18 January 2016

A Bit of a Problem

Overture:
If you like what OPEC means for oil prices, you'd love what the gold standard would do to financial markets.
-- Michael Feroli/2011

Well, Bitcoin is back in the news, and not, it seems, in a pleasant way. (There was a time, perhaps still is, when bitcoin was called the new gold.)

For those who've read history, 19th America was a 100 years' war, of sorts. Those with wealth waged war on those without it. Deflation/depression/panics were the order of the day. The country was in one most of the time. Those who had specie liked that, since they got a "return" on their positions without any investment risk. What could be better? And some wonder why I've concluded that the same motive and incentive™ exists with today's cash holders: corporations, hedgies, and 1% individuals. The Giant Pool of Money is still out there, and growing. Really new innovation in the consumer arena (the only one that matters, supply side ideation notwithstanding) is stalling out. Not least because battery chemistry has run up against the limits of the periodic table. A really Godzilla depression is the holders' best chance of risk-free return. American housing didn't work out so well.

So, here's why bitcoin is worse than gold:
Like many of the programmers who took an early interest, Mr. Hearn admired the rule-bound nature of the system. Only 21 million Bitcoins would ever be created. And the distribution of new Bitcoins was clearly laid out, relying on mathematical algorithms that left no room for human meddling.

Two points to keep in mind:
1) with a strict limit on the number of "specie" in circulation, deflation in prices has to result with any level of expansion of an economy -- this is the 19th century experience
2) bitcoin, by design, is a pyramid scheme

OK, 2) isn't obvious. The fundamental meme of a pyramid scheme is two points:
1) first entrants get (nearly) all profits
2) late entrants bear (nearly) infinite cost

That's bitcoin in a nutshell. The mining of bitcoin is, by (not necessarily intentional) design, more expensive for each succeeding unit, so that the first 100 bitcoin were orders of magnitude cheaper to acquire than the next 100 from today.
According to my calculation, a single Bitcoin transaction uses roughly enough electricity to power 1.57 American households for a day.
...
The Bitcoin protocol will continue to increase the difficulty of the cryptopuzzles to keep rewards constant, continuing the arms race until the last block is mined.

That's a pyramid scheme.

Now, the current report deals with enabling cheaper mining and network management. Needless to point out: the early entrants who got their bitcoin on the cheap don't want to lower the cost today; that's giving away the farm. And, needless to continue, the point of a specie currency is that it levels the field for all participants. And, of course, the incumbents retaliated against the liberators (bitcoin XT).

When that last bitcoin is mined, not in our lifetimes,
But since the last Bitcoin block is projected to be mined around the year 2140, adopting Bitcoin as a major (or world) currency anytime in the next few decades would just exacerbate anthropogenic climate change by needlessly increasing electricity consumption until it's too late.
life won't be so nice. Given the restriction, so far, on coinage rate and the increasing cost of mining, bitcoin may both drive deflation (should it ever gain specie status, and long before coinage exhaustion since new bitcoin approach infinite cost soon) and end the global warming problem by consuming all electricity. Ain't capitalism grand?

3 comments:

jangorecki said...

You are making conclusions to fast.
Did you know that Hearn works for R3CEV (42 biggest banks) since 2015 and his blog post shared on mainstream media was arranged? see https://www.youtube.com/watch?v=R0iArSIU0Z8&feature=youtu.be&t=47m16s
Bitcoin is way smaller pyramid scheme than fiat currencies are. In fact comparing to fiat pyramid it looks like a gold.
As for me, the more options people have the more competitive currency market must be. Bitcoin is just a first step into new capabilities given by blockchain. I recommend to look at bitcoin as for an IT-crypto project (repo, evolution, mailing list), which it is, to have much different perspective.

Robert Young said...

-- Bitcoin is way smaller pyramid scheme than fiat currencies are.

fiat currencies, and all today are, aren't by design pyramid schemes. to the contrary, the "ruinous inflation" always blamed on such currencies is the exact opposite of a pyramid: early adopters loose and late adopters win. one might argue the governments which issue such currencies sort of win, since they "print" as much as they need. but the episodes of hyper-inflation recorded in history demonstrate that the underlying economic problem motivating the "printing" had little or nothing to do with government. usually some economic catastrophe.

currencies have two purposes: simplify trade and be a store of value, so called. it really is a "unit" of value, which is stable enough that the number of units to buy a pound carrots doesn't change in short to medium term. the libertarian cult, aka goldbugs, only view the latter and narrowly; assuming that the specie, aka gold, is intrinsically valued. bitcoin is a store of profit, not value, to early adopters. just as individual prospectors lost during gold rushes, so too individual bitcoin miners today. those gold miners could have been doing something constructive/productive, like farming or trapping or manufacturing or cosmetology. instead, their time and resources were wasted digging for a metal of dubious productive value. so, too, today with the resources, human and otherwise, wasted on bitcoin.

remember Gresham's Law: bad money drives out good. only if all traders use only one form of specie will the gig work. any that "peg" a currency to specie are free to re-value that peg at will. in due time specie becomes irrelevant. and since both gold and bitcoin can't expand in quantity, only the early holders/adopters make a gain on holding, since increasing commerce with a fixed store of specie must lead to deflation in aggregate prices to meet the fixed store of specie. the holders can buy more carrots/unit tomorrow than today. that's a real pyramid scheme.

jangorecki said...

Fiat "ruinous inflation"? not really, early adopters loose, later adopters loose. You should not look at the inflation in a point in time but in a period. Everybody loose except the people who prints and people that work around them. If you look at inflation, you should also include import and export of inflation worldwide.
The story of an "unfair vs early adopters" - this kind of story is pretty old already. You can read the discussion boards on bitcointalk from late 2011 where people claims it is unfair because they have missed to be early adopters for which mining was easier. Highest price in 2011 was 16 USD. The story is valid every year, every time bitcoin hits mainstream, and it will be valid as long as life cycle of bitcoin, which will eventually be replaced by better product. I don't think it will happen sooner than solution to fiat problem.
Some people are saying the resources were invested, not wasted.

The good think with bitcoin is that if it fails on something you can just switch to fork which eventually solves the problem. As the proposed Mike Hearn's Bitcoin XT project. Bitcoin XT failed because solution for block size which was proposed was really mediocre. Community choose to stay with Bitcoin, a not Bitcoin XT. Mainstream media simply manufacture consent from the fact that Bitcoin XT failed.