not in kind. The creation of a trillion dollars by the Fed may not require as much computing power, but is essentially operating under the same principle as bitcoins: energy powering a computer processor that is operated by a human being in order to create a digital currency that is (hopefully) widely accepted. You could use a similar principle to create a currency that is based on the energy given off by feces and it would have the same backing as bitcoin. It would be called Buttcoin. And it would be extremely popular.
If you look at the Wikipedia page for bitcoin, you'll see this under the description:
"...bitcoin attempts to build upon the notion that money is any object, or any sort of record, accepted as payment for goods and services and repayment of debts in a given country or socio-economic context."It is true that anything can be used as money, but in the absence of legal tender laws or other similar state-imposed restrictions, societies have always chosen commodity money. Unbacked trust-based monetary systems such as the one that currently exists are historical anomalies which will eventually go by the wayside. It makes no sense to tout a new monetary unit that merely replicates the current system on a smaller scale, even if it is slightly more decentralized and bypasses the current banking system. Eliminate legal tender laws and all other government-imposed barriers to currency competition and we'll see just how viable bitcoin really is.
The Wikipedia description also states that:
"Unlike most currencies, bitcoin does not rely on a central issuer, like a central bank or government."Actually, it does. The central issuer of bitcoin is the original program, the original genesis block that started this whole project. And each of the miners is a participant in the creation of this new currency. An analogy that comes to mind is Satoshi and the original genesis block as the Fed, and the miners as the banks. There may not be a monopoly on who can become a bank/miner, but the miners are still active participants in currency creation just like banks are in today's monetary system.
Bitcoin is also limited in its size. Again according to Wikipedia:
"There is a hard limit of 21-million bitcoins in total, which are released at a scheduled rate until the year 2140."This is just an arbitrary limit, but one which bitcoin miners and users are powerless to change. Once all bitcoins have been mined, that's it, no more. If bitcoins are stolen or lost, that's a permanent loss to the money supply, unlike other monies like gold and silver which can be continually mined to replace losses from circulation. I'm not really sure what the benefit of a hard limit like this is, but it's not all what would be encountered in a free market monetary system.
Conclusion
The more I read about bitcoin, the more I think about John Law and his scheme to issue notes backed by land. Or more recent schemes to monetize intangibles such as goodwill and patents. There has never been a shortage of people who proclaim that there is a shortage of money, and that they have the solution to all of our monetary ills if we can just create more money. I know that bitcoin wasn't really intended for that purpose but I can't help but think of that, especially given all the hoopla surrounding bitcoin. If people want to use it, great, but I would hope that libertarians and sound money activists, rather than wasting time promoting some flash in the pan, would put their effort into promoting real sound money.