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Bitcoin and the fallacy of a non-political currency

photo of Michel Bauwens

Michel Bauwens
26th April 2013

While it is true that local communities have, in the past, generated successful communitarian currencies (that enabled them to improve welfare in their midst, especially at a time of acute economic crises), there can be no de-politicised currency capable of ‘powering’ an advanced, industrial society.

An important and crucial argument by Yanis Varoufakis:

* On “The fantasy of ‘de-politicised’, ‘honest’ money

“The Crash of 2008 has infused our societies with enormous scepticism on the role of the authorities, both government and Central Banks. It is quite natural that many dream of a currency that politicians, bankers and central bankers cannot manipulate; a currency of the people by the people for the people. Bitcoin has emerged as the great white hope of something of the sort. Alas, the hope it brings to many people’s hearts and minds is false. And the reason is simple: While it is true that local communities have, in the past, generated successful communitarian currencies (that enabled them to improve welfare in their midst, especially at a time of acute economic crises), there can be no de-politicised currency capable of ‘powering’ an advanced, industrial society.

Since the second industrial revolution made possible the emergence of large, networked oligopolistic companies (the Edisons and Fords of the 1900s, and the Googles or Apples of today), capitalism became dependent on large credit spurts for the purposes of financing these capital corporations’ needs. Such credit spurts required large boosts in the money supply, both in order to finance the creation of new capital goods and also to support the new consumption patterns that were necessary to maintain the economy’s new productive capacity. Even when capitalist economies operated under the Gold Standard, banks found ways of creating money by lending increasing quantities against the existing, stable, stock of gold.

The 1920s thus demonstrates the impossibility of an apolitical money supply. Even though the monetary authorities were insisting on a stable correspondence between the quantity of paper money and gold, the financial sector was boosting the money supply inexorably. Should the authorities stop them from so doing? If they had, the Edisons and the Fords would have never flourished, and capitalism would have failed to produce all the goodies that it did; indeed, it would have stagnated and spawned social tensions that would put its institutions under a cloud well before 1929. So, the authorities stood by, allowing the bubbles of the 1920s to inflate, leading to 1929 and to the disaster of the Great Depression.

To the extent that bitcoin attempts to emulate the Gold Standard, if a large portion of economic activity is denominated in bitcoin, the dilemmas of the 1920s will return to plague the bitcoin economy. Finance will either have to find ways of introducing bitcoin denominated securities, 1920s-style, that will cause asset bubbles to form or the bitcoin political economy will nosedive into a deflationary spiral that either causes untold hardship amongst its users or leads them, as is more likely, to abandon bitcoin altogether.

The reason that money is and can only be political is that the only way of steering a course between the Scylla and Charybdis of dangerous ponzi growth and stagnation is to exercise a degree of rational, collective control over the supply of money. And since this control is bound to be political, in the sense that different monetary policies will affect different groups of people differently, the only decent manner in which such control can be exercised is through a democratic, collective agency. In brief, while apolitical money is a dangerous illusion, a Central Bank that is democratically controlled (as opposed to the indefensible notion of an ‘independent’ Central Bank) remains our best hope for a form of money that is for the people and by the people. Bitcoin, despite its many interesting features, can never be that.

Bitcoin enthusiasts, just like believers in the Gold Standard, understand money as if it were some commodity which has spontaneously emerged as a unit of exchange – a little like cigarettes did in the POW camp ‘economy’ that R.A. Radford (1945) described so brilliantly. This is a gross misconception based on the unexamined (and dangerously false) faith that there is no substantial difference between Radford’s POW camp and a modern capitalist economy; that, like in that POW camp, output is independent of expectations and demand is always abundant enough to absorb the produced output. As for investment, it is assumed to be uni-directionally determined by savings which are, in turn, determined by the rate at which present consumption is deferred to the future. None of that holds in an economy involving not only exchange but also production and investment. It is these two activities, production and investment, that preclude the possibility of apolitical money.”

Apart from the central argument in the article we´ve excerpted, the greek economist points to two other flaws:

* On “Bitcoin’s two fundamental flaws

As with all things digital, there are a number of concerns to do with security; with the fear of hackers and e’spivs. Imagine a world that has shifted entirely to bitcoin. Would we not live in fear that some ingenious hacker will get the better of Nakamoto’s algorithm and manipulate it to his benefit? Would it be wise for humanity simply to assume that the bitcoin algorithm is un-hackable (especially so in the absence of some authority that can intervene and save the day if something horrible happens to the algorithm)? Besides, even if the algorithm is safe, there is always the danger of waking up to the realisation that one’s bitcoin stash was e’looted during the night. And if one entrusts one’s stash to some company with better firewalls and computer security, what happens (in the absence of a bitcoin Central Bank) if that company goes broke or simply disappears into the Internet’s darker crevices (with its customers’ bitcoins)?

These concerns would probably suffice to put a dent in bitcoin’s prospects. But they are not the main drawbacks of the currency. No, there are two insurmountable flaws that make bitcoin a highly problematic currency: First, the bitcoin social economy is bound to be typified by chronic deflation. Secondly, we have already seen the rise of a bitcoin aristocracy (a term ‘coined’ by Greek blogger @techiechan) which, besides the issues of distributive justice which it raises, evokes serious fears about the capacity of very few entities or persons to manipulate the currency in a manner that enriches them at the expense of financial instability. Let us look at these two problems in some detail.

First, deflation is unavoidable in the bitcoin community because the maximum supply of bitcoins is fixed to 21 million bitcoins and approximately half of them have already been ‘minted’ at a time when very, very few goods and services transactions are denominated in bitcoins. To put simply, if bitcoin succeeds in penetrating the marketplace, an increasing quantity of new goods and services will be traded in bitcoin. By definition, the rate of increase in that quantity will outpace the rate of increase in the supply of bitcoins (a rate which, as explain, is severely constricted by the Nakamoto algorithm). In short, a restricted supply of bitcoins will be chasing after an increasing number of goods and services. Thus, the available quantity of bitcoins per each unit of goods and services will be falling causing deflation. And why is this a problem? For two reasons: First, because an expected fall in bitcoin prices motivates people with bitcoins to delay, as much as they can, their bitcoin expenditure (why buy something today if it will be cheaper tomorrow?). Secondly, because to the extent that bitcoins are used to buy factors of production that are used to produce goods and services, and assuming that there is some time lag between the purchase of these factors and the delivery of the final product to the bitcoin market, a steady fall in average prices will translate into a constantly shrinking price-cost margin for firms dealing in bitcoins.

Secondly, two major faultlines are developing, quite inevitably, within the bitcoin economy. The first faultline has already been mentioned. It is the one that divides the ‘bitcoin aristocracy’ from the ‘bitcoin poor’, i.e. from the latecomers who must buy into bitcoin at increasing dollar and euro prices. The second faultline separates the speculators from the users; i.e. those who see bitcoin as a means of exchange from those who see in it as a stock of value. The combination of these two faultlines, whose width and depth is increasing, is to inject a massive instability potential into the bitcoin universe. While it is true for all currencies that there is always some speculative demand for them, as opposed to transactions demand, in the case of bitcoin speculative demand outstrips transactions demand by a mile. And as long as this is so, volatility will remain huge and will deter those who might have wanted to enter the bitcoin economy as users (as opposed to speculators). Thus, just like bad money drives out good money (Gresham’s famous ‘law’), speculative demand for bitcoins drives our transactions demand for it.

Can these two flaws be corrected? Would it be possible to calibrate the long-term supply of bitcoins in such a way as to ameliorate for the deflationary effects described above while tilting the balance from speculative to transactions demand for bitcoins? To do so we would need a Bitcoin Central Bank, which will of course defeat the very purpose of having a fully decentralised digital currency like bitcoin.”


4 Responses to “Bitcoin and the fallacy of a non-political currency”

  1. Chris Cook Says:

    Let’s examine some aspects of what money.

    Firstly, neither a litre nor a pint are political, and equally a unit of account – in itself – is apolitical. I advocate a unit of energy as a completely objective unit of account/numeraire. The only question is what is the correct size of energy unit to be relevant as a standard unit of measure for value.

    eg you don’t measure a room in light years or Angstrom Units.

    Secondly, currency or means of exchange – in terms of a Unit returnable in exchange for value – is apolitical if objectively based upon utility defined as ‘use value over time’.

    There’s nothing political about merchant A issuing an IOU; B accepting it in exchange for value; C accepting the same IOU in exchange for value and then returning it in exchange for value to A, closing the loop.

    Government is nowhere to be seen.

    Politics entered into it when States came along as economic intermediaries between citizens by levying taxes and then using these tax obligations as a basis for the issuance of currency.

    But Government may be bypassed through the use of:

    (a) P2P credit creation and clearing, which need require no currency;

    (b) Peer to Asset currencies based upon prepayment of (say) land use value and energy use value;

    These require only a mutually acceptable unit of account (which cannot be mandated) and suitable frameworks of trust (which may or may not be a government).

    Third and last, there is the ‘store of value’.

    For me, this is not so much an aspect of money but of Capital. This function conflicts with the function of Money a a means of exchange.

    The scarcer and more valuable a currency the more it will be hoarded and the greater will be the resulting deflation.

    Inflation results in a transfer of value from holders of financial claims over the real world to people in the real world. Deflation results in a transfer of value from the real world to holders of financial claims over it.

    ie unearned gains to holders of money, purely from the fact of possession, which I see as morally no different to usury.

    Both deflation and inflation are are invidious: I prefer my currency/ means of exchange to be stable.

  2. Apostolis Xekoukoulotakis Says:

    Bitcoin is good because it allows the exchange of value all over the world.
    No authority can block it, thus it is the currency of choice for mediums that try to fight censorship(wikileaks).
    It can be anonymous.
    The cost of transaction might be small at the moment.

    Those are the only reasons one should use bitcoin.

    The bitcoin community ,though, has mostly libertarian views, believing that the problem of the economy is the state and that if the economy was let free, the
    free hand of the market would make its miracle.

    To that extent, having a central bank controlled by the people would be better than no central bank as most of the bitcoin community assumes.
    But what is the possibility of the people controlling the state? None.
    So both arguments lead nowhere.

    It is though important to understand that a state currency is somehow affected by many tendencies, many factors, many economic sectors.
    But nowdays, we have currencies that are local in nature, are affected by local factors. Thus these currencies allow for the decentralization of the responsibility of governing that currency.

    Stocks can be treated as a currency. The price of the stock is determined by the profitability of the specific company it represents,not the global economy, and it is governed by its shareholders.

    Thus, the focus of the p2p movement should be in creating a multitude of such currencies and that is currently technologically possible.

    We need a general definition of a currency to be used by all the new currencies that takes into account how capitalism works, that takes into account the process of exploitation and alienation of the working class and to block that process.

  3. Paul Hughes Says:

    If Varoufakis and who ever else don’t like bitcoin – no one is forcing you to use it. That’s the beauty of it – we finally have choices! Nothing is stopping them from creating something better, as long as no one is forced to use one or the other. Apparently people like Varoufakis are not happy about that kind of freedom, believing true economic freedom is at odds with innovation, prosperity and radical abundance. I could say so much in response to this, about how deeply flawed and wrong headed this is, but the bottom line is you either believe in freedom, and it’s ability to set all things right politically, economically, ecologically, or you don’t. Obviously I am the former, and I believe my copious writings have made that argument convincingly.

    I’ve said this before, but it bears repeating – the mistake the non-libertarian/non-anarchist left continues to make is conflating “vulgar” libertarian “free markets” with true freed markets. When they hear the word “markets” they conflate it with all the wrongs we see today, not knowing that those wrongs are enabled and made possible entirely by state-backed First Tier regulatory protection

  4. Tom Crowl Says:

    Article is correct in my opinion. In my opinion money is inherently political… its roots lie in enablement of a decision chain necessary when a civilization reaches the size where everyone can’t know each other personally. Its very roots lie in politics (the group decision mechanism)

    Decision Technologies: Currencies and the Social Contract

    Bitcoin can work as money but it will end up very problematical… because it will face the same fate as all monetary systems in large societies… IT WILL CONCENTRATE IN FEW HANDS.

    And unlike an ‘inflatable’ currency… this eventual catastrophic imbalance won’t be addressable by any means other than forced redistribution (made difficult by its anonymity) or abandonment of the currency… or other more disruptive solutions.

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