The Economic Functions of Bitcoin

The economic functions of the bitcoin network causes it to behave like a central bank. This has a few effects: bitcoins (the payment unit) behave like stock due to the fixed, known supply of units being subject to open market operations. What happens when the market price of bitcoin changes is the velocity of bitcoin falls into disequilibrium until a new equilibrium is found. This is why the transaction volume of bitcoin its extraordinarily high during the bubble cycle, both on the way up, and on the way down. From this observation we can see the velocity of bitcoin also serves as the price finding mechanism for the immediate price of bitcoin. Before we dive in deeper, lets first take a look at how bitcoin acts as a private bank in the digital world.

Bitcoin: The Private Bank for The Digital World

If bitcoin was a private bank it would have the following maxim as its monetary policy:      

  • Whomever secures the Network shall be reward 50 bitcoin with each new block. This amount shall decrease by 1/2 every 210,000 blocks until it cannot be halved any longer.

This is the issuance of bit-coins, the currency unit, is made from the electrical energy spent mining bitcoins. We can see the monetary inflation schedule for bitcoin below. The supply of bitcoins is 100% totally fixed–the only way that new coins can be created is through solving a specific block, and the reward for that is drops every 4 years.  

bitcoin supply growth over time

bitcoin supply growth over time

In order to have a money system that needs no central authority, Satoshi made bitcoin based upon rules that are fixed and secured by the mining process. This allows for a system where all bitcoin units are known at all times, thus making the double spend problem solved.

trinityIf bitcoin is a central bank, it would have to solve the impossible trinity problem that all central banks face (except the U.S. but that is a different story). Bitcoin accomplished this by creating a computer program with an independent monetary policy that humans cannot interfere with. The block reward, how the competition for the block reward is done, and the fixed supply of units are all parts of the bitcoin program that cannot be changed.

Anyone with a bitcoin address can use bitcoin, and it is impossible to know who is controlling each address, so bitcoin must be freely exchangeable. This means that the ‘sacrifice’ that bitcoin has made in terms of the impossible trinity is that it has no fixed exchange rate–the market must find an exchange rate based upon bitcoin’s perceived value, and the number of units available to the market. This free flow of capital from any sources is what allows for bitcoin to have been worthless just a few years ago, and why it could be worth $10,000s per coin one day. The free flow of capital is what creates the total elasticity that bitcoin experiences. 

Bitcoin and Deflation

When economist have called bitcoin deflationary they are referring to its economic property of rising in value over time. This is due to the restricted supply of bitcoins while there is increasing demand for them. This is similar to how if you had bought Apple stock in 1980 during its IPO you would have paid $22 per share. Due to the restricted supply of Apple stock and the increase in demand, today it is valued at $520 per share–and that is after 3 splits.

apple price

You could say that Apple stock “deflated” in value.

This occurred while the supply of the stock (# of shares) of Apple increased–it inflated. On three different occasions Apple had their stock split increasing the total number of Apple stocks there were. Again, this is due to the dramatic increase in demand for the stock. This is the kind of deflation that Bitcoin is experiencing overall, despite the volatile ride bitcoin has had over the last few year.

Why Deflation Supposedly Bad

Deflation is bad according to modern monetary theorist who charade as economist because contemporary economies are based upon debt. Fractional reserve banking and debt cannot exist without one another, so when deflation happens, it happens to debt as well. This means the real value of debt becomes harder to service, which means defaults, and bankruptcy will increase. In 1931, Irving Fisher  presented his theory on debt-deflation, which explains this process in greater detail.

This kind of deflation does not happen with bitcoin. There is no need to service ‘debt-bitcoin’ with bitcoin, so debt deflation does not happen. If this were true, we would see a similar collapse in the velocity of bitcoin during deflationary episodes, but in fact we see the opposite. The velocity of bitcoin increases correlatively to the price change of bitcoin in the short-term.

The Price of bitcoin

The price of bitcoin is derived from the total utility of the bitcoin network. In otherwords, bitcoin’s value is specifically tied to how many people are in the network, how useful the network is, and what the perceived value of bitcoin is. This is similar to how Twitter and Facebook have created social value that has translated into real economic value; which is reflected in the stock price of both of these companies. Without their userbases, each one of these networks would be worthless. All networks have a hidden utility that translates into direct economic value. 

The value of bitcoin is based in part off of this network abstraction. In order for price discovery to happen individuals need to use their subjective preference to decide how much each bitcoin is worth, and how much the network itself is worth. This is how the general, long-term price levels for bitcoin are discovered.

The short-term price is discovered according to network externality, such as exchange failures, or political issues. An example would be how bitcoin is ‘more expensive’ in Argentina because of the high rate of inflation that the peso is experiencing. Another would be the dramatic drop in price, and then recovery after the Silk Road was shut down. These network externalities, unlike fiat money, causes for great volititly in the price because there is no goverment to fix the price of bitcoin; only the market. The price of bitcoin reponds to these events through change, which causes for the velocity of bitcoin to increase until a new equilibrium is found.

The Velocity of Bitcoin

Due to the fixed supply of bitcoin, the only way that the price can be adjusted is in one way: through exchange and transaction. This is why during the most volatile times of bitcoin, we see a higher transaction volume. This applies to both increases as well as decreases in the price. Due to the fixed supply of bitcoin, the only way someone can acquire bitcoins is to mine them, or to buy them. Thus if the price of bitcoin is to increase or decrease in ANY WAY, an exchange or transaction must take place for that value to be accounted into the market.

Conclusion

Bitcoin’s deflation is similar to a technology stock where individuals are making real gains though holding a risky asset while it grows. Because bitcoin has a fixed monetary supply that cannot be manipulated, the price of each bitcoin is determined through supply and demand mechanisms. This is reflected in the increase of the velocity of bitcoin. If bitcoin were facing true currency deflation, we would not see the velocity of money decrease.

Next: Gresham’s Law and Bitcoin

Why I’m bullish on Alt-coins

Did you know that bitcoin is not the only digital currency? There is also litecoin (LTC), Namecoin (NMC), and Peercoin (PPC) among dozens of others.  Some believe that these coins do little outside of what bitcoin has already done, so why should they have any value at all?

For the same reason that bitcoin has value:

These are all sound forms of money

Free markets and currency competition 

Despite the fact that the altcoins are much less known and much less disseminate than bitcoin they still have all of the same fundamental features that bitcoin has that makes it good money, and good storage of value. More important than any of the additional features that altcoins offer is they compete with bitcoin on a free market. This is what Austrian economist Friedrich von Hayek spoke of in his final treatise on money, “The Denationalization of Money.” He believe that in a world of free money currencies would be forced to compete with one another (similar to on the forex market) and the superior currencies would win out over less efficient currencies through free market mechanisms. What I took away from this is that there must be currency competition to compare and contrast currencies against one another, and to help mitigate against any disasters one currency could have, and also ensure that there is not a monopoly on digital currencies.

Bitcoin has the first to market advantage, which means many, many more people accept bitcoin than litecoin today, and more accept litecoin that peercoin. This is significant advantage bitcoin has over altcoins is because it is hard to convince people to use an alternative currency–particularly one that people cannot hold. But what about getting people using bitcoin to use altcoins? That seems like a much easier jump to make than from not using digital currencies to using altcoins.

So if bitcoin becomes successful (which it already is) there is little reason why altcoins would not also become successful. The biggest barrier today is simply getting more people to accept altcoins–and the more people that accept bitcoin, the more potential people there are that may accept altcoins. And because they also have fixed supplies, the more people that use altcoins, the more likely the price will increase. That seems to be what happened with the most recent spike in LTC volume when the price went over $9. This seems to have been caused by the influx of Chinese digital currency users that also caused for the recent rally on bitcoin.

Pushing Altcoins

With Altcoins being just as efficient as bitcoin in terms of their moneyness, there is a huge opportunity for someone to create a digital currency bank using one of these altcoins. The biggest advantage that one would have in do this would be market making, after purchasing a large supply of the available coins. Through offering support, and more importantly, having a sales team that shows businesses the direct advantages from using digital currencies, a company like this could do very well. The biggest question is will someone see this in any of the altcoins? Time will tell us.

Catastrophe Insurance 

Another reason that altcoins are could be successful is the possibility that the bitcoin network could somehow become compromised or enter into a full panic of confidence. If that were to happen, altcoins–being the quickest way to convert bitcoin to another currency, outside of selling directly for cash–would be the quickest alternative to flee to. One could also think of litecoin, and other altcoins as being a tool to diversify one’s digital currency holdings as well, to hedge against any sort of catastrophic disaster to bitcoin. The future is impossible to tell, and the more digital currencies there are in the world, the less likely it is that digital currencies on a whole will fail or be compromised.

In conclusion, I believe that altcoins will be successful because the technology is just as good as bitcoin, with a few significant improvements over bitcoin in some ways. Altcoins help strengthen the total digital currency network through offering competition between currencies, which helps create efficient, powerful currencies according to consumer preference.

Hayek’s Promise

In his final treatise on economics, titled “The Denationalization of Money” Fredrick Von Hayek wrote about his idea of what a world with ‘Free Money’ would look like. He believe that money that if money was independent of nation-states (like BTC) that it could fundamentally change the world for the better, and liberate people from the oppression and tyranny of the monopoly on money. He based these ideas off of some of the principals of Silvio Gesell–radical economist and anarchist. His principals were the bases of the ‘Worgl Miracle’ which essentially reversed the depression in the town of Wörgl, Austria in the 1930s. One of the concepts that Hayek wrote of based on these theories was the ‘Swiss ducat’ theory of how to operate a free-money bank in a fiat currency system. This is about the possible function of how a bank like this could work in the bitcoin economy.

This is not a bank for bitcoin, but a competitive economic mode that facilitates the purchasing power of different currencies and leverages them against one another using free-market principals. Essentially, these are bitcoins and alt-coins. They forces free-market functions on to the economy by allowing one currency to hedge against one another (BTC/LTC), and digital currencies against fiat currencies using their deflationary properties to their advantage.

How?

As the bank what I do is I sell shares, or ‘bits’ as I like to call them, at their current market value. So today, you come in and buy a share for $120–the market price of what bitcoin is trading at today. In exchange I offer you an IOU for 1 BTC, and you will pay this loan back over the course of however long you choose–here is the kicker–you pay back the loan in dollars at the amount that you paid for the IOU with 1% in USD.

What this does it it offers the same possibility as buying a home back in the 1980s. For example, my mother paid $68,000 for our family home in 1982–today it is worth $425,000. Now, if we are looking at only purchasing power we’ll see that the the house should only be worth $178,000. It is worth more because of the additional intrinsic value of the property, along with the limited, finite supply of property in this desired area.

The intrinsic value of real estate is defined as the net present value of all future net cash flows which are foregone by buying a piece of real estate instead of renting it in perpetuity. These cash flows would include rent, inflation, maintenance and property taxes
BTC is a more extreme case of this because unlike property, we can know the exact number of BTC in circulation, and how many more bitcoins will be added to the economy and when. We can use these facts to leverage Bitcoin’s future purchasing power against its purchasing power today.

The reason this can work is because of BTC deflationary effect of having a predictable, fixed supply, but has limitless economic capacity. When we look at the value over time for bitcoin, one can see that the long time span one looks at the more likely it is that bitcoins value will gain against fiat currencies. This is because of the fundamental functions of both Bitcoin and fiat currencies. Bitcoin has a fixed 21 million coins EVER. Fiat currencies can guarantee that over time, they will expand the money supply, mean that there will be MORE dollars at a later date no matter what. Currently the Fed has announced their plans to devalue the dollar by 33% over the next 20 years . Due to these facts, the longer of a time span that we look across, the more likely we are to see bitcoin gaining value against all fiat currencies.

Bitcoin’s USD value will increase as long as there is growth in the BTC economy outpaces the supply–and that supply is fix. We know that only 25 new coins can enter into circulation every 10 minutes. We also know what the approximate market value of those 25 new coins will be when they are introduced into the economy.

The purpose of the bank–to assume the risk for holding the assets that are Bitcoins. Furthermore, through watching the blockchain, the volume of transaction, and the velocity of transaction over time, and historic gains and losses over time, along with the knowledge of how many coins are in circulation, how many coins will be added in the future, means that we can have pretty good projections about whether the value of BTC is going to go up or down based on its real economic value, and not just speculation.

So how does it work?

You come in and we sell you an IOU for one bitcoin. This ‘bit’ is $120–the market value of bitcoin today. Over time, you repay that loan to me. For the sake of this, let us say $10 a month. So when May 2014 rolls around, you have paid off your IOU for the Bit, I give you your bitcoin in return. The difference is now that bitcoin is worth $500–which you paid $120 for one year ago. And the way that the bank profits is through assuming the risk of holding BTC in case the price ever does go down, and for whatever gains are taken, the bank will take 1%. So we get 0.01 of your bitcoin for holding it (our profit), and you win for taking out the IOU because your $120 IOU is now worth $495.

Furthermore, if upon the completion of the payment, or hell, even partial payment, one could ‘refinance’ their loan with The Bank. So because the bank is holding the BTC, we can refinance at the market value at the time of refinancing. So if you have paid 50% off of your IOU (so 6 months have passed–it’s DEC 2013) and now the value of BTC is say, $240. One could refi, and now as the bank I give you $240, and the 12 month cycle starts all over again. One is using the equity in their bitcoin and its deflationary nature to hedge against fiat inflation, and the lost of purchasing power of the dollar.

More importantly, is that we can build applications that create these financial instruments for automated, program-oriented banking. Similar to Bitcoin’s protocols, that means that no one can cheat at banking! If you lock yourself into a 12-month CD, the program application is what locks you in—not a person. The program can also have you pay a penalty to exit the deal, if you choose to do so, or other functions. And this is just one of many examples; there is a whole world of financial instruments that we can build that function off of programs that both yield profit and ensures security, safety, and most importantly, no one can cheat at it! This works because it functions on the same trust as bitcoin–trust in the programming and protocols that ensure no one is cheating at, or rigging the system for their gains and others losses through corruption.

These are simply my own thoughts and ideas, and I could be wrong about some of this. But please, tell me your thoughts on this and if my logic is correct. Because if I’m right, we are in for a radical new way of doing finance and commerce.

Next: The Revolution of Bitcoin Banking

The Intrinsic Value of Bitcoin

gold_mining_rocker_boxThere are several features that create the intrinsic value of bitcoin, but the primary one is its production cost. Bitcoin is a commodity money like gold, sliver, or copper which means that the energy cost to extract these raw materials creates their base value. The actual exchange between two people is totally subjective, as the subjective theory of value shows us, but we can assume that practically no one would sell their commodities for a price below what it cost them to extract the commodity. Today, the cost of mining bitcoin is getting to be quite difficult, which is part of the reason for the increase in price we have seen.

The Base Value of Bitcoin

Let us take a moment to think about how mining for bitcoin is similar to mining for gold. If you go into your backyard and try to see how much gold you are going to find, you’ll probably come away empty handed. That’s because you are using a pick and shovel, and it is no longer the 1850s–someone else got that gold (if it was there) long ago.

That just like how bitcoin mining is today–well more like 95 years ago when gold was about $20 to the ounce. Check and see how many bitcoins you could make with this mining calculator. Most likely it’s not a lot. This is because just like with gold mining, someone developed a better way to mine for bitcoins, making mining with a normal computer unprofitable today. This is because the newest bitcoin miners use energy more efficiently to mine bitcoin.

Keep in mind that the commodity value is just the base amount–that is just the production cost. Bitcoin, like gold, is a special commodity–it’s a commodity AND money at the same time. These special commodities are appropriately called commodity money. Commodity monies are special in that they have an inherent value by being a commodity, but because of their traits, they make great money too.

It is this secondary value of being good form of money that creates the secondary social value of bitcoin and other commodity monies. It is both the production cost of bitcoin, along with the properties of good money that it exudes which creates the total value of bitcoin.

Commodity money creates a secondary value as a mode of exchange through the base production value. It is because of this trait of being made from a real commodity that commodity-monies can ‘bootstrap’ their way into becoming a mode of exchange. Once this happens it allows for market mechanisms to decide on the price of the commodity money beyond its production value. This is how commodity monies become more than just commodities, and become modes of exchanges and in some cases a storage of wealth. This is why gold became the most sought after commodity during the mercantilism era: it met the four qualities of good money better than any other object in the world, and was by far the best storage of wealth. This was not because it was shinny, but because it was incredibly rare. This is also why gold and silver have 3,000 years of history as being used as money and a storage of wealth–due to the intrinsic qualities they hold because of their scarcity.

The Value of Fiat Money

Where Fiat money eventually ends up: An arm full of Zimbabwe money that is worth nothing.

So than why is fiat money valued at all? Fiat currencies are not independent, nor is there any value contained in the money itself–it’s just paper. So how do these worthless pieces of paper have value?

Through the governments guarantee that it will accept fiat currency as legal tender, and that all transactions within its economy will meet this basic minimum standard of the law. This is what allows the government to bring violence to anyone who challenges the legitimacy of government’s monopoly on money. The power of fiat money is derived from the government’s legitimacy–that is why they can just make new money up out of thin air.

Statists argue that seigniorage from the state is not only needed, but is desired. For the State is the law, and the law is a means to an end in itself–that is why the state has the legitimacy of violence to decide if a person deserves to live or die. It is through this power of that the State can redistribute, protect, or harm their own citizens–for the benefit of all, or for a few. It is from this base of power that states create the laws to conduct economic transactions within their sphere of influence. This is why fiat money is only valid within particular nation-states own sphere of influence, and not that of other nation-states.

Philosophy of Value

The intrinsic value of bitcoin far beyond its commodity value. What creates its real value is the mathematical assurance that the bitcoin ecosystem cannot be predicated upon force, unlike fiat money. This is because of the cryptography that bitcoin is built on top of allow for two very distinct things:

For this to work, a robber would need to know all of the wallets that you have, and the amounts you have in them.

1. It assures that the vast majority of transactions within the bitcoin economy are based upon voluntary participation, which in turn ensures:

2. Almost all transactions must be non-violent, unlike state-based currencies, where the legitimacy of the currency comes from the state’s ability to bring violence to you for not complying with their laws or legal structure.

These qualities result from the privacy function of Bitcoin. Privacy, within the context of an economy is what allows for a fair, voluntary economic system to be created. Bitcoin exchanges ‘the protection’ of the law, for the mathematical assurance of cryptography.

Bitcoin has made a new economy in which the categorical imperative is not the law; but privacy. We prefer to have no laws, because privacy allows for us to build the voluntarily social contracts without the threat of violence from the state, or anyone else because our true identities are unknown. We understand voluntary transactions ultimately lead to a lower transaction cost for both parties because policing and enforcement does not have to be paid for.

Conclusion

In another age, fiat currencies and national governments were tools that we needed to evolve technologically. This economic mode was an excellent model for the growth and development of an advanced industrialized society, and all that came with it. Today however, both national governments and fiat currencies are anachronism that keeps greater humanity from advancing itself to its next stage of societal evolution: Anarchism.

Next: Understanding The Economic Functions of Bitcoin

Bitcoin and Liquidity Preference

“Why would anyone outside of a lunatic asylum want to hold money? What an insane use to put it! For it is a recognized characteristic of money as a store of wealth that it is barren; whereas practically every other form of storing wealth yields some interest or profit. “ –John Maynard Keynes

This is how Keynes understood the functions of money. He believed that individuals should be self-interested enough to want to maximize the utility of money. Keynes believe that ‘the public’ held money for three purposes:

  • to have on hand for ordinary transactions
  • to keep as a precaution against extraordinary expenses
  • to use for speculative purposes.

This is called liquid preference, and it is the idea that we would rather have a dollar that can purchase anything now, in our hands (as it is the official mode of exchange and legal tender), than to have a bar of gold that is subject to storage fees, a house that is deteriorating, or food that is rotting. Because physical items that are subject to physical decay cannot be immediately exchanged as money can, everything become more illquid than money. The more illiquid something is, the more ‘risk’ that is taken on in holding it; which creates the need for a higher dividend yield, or ROI for holding that object when comparing it to money today. This preference for money today is due to the special properties of liquidity that money has. When two monies are compared side by side, Gresham’s law take effect, with the bad money driving out the good.

In order to understand how bitcoin operates as a payment system, we must first understand how governments created money. This is a very long and esoteric topic which I explain in some detail in bitcoin and the history of money. Essentially over the course of several centuries, governments have changed money (i.e legal tender) from being backed by commodities, like land, gold, or silver; to being backed by nothing except for their own legal force (which is why you cannot exchange your dollar for gold or bitcoin down at the bank). This allows for governments to augment the money supply to attempt to change the velocity of money–this is the equivalently of change exactly how much more ‘liquid’ legal tender is, then any other commodity.

So how is bitcoin different? Well, Bitcoin is not money

Bitcoin is a commodity money. 

Bitcoin’s intrinsic value is derived from its ability to act as money, while still having an independent commodity value.

So in reality, bitcoin is not a ‘money’ in the most traditional sense of the word–it is not recognized as being an official form of legal tender, nor is it created in the same way that money is created by the state. What this means is that if bitcoin is not created by any state entity as a legal tender, then it must be a classic form of money: commodity money. This is something like gold, silver, bushels of wheat, cigarettes–really anything you can imagine, it just has to be something that is of value to society, and is plentiful enough to be readily exchanged, while still being divisible, portable, and difficult to counterfeit.

What happens when we understand bitcoin from Keynes perspective (that money is a barren storage of value)? We can see that his statement is true–but then, why is bitcoin worth something? Because again, bitcoin is not money–it is a commodity that acts like money. This means that the whole payment network of bitcoin while still working, acting, and functioning like money, it distinctly is not money.

Bitcoin is a commodity which is used primarily as storage of value that is readily exchangeable–more so than any other form of legal tender, or commodity-money that has ever existed. What happens when we do a side-by-side comparison of bitcoin-as-money, against all other forms of money, is that bitcoin will always be a superior form of money. Always.

Bitcoin flips the idea of liquidity preference on its head because bitcoin not technically money–it is a commodity-money with a built in payment system. Bitcoin has all of the features of sound money, with the extra twist of living on the internet, which inherently makes it superior to all forms of legal money. Over time, as people come to know and understand, how and why bitcoin is a better form of money, people will start abandoning fiat money causing for both hyperinflation and hyperbitcoinization.

Next: Bitcoin’s Creative Destruction

The Political Fork

There is going to be another fork with bitcoin, and it is going to be odd and obscure–as politics always is. The fork is not one that is chose by the community, but rather is something that will be forced upon them. This is how government regulation within the bitcoin community on a whole will be preformed. I believe that over the next few year we will see a large national security apparatus that will start ‘mapping’ bitcoin addresses, where they are associated, and with whom they are associate with.

We are already seeing the Bitcoin Foundation leading the charge into regulation.  As much as I would like to think that regulation could be a good thing, I simply cannot believe it when it is coming from a government whose actions can only be defined by that of a tyrant. I believe that a deal shall be struck with the devil that allows for bitcoin to be used for commerce, but there will be a tax at the point of purchase, along with some sort of ‘logging’ of what  bitcoin address it may come from. This will then be used to create a map of the bitcoin ecosystem to go after larger tax resisters, and operations like the Silk Road.

We must take into consideration that these companies are already sharing data and executives with the government spy agencies. Palantir Intelligence, which seems to have had a hand in building PRISM, is funded by and has several ex-PayPal executives at it. This is on top of several of the major tech giants already sharing untold amounts of data with the NSA–for us to believe that the government would not try to map bitcoin and rob it of its privacy capabilities is silly. They will try to map it, and they will most likely be successful.

I believe that this will lead to a sort of political forking. I think the most viable solution would be for the creation of Zerocoin alt currency that people could simply mix into, but there could also be an evolution of more sophisticated mixing services, similar to the one on BlockChain.info.  Anyway about it, I do not suspect that this cat and mouse game with the government and crypto-anarchists will end simply–I think that this is the start of a very sophisticated game of building a better internet, and currency on top of privacy that is assured by math, and not the political promises of corrupt men.

A Bit of Math: The Equation of Freedom

John gray is a premier political philosopher, and formerly a lecture at the London School of Economics. His erroneous essay on Bitcoin deserves a philosophical reply. In the following I will refute John Gray’s assertions on the functions of money and benevolence of the state, in addition to displaying that he speaks from a place of anointed authority with a misunderstand of what the concepts of digital freedom and liberty mean. It is my hope that through refuting John Gray that I can offer a framework for understanding the maxims of Digital Freedom and thus digital currencies themselves.

In his essay, John Gray States:

“While the policies that were adopted in the wake of the financial crash may have saved the world from a rerun of the 1930s, they also mean that money is steadily losing its value as a store of wealth. With near-zero interest rates, small savers are robbed as surely as they would have been if the original Cypriot plan had been implemented, just more slowly.”

A Golden Dawn, the neo-nazi part of Greece, having a rally.

His error is in assuming that crisis has been averted.  It is clear when looking at the big picture over the last five years, we can see that crisis has not been averted, but rather it has been mitigated for the current point in time. The Bank of England’s Governor stated that he believe that the current depression is worse than the Great Depression of the 1930s, and the data supports this. Greece unemployment is greater than the U.S. had at the peak of the great depression, and they also in the 6th year of their Great Depression. It is no wonder that just like in the early 1930s that we are seeing the rise of Fascism in Europe again with Gold Dawn–the Neo-Nazi Party of Greece–which is now the third largest party in Greece.

Many other European states are not fairing much better. Italy is clearly floundering, with a -2.4% economic growth for 2012, bail-out being likely in the next 6 months, and having their prime minister convicted of tax evasion, and then evading even the very ruling banning him from politics–corruption is an issue that cannot be understated. This is also an issue in Spain where the prime minister and his People’s Party are under fire for allegedly accepting cash payments from construction firms. This is on top of the economy having a projected unemployment of above 25% until 2018, the largest protest ever for an independent Catalonia, and 20% of the economy going black. Let me remind you that this is a nation that tore itself apart in a civil war during the 1930s because of economic problems, it is not fantastical to think that it could happen again.

Perhaps the only accurate part of this statement is that money is steadily losing it’s value. This is due to the policies of Japan, The U.S., and The E.U. all engaging in ‘quantitative easing,’ which is a sophisticated word for expanding the money supply. Japan is trying to double their money supply to achieve a rate of 2% inflation ‘as soon as possible,’ and the U.S. has tripled their money supply since 2008. This may have helped combat the obvious deflationary forces that have been present since 2008, but this is akin to jumping out of the frying pan only to find yourself in the fire later on. I believe that we will see stagflation starting 2016, and with the global economy already doing this poor, it shall create massive political pressure that will go unheard again.

Moving forward, let’s look at more of the erroneous statements of Mr. Gray:

“The currency has been criticized as a tool of speculators and money-laundering and its value has oscillated wildly as a result of hacking.”

This is an assumption that should display Mr. Gray’s rudimentary knowledge of how Bitcoin and the internet functions. It has not been ‘hacking’ itself that has caused for the volatility of bitcoin prices, it is simply with the market growing and trying to establish itself. Some of the major bitcoin heist did temporarily effect the price, but to believe that it is the cause of volatility would be inaccurate.  When you have such a small pool of wealth that is being dealt with (the market cap today is around $1.1 billion total–not just in circulation), it means that any shift of more than a few $100,000 is going to move the market quite a bit.  If you moved more than $10 million into any currency on the ForEx market it would not even be noticeable–it would be a drop into the financial ocean.

Later in his essay Mr. Gray displays his lack of understand about the functions of the internet:

“[Cyberspace is] a site of unceasing warfare – abounding in worms and viruses, vulnerable to attack and decay, and needing scarce resources and energy to operate – the virtual realm of the internet is a projection of the human world with all its conflicts.”

His whimsical notions of how cyberspace functions should be more than enough to inform us that he does not understand how the internet works. First, war is an act of violence in its totality–violence simple cannot exist on the internet. Period.  Calling viruses, worms, and hacking ‘warfare’ is a disservice to those that have died under the bludgeon of warfare, and creates a fundamental misunderstanding of what is occurring–violence is not one of them. Through allowing this ignorant idea that ‘war’ exist on the internet, Mr. Gray has endorsed the violence that the state brings to people like Pvt. Manning and Edward Snowden who have done no actions of violence whatsoever.

The internet in itself is a place of intangibility and human expression–that is the bases for the very code the the internet is written upon, and the functions that the internet carries out. Ideas, intangibilities, concepts, exchanges of information, and knowledge–that is what the internet is in all of its forms–nothing more and nothing less.  It is from this very place that programmers of the 21st century have found themselves asking the same questions as the legal philosophers of the 16th century–in a very different light however.

The freedom of the internet is derived from the freedom of actions which one can do on the internet through the functions of the code that one is using–the code itself is a tool, a tool to help create these expressions and communications over the internet. Programs based upon this same form of logic that philosophers are subject to, hence why it is called logic. It is not surprising then to discover that with the building of the foundation of the internet that small community of cypherpunks found themselves discussing  principals and values like freedom, privacy, and sovereignty.

It was from these discussions that the question of assurance came up: How can we be assured that our privacy is safe? We cannot trust someone else with our privacy, or else it would not be private, so how to we negotiate that? The answer to this question was math. Mathematics offer us statistically assurances that if we are to use a cryptosystem, such as a PGP key, or Bitcoin, that the statistic capability to break hash function is very, very, if not impossible hard to do. Thus, we arrive at a system of privacy that offers the mathematical assurance of privacy–not the lies of men sworn to protect these privacies. Armed with this knowledge, this same community that was just a bunch of ‘punks’ became the vanguard of the internet privacy and freedom.

From their deep thoughts to the question of liberty and government violations of that that The Declaration of Independence of Cyberspace came from. It was clear almost 20 years ago that the Internet was too powerful for megalomaniacs of governments to let it be. It was also clear that the defense of the internet was going to be needed and it is for the same reason that the Electronic Freedom Foundation was founded. Even back in 1995 it was clear that the freedom of the internet could not co-exist with the oppressive governments of the world–either the internet would be free along with the world it connects to, or it would be limited, choked, and exist only at the whims of those in the halls of power–just as our societies exist today. With the true extent of NSA spying today still unknown, I believe it is clear to see who is winning. As nation-states are clamping down on the freedom of their citizens and the internet across the globe, people are finding solidarity within that principal itself: The freedom of the Internet.

As a man that has called himself as a liberal, it is sickening to here such dribble as this be written from any man that calls himself a scholar:

“[Crypto-anarchy is] a philosophy that shares the fatal illusion of anarchism in all its varieties, the notion that most human beings actually want freedom from government. Invading personal freedom in times of crisis isn’t always unpopular – far from it. Not only during the 20th Century but throughout history, human beings have turned to governments, and often to tyrants, for protection and security. The safety they are looking for may be just a mirage. That hasn’t stopped them wanting it.”

I am shocked and horrified to hear a scholar advocate for the tyranny of governments–popular or not.  Simply because Adolf Hitler and Benito Mussolini came to power through legitimate means and because a majority of citizens would willing have other citizens taken to the gallows for false promises of liberty does not excuse such actions in any way, shape, or form. Totalitarianism, Fascism, and Authoritarianism all have a deep and powerful appeal, particularly in times of great uncertainty. It is akin to the power of having Demi-God come to you and say, “Give me the power to kill and work outside of the bounds of the law–for I shall give you peace in our time.”  It was these very feelings that caused for the the untold deaths of tens of millions of innocents during World War II–a horror that we cannot, must not, and shall not ever experience again.

What men like John Gray and his masters do not realize is that this is the beginning of the final push for a global liberated single humanity. Those that are Digital Natives understand the power of the internet and how it has, and shall continue to change the world. Digital Natives see how much closer we are to one another than we are to the elites that run run own respective nation.  Our counterparts in Greece, Egypt, China, and the world over, that are struggling with the political oppression in their nation is the same struggle as our own. They are our brothers and sisters of the world, and fellow citizens of Cyberspace. It is with them, not the John Gray’s of the world that we shall find liberty together.

He concluded his essay with the following statement:

“Whatever happens, this will surely not be the last attempt to find freedom in cyberspace. While the freedom Bitcoin promises is an illusion, it’s one that will always have a grip on the human mind – the dream of finding some kind of talisman, a benevolent tyrant or a magical new technology, that can shelter us from power and crime and protect us from each other.”

It is tragic to see that Mr. Gray understand the human heart’s most basic yearning to find freedom, yet refuses to acknowledge that technology may have brought this within our grasp. I believe that this is where there is a fundamental difference in the world view of my generation and his generation.  To take from the Declaration of Independence of Cyberspace:

“You are terrified of your own children, since they are natives in a world where you will always be immigrants. Because you fear them, you entrust your bureaucracies with the parental responsibilities you are too cowardly to confront yourselves. In our world, all the sentiments and expressions of humanity, from the debasing to the angelic, are parts of a seamless whole, the global conversation of bits. We cannot separate the air that chokes from the air upon which wings beat.”

We have moved into a world where those who hold economic and political power do not understand that which we are creating together in the Great Common known as Cyberspace, and so they seek to destroy the freedom we have created here. Because they do not understand us they have sent swarms of regulators to eat out our substance and subjugate us to laws that far outside of our jurisdiction. Because of their own stupidity and certainty of that stupidity that they have doomed themselves to fighting a war which they cannot win.

That is a war with freedom itself. This is not the glistening banner of shinny, pretty freedom that American politicians speak of, but true, unadulterated, messy, freedom. The freedom that is not just a promise, but a rule. One that is blind and unbiased, that functions from maxims and not opinions, and is of rules, not rhetoric. It is from this idea of advancing economic freedom from a categorical imperative that we are able to see the power of the federated cryptosystem that Bitcoin is.

Bitcoin, Bootstrapping, and the Black Market

One of the most powerful features of bitcoin is that it is a simple, and unbiased money.  When I say unbiased, what I mean is that bitcoin is owned by no one, and favors no one state over another–it’s not American money, European money, or Chinese money–it’s just money.

The independence of money is directly linked to the independence of commerce, so when you have a 100% free, uncontrolled money, that means that any and all forms of commerce can be undertaken.  This is everything from the angelic to the satanic–from being able to send activist funds behind authoritarian lines to be used for life-saving medical treatments, to purchasing drugs or other nefarious items–bitcoin includes all of these transactions because it is a non-discriminator money. It does not need the approval of the powers that be in order to work–two parties that want to do an economic transaction is all that is need for bitcoin to work. This is critical to understanding how the bitcoin market managed to bootstrap itself passed a fun hacker currency and into the real world of finance, economics, and commerce.

Black market bootstrapping

One of the questions that has been discussed little is how? How did some anonymous hacker’s pipe dream of a crazy, digital currency living on the web and protect by sophisticated cryptographic algorithms come to fruition? Well, outside of being a very sound mode of exchange, bitcoin can do transactions that very, very few other monies can do at this point in time–create a (almost) totally anonymous transactions between two private parties online. This allows for bitcoin (and other digital currencies) to build markets where others could not do so because of authoritarian restrictions.

It is with this niche area of service (illegal products and services) that bitcoin managed to bootstrap its way from being a play currency to being a real currency. It is specifically the ability to facilitate commerce that could not occur otherwise, or would be very difficult to occur. And thus, because commerce can occur with it, and two or more parties are willing to accept it, it becomes a currency.

Lets think about this for a minute–so bitcoin bootstrapped itself beyond, well nothing, into currency by facilitating black market transactions. Furthermore, the value of bitcoin increased because it was recognized that bitcoin could facilitate the transactions very well, safely, and anonymously. Who else, other than drug dealers could use this?

Well anyone in System D (the unregulated markets of the world) could use bitcoin.  Jon Matonis, the director of the Bitcoin Foundation wrote a great article on bitcoin and what it can offer for those in System D. I would go one step further and even suggest that in the same way that then first black markets of bitcoin (Silkroad) bootstrapped bitcoin towards more acceptance, it’s use within System D will help bootstrap it towards global acceptance.

It is going to be very interesting to see how bitcoin is going to break into developing markets. I personally hope that we will see an adoption curve similar to that of M-Pesa, The Kenyan mobile currency. Having started only in 2007, more than 30% of all commerice is done through Kenyan cell phones! With huge portions of the population being able to easily and quickly adopt bitcoin, I see a bright future for it and the developing world.

Theory of Digital Currencies

It is obvious to me and many of my peers that contemporary models of economics simply do not apply to the brave new world that we are entering into.  With the advent non-state currencies that are based upon decentralized, federated protocols that are guaranteed by cryptography, math, and privacy, we need a new economic paradigm to move forward. In this blog I will attempt to build a theory of digital currencies that can explain their functions and rise within a global economic system of state-based currencies.

Ultimately, it is my hope to thoroughly explain on a economic level the failures of state-based currencies, and the solutions that digital currencies offer. It is also my hope to start a philosophical dialog about economic liberty, what it means in the world of today, and what sort of moral, ethical, and societal expectation come with economic freedom. It is my hope that this will help explain the horrible distorting mechanism of state involvement in economies that entirely destroys the concept of a free market and replaces it with some notion of national socialism.

Please feel free to leave respectful comments and critiques on any theory that I may present in this blog.