The Economic Efficiency of Digital Currencies

capital flows

Bitcoin and other digital currencies are new kinds of money and exchange networks that are superior in nearly every way to state-controlled fiat money. Due to the fact that all monies are directly competing with one another as economic units, money create a zero-sum game of competitive economics against one another. When we see the kind of capital efficiency that bitcoin and other digital currencies exude from their near-zero transaction cost, scalablity, security, and most importantly not being controlled by any government, we can see there is no way that fiat money can ever win over digital currencies in terms of their economic efficiency.

Capital Efficiency

Capital EfficiencyBitcoin and digital currencies will always be a cheaper monetary systems to maintain and utilize than a fiat money, partially when we consider the cost of scaling and security over the long-term, and on a global scale. Due to the unique construction of digital currencies from a security stand point, digital currencies create nearly perfectly secure money systems at rest. Out of the box, through cryptographic functionalities built directly into digital currency protocols; they are magnitudes more secure, efficient, and scalable than fiat money. Fiat money must be defended from counter-fitting, banking fraud, note destruction, and physical theft. Fiat money will always be more expensive to service, use, and maintain as a whole monetary system than any kind of digital currency system because of those weaknesses and flaws. Digital currencies have greater security and scalability than their fiat counterparts as well.

Scalability and Security

mobile banking penetrationMoney markets are huge social networks of economic acceptance. This is why new, crisp $100 bills are accepted almost anywhere in the world due to the economic hegemony of the U.S. dollar. However, there is nothing in the dollar bills themselves that have true value; just that the next person who gets that bill will know that it is worth $100–a relatively stable value against many local currencies like the Venusalian Bolivar, or the Argentinian Peso which have both experienced bouts of hyperinflation.

Despite the wide acceptance of the U.S. dollar, it still has the fundamental problem of transport, security, and counterfitting that all fiat money has–a huge expense that cost the US economy about $250 billion dollars a year. That expense is imbued into all dollar transactions today, and corresponds to the amount of dollars that are being transacted within the global economy. With the increase in the size and scale of the U.S. dollar economy, so does the degree of fraud, and counterfeiting that occurs with U.S. dollars. This amount is proportional to the total supply of hard money, and is a fundamental flaw of any kind of state-issued fiat money. It is this scalability flaw that digital currencies exploits to be magnitudes more efficient at being a mode of exchange, and more importantly, a storage of wealth than any money there is today. Digital currencies have the capacity to scale so much more securely that fiat money that they will prove themselves to be more efficient that all fiat money over the next decade.

Capital Competition

capital competition Due to a condition that is similar to undercover interest rate parity, digital currencies will always offer an opportunity for profit over fiat. This is not due to an actual higher interest rate of digital currencies, but due to an increase in the demand for digital currencies over the total available supply. This causes for value appreciation as demand outstrips the limited supply. The distinct advantage here is that digital currency networks will never inflate the number of units faster than that which is dictated by the block reward. This creates an unmailable supply which cannot easily be changed, unlike all fiat monies.

When placed next to one another as whole monetary systems, bitcoin and other digital currencies will always out preform fiat currencies because of how both currencies create their structural value. Fiat money will always be bonded to a contemporary legal system that finds its value in the force of law, not the nature of value. Digital currencies on the other had have value because the nature of markets–people desire them because of the traits of good money that they exude.

Digital currencies will never have the same internal legal and economic burdens to service as fiat money does. This means digital currencies will always have a lower systemic transaction cost than any fiat system. Sovereign digital capital will always out preform state fiat capital.

Digital currencies are simply better forms of money than state-controlled money.

Conclusion

Funny that he sees that, yet bitcoin is going to destroy his wealth.

Funny that he sees that, yet he seems to be unaware that bitcoin and other DCs are going to destroy his wealth.

Due to the zero-sum nature of how currency competition economics function, bitcoin and other digital currencies present an existential threat to all forms of state fiat money. Bitcoin and other digital currencies have a lower transaction cost and greater security and scalability than fiat money. Over the next decade we are going to see one of the greatest transference of wealth the world has ever seen, and it will be from the failure of fiat money the coming economic hegemony of digital currencies.

Bitcoin’s Creative Destruction

“The opening up of new markets, foreign or domestic, and the organizational development from the craft shop and factory to such concerns as U. S. Steel illustrate the same process of industrial mutation-if I may use that biological term-that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism.”

–Joseph Schumpeter in Capitalism, Socialism and Democracy

The process of creative destruction can be thought of as the evolution of efficiency within the markets. This can take many, many different forms with the core premise being to create new profit through innovation–with innovation being the keyword. Creative destruction is the wedge that divides the entrepreneurs from the capitalist.

Creative destruction generally presents itself as a technologically achievement that creates a greater total utility from the new product or process over the old. It can also take place as non-technical innovation, such as the worker assembly line processes pioneered by Ford, or the development of the just-in-time production strategy. These new innovations ‘destroy’ the older models through direct competition, not through using any sort of oppressive apparatuses of the law or monopolism. Disruption tends to be the contemporary word for it.

Creative destruction causes for a total increase in the utility of what is being accomplished–it is making it better. This question of ‘better’ or ‘more efficient’ is decided by free and fair markets though the greater returns that one receives. Thus, the most efficient actor or technology within a market, if not suppressed, should take the largest market share over time due the the fact that it is more efficient that all other options within the market.

Bitcoin is More Efficient On a Micro, Macro, and International Level

The creative destruction that will come from bitcoin is nothing short of earth-shattering. Bitcoin is more efficient on a macroeconomic, microeconomic, and international level. In almost every way it is better money than money itself.

Macroeconomic

As I explained in The Transaction Cost of bitcoin, when you look at bitcoin as a whole monetary system, it is always going to be more efficient than fiat currencies. This is because of a number of mechanisms that bitcoin uses to automatically establish and manage its own monetary system. The needed laws, legislation, and regulation that are needed for any fiat monetary system are handled automatically by the bitcoin protocol itself–Bitcoin users do not need to pay for the legal support of the system itself. Whereas, because of the nature of fiat monetary system, the users of these systems must bear the cost of the legal and enforcement mechanism of that fiat money system, and that is very, very expensive.

How much do fiat money systems cost?

This is a difficult question to ask because the monetary system is implicitly part of the state, and the state is implicitly funded through taxation and seigniorage, which make is difficult to separate one from another. One cost that we can look at is counter-fitting, which costs between 200 to 250 billion dollars per year. The counter-fitting cost with bitcoin is $0.

These sort of savings are simply too dramatic to be ignored for long, and can help business dramatically reduce the cost they they incur from supporting a monetary system that is inefficient and subject to counter-fitting risks. This is not to include other indirect cost such as the actual printing, distributing, transporting, and securing of fiat money. When you compare the transaction cost between bitcoin and fiat money systems Bitcoin will always have a lower transaction cost because it does not need to pay for the legal and enforcement mechanisms that fiat systems must pay for in order for them to function.

Microeconomic

Once upon a time, storing your money within a bank to offer you the security of knowing that your money was safe and secure. In addition to helping one secure their money, banks also found the opportunity to make the use of money sitting in their vaults through allowing easier access to the funds through services like checks, debit cards, and credit cards. As these services evolved, the banking system started taking more and more ‘convenience fees’ for access your very own money! But what is one to do when all banks are part of the greater monopoly that makes up the various national money systems? Until now, nothing–but now because bitcoin challenges this monopoly, and it is much more efficient than this monopoly, it is going to break this monopoly. The fiat money system just cannot compete–it’s too slow, too prone to fraud, and there are too many fees. This is in addition to inflation that has proven itself time and time again to destroy the savings of all the general public. When one see all of the benefits that bitcoin offers and understands how it works, there simply is no good reason to keep using fiat–it’s just shitty money.

When you compare the amounts that one spends on banking fees, from either a consumer or a merchant perspective, to that of using bitcoin, we again see that using the fiat banking system is much, much more expensive because one is paying people to do what bitcoin does automatically. This is why services like CoinBase can offer 0% processing fee for the first $1,000,000 of transactions–because bitcoin is just that much more efficient. If any non-bitcoin services offered this kind of deal, they would be bankrupt within the month. They just cannot afford to do it because of how expensive it is to move around fiat money. Bitcoin will always have a lower transaction cost than using the banking system because it does not need to pay all of the mechanisms and fees to move around money–that is part of the bitcoin program.

Internationally gain-loss

The world is globalizing at an incredible rate, and is poised to continue to grow in that direction. Since 1995 there has been a dramatic growth in international trade by all countries except for industrialized one (who lost a portion of the international market to developing nations). This indicates that trade is starting to spread more evenly between all nations, instead of the industrialized nations taking up such a large potion of international trade. It is in the field of international trade that bitcoin offers some of its most powerful benefits.

Because bitcoin exist ‘in between’ national boundaries, it is not subject to many of the restrictions that fiat capital is subject to. This means that people and business that are working across boarders can choose to use bitcoin, and avoid national taxes, capital controls, and the intense oversight that is forced onto people and business from governments. Furthermore, when using bitcoin one does not need to deal with changing currencies consistently, and the associated fees and taxes that come with that.

Innovation vs. Crony Capitalism

Bitcoin is clearly a superior currency to its fiat counterparts. This is because Satoshi took all of the best features of both the internet and money and imbued them into one to create the first digital currency: Bitcoin. Bitcoin automates most of the processes that governments, laws, and the banks preform to maintain the money system. This means that the users of bitcoin do not have financially support the very large cost of maintaining a fiat monetary system. The innovative way that bitcoin secures money, protects identity, and allows for transfer to anyone with a internet connection is much more efficient than any monetary system today. With bitcoin, your money belongs to you, and you are the only one with control over it. Hands-down, this makes bitcoin win the economic argument by being more efficient, quicker, and secure.

But the economic argument has nothing to do with what we are talking about though…. because money is NOT about money.

It’s about politics.

Bitcoin is a massive threat to those that are already in political power  and the special interest groups that pay them. We are at this interesting crossroads where we all know that bitcoin cannot be stopped, yet it clearly threatens the current financial and governmental infrastructure. What fascinates me about this is that it forces states into a prisoner’s dilemma against one another that they cannot win.  The countries that have a clear, succinct, and friendly policy towards bitcoin first shall be the one to win the most economic benefits of bitcoin, and the ones that fail to do so shall lose the most. This is on top of the fact that bitcoin is superior to every country’s fiat money–there simply is no way fiat currencies can ever win over bitcoin. States will have to acknowledge and accept digital currencies as real legal tender, or they will have to suffer the consequences of using a money that is more expensive to use, subject to inflation, can be seized at any point in time, and is forced to pay taxes on it, and is subject to banking fees. At the end of the day, bitcoin is just better money, and it will take over the financial system because of that.

Next: The Creative Destruction of Bitcoin

 

The Hope of Bitcoin

The world is a screwed up place and things for many do not seem to be getting better. The U.S. Federal government is dysfunctional beyond repair, with 85% of Americans disapprove of Congress, and the total integrity of the United States being called into questing from the President’s repeated lies and support for the NSA spying. Food Stamp usage is at an all-time high with nearly 48 million people on food stamps, which even that the federal government is slashing that program back, Mean while, it is becoming more and more clear that the Federal Reserve may not be able to service their $4 Trillion dollar deficit, and may also need a tax payer bail out. All in all, the United States is has monumental problems in front of it, and there is no one to lead us out of this mess. We are Screwed.

The Global Stage

The Global stage looks even more bleak. Europe is clearly entering into another major depression, with deflationary pressure forcing down the value of the Euro. Considering that some countries already have +20% unemployment, Europe is entering into a more major and sever economic crisis than the one it is in today. China is bloated with foreign currency loans, which could easily spin out of control and drag the west down with it. The Indian economy is the weakest it has been in 10 years, and does not look like it shall be recovering soon. Argentina is also looking at getting back on the currency crisis merry-go-round, with their foreign currency reserves dwindling and confidence plummeting. All in all, the global economy looks like it is heading for another Great Depression.

Thank God for Bitcoin

Despite all of these horrors going on in the world, I’ve seen my savings increase by more than 200% in the last year–and it looks poised to go up another 200% over the next year. Bitcoin as a storage of wealth I believe to be a relatively safe investment because of its liquidity–I can cash out all of my savings in less than an hour–though I never world. Bitcoin is just too good of a savings instrument in a world where governments can legally allow for banks to steal from you. It is clear that the majority of the governments in the world are nepotistic, corrupt, oligarchic alliances among corporations, bankers, and crooked politicians, who have no interest in you, your friends, family, community, or economic prosperity.

That is why bitcoin is so powerful–it takes back the power of having independent money that cannot be controlled or manipulated. This is money that has value because of its utility of being able to send money anywhere in the world in under one hour, but also from its built-in scarcity. You have the assurance of knowing that there will only ever be 21 million bitcoins created, and you can also know what the monetary supply will be at any point in time. This means that bitcoins are pretty much impossible to counterfeit.

All of the powerful features of bitcoin that got it to the success that we are seeing today is part of what makes it such a powerful savings vehicle. For the first time in one hundred years, people have a commodity money that is not controlled by the state, or their corrupt allies. There is a huge and powerful opportunity for those of us that are involved in the globalized society that is the internet, to create our own economic prosperity together. It is clear that we are doing that with the epic rise in the price of each bitcoin, along with the multitude of products, services, and number of business that are starting to accept bitcoins.

What indicates to me that this is not a bubble is that there is very, very real cost savings that bitcoin is offering. So much so that bitcoin has an almost-zero transaction cost, and when compared to fiat currencies, it has a negative transaction cost! It is obvious for anyone who looks at the macroeconomic statistics of what the cost of governance is compared to bitcoin, which has no cost of governance. Thus we find ourselves using a currency that is simply more efficient in all ways over fiat currency.

Final thoughts

Everyone, even those heavily involved in bitcoin generally say, “Only invest that which you can afford to lose.” I agree to an extent. Where I disagree is the idea that your 401K, savings account, or cash in hand is any safer. It’s not, and frankly over the next 10 years, I would call those investments dangerous. Simply look at what has happened over the last 5 years, and look at the direction we are heading for the next 5 years. Things are NOT looking up, and investing with the vast majority of the world means that you will stuck in their luxury liner as it is going down. The global economy is slowing down faster than it has any time in modern history. The days of 4% unemployment will never return–we have reached the end of growth, and when the house of cards falls, it will be spectacular. For your own safety, I advise everyone to invest just $100 and see what it does for you over the next 6 months. Just watch it and see what you think at the end of the 6 months, I guarantee you will be happy with yourself.

The Transaction Cost of Bitcoin

Bitcoin and other cryptocurrencies have create a new monetary system that relies privacy and pseudonymity to conduct economic transactions, rather than governmental laws and regulations. This monetary structure has several distinct advantages over fiat money that makes cryptocurrencies fundamentally superior to all fiat money.

The current economic paradigm using fiat money creates a system in which transaction costs shall always be higher than those found within the bitcoin ecosystem. This is due to the costs that are associated with the creation, maintenance, and enforcement of laws within the fiat currency system that allows it to function. The privacy and anonymity functions of bitcoin allows for it to function as a money system, while not needing to pay for the legal structure, or enforcement cost of normal money systems.

What Creates Transaction Cost?

According to Ron Coase, who originally theorize about transaction costs in his work the Theory of the Firm, there are three types of transaction cost:

1) Search and information cost

2) Bargaining and decision cost

3) Policing and enforcement cost

These are features that all transactions have and are built into the cost of the transaction. For example you want to buy a loaf of bread, first you need to know where to buy bread (search and information cost). Then you need to decided what a reasonable cost is, and to see if you can get bread at that cost (bargaining and decision cost). And finally you need something to pay for that loaf of bread (policing and enforcement).

Now all three of the above features are ‘cost’ that are associated with any kind of exchange; legal or illegal. The largest key difference with illegal transactions is that third type of transaction cost (policing and enforcement) is replaced with evasion and extralegal cost.

Evasion cost substitutes the policing and enforcement cost. So if one wanted to avoid paying $25,000 in taxes, they could pay a lawyer $10,000 to save $25,000 in taxes. So part of the $25,000 is going towards paying the policing and enforcement cost, where as $10,000 is the alternative evasion cost that one can pay to assure they get away with their full $25,000. So if one pays the evasion cost of $10,000, they will save $15,000 in total.

This $15,000 is a special type of profit because it is derived directly from NOT paying the full transaction cost. This is called risk profit and is only experienced when one takes on evasion cost, or the cost of doing illegal business.

All transactions consists of the three above associated cost. What crypto-currencies offer is a fundamentally different paradigm for how to deal with legal and enforcement cost. Instead of needing violence to enforce the rules of the money system (like fiat money), bitcoin embeds ‘the legal system’ directly in cryptography, merging law and mathematics. This allows for an economy to be built directly on top of the non-aggression principal. Cryptocurrencies have no policing and enforcement cost whatsoever, which shall always create a lower transaction cost.

The Law and what it offers

Today, the law is what offers us financial protection within our current economic system. This is why you can challenge or dispute transactions that you do not recognize on your credit card or debit card. This is also why the Department of Homeland Security can seize your banking accounts and all of your money without notice. Both of these situations arise because of the laws that govern the current economic system. Though laws offer a distinct way of protecting actors within their economic system, and are sometimes of great necessity, it can also be at great expense to the general populous, and to the determent of the economy on a whole. Police stole more goods than all burglaries combine in 2014–if you haven’t already, it might be time to rethink the majesty of the law, and what it means to be governed.

Detriments of the Law

Utilizing laws as a bases to create an economy system has two distinct detriments: The cost that is needed to create and enforce laws, and biases of those involved in the legal system.

When we look at the cost of legal economic enforcement, we must look at all aspects of the law and the expenses associated with them. Breaking down these cost is almost impossible when we look at the breadth of lawsuits, permitting procedures, various licensing, taxation, and various government entities that are funded through taxation. These cost are rolled into all economic transactions that one does within a fiat economy, as the burden of police and enforcement cost are forced on to the consumer, producer, and the sum total of society. Thus, through simply having laws that must be enforced, the transaction cost associated with that money will increase.

Legal bias

Another hidden expense that comes from a economic legal system is the inherent bias that those involved within the legal and political system are going to have towards themselves. Or in another word, corruption.

Those who are closes to the centers of power are the ones that will benefit the most from the law, or the corruption of the laws. This is why the most profitable investment that can be made is lobbying. This is also why no criminal charges have been brought to those responsible for the 2008 financial crisis, no charges for the NSA spying scandal, and why the average congressperson is a millionaire. This is because of the corruption of the legal framework that they operate within and control, and the way that they allow for the corruption of the legal system to favor themselves and their cronies.

The corruption of our legal system is not an error, but occurs by design. Those who are closest to the centers of power are also the ones with the most agency within this system. They have varying degrees of control within the legal system that correlates with how close to the center of power they are. Thus, the closer to the center of power, the higher degree of agency they have within this legal system, which creates the conditions for manipulation and corruption of the legal system. This creates a two-tiered legal system in which those who are closer to the center of power shall have more economic opportunity than those more removed from it.

Over the last century, the corruption of the legal, economic, and political system has resulted in the economic state we are in today: a broken political system that is beholden to the interest of bankers, oligarchs, capitalist, and members of the legal system before all others. This not only is unethical and morally reprehensible, it is also very, very expensive.

Free Markets and Their Functions

People enter into economic agreements because they are just that: agreements. These are natural transactions that occur because of our own subjective interests for ourselves.  This is why we enter into social contracts in the first place; because we freely and naturally agree with the stipulations of the contract and proactively make the choice to be part of the contract. A transaction like this does not need anyone to enforce anything–both parties are willingly entering into a transaction because they both are getting something they desire from the transaction. Both actors have utilized free-choice to choose to enter into this agreement. This is the natural state of economic affairs, and there is no actual need for policing and enforcement cost in transactions that are entered into within free agreements. Thus, for voluntary agreements, there is not need to pay for policing and enforcement cost, which in turns creates a lower total transaction cost within a monetary system.

With bitcoin, people are making exchanges via the internet where there is no need for a legal enforcer to ensure that transactions are conducted fairly–that is what the bitcoin software does. Because of this feature–where bitcoin can allow for private individuals to preform economic transactions without needing a centralized enforcer–means that bitcoin does not have to pay policing and enforcement cost. This means that if we are to look at the economic cost of transactions within a monetary system, fiat currencies will always have a higher total transaction cost because of the need to pay for a policing and enforcement cost.

Conclusion

When observing any contemporary economy system we can see that there are three types of transaction cost: search and information cost, bargaining and decision cost, policing and enforcement cost. Because bitcoin uses software to create a secure form of money, there is no policing and enforcement cost that are associated with bitcoin. This means that when we look at the total transaction cost across an economy, an economy using bitcoin (or another digital currency) will always have a lower transaction cost than a fiat economy that must pay for policing and enforcement cost.

Next: Bitcoin and Liquidity Preference