- Re: Bitcoin Bubble 2.0 by Patrik Korda
- The classification and the future of Bitcoin (another Re: Patrik Korda)
- Is Bitcoin a money substitute?
Korda made it to the Mises.org daily, and he presented a couple of comments at the bottom of my post
This is an attempt to address the outstanding points, in a more direct, quote by quote, manner, so it's not really a full blown article with a beginning and a conclusion. I just want to have the points sorted out.
"I believe that bitcoins are a lose-lose proposition for libertarian minded people going forward."So what will people use to reduce their transaction costs of trade instead? Will people switch from the internet to the post office and library?
"Jeff Garzik stated that (1) bitcoins were either a bubble that will collapse or (2) bitcoins were coming up to the level at which they would trade as a worldwide digital currency, this was his response to the dramatic price increase at the time. In retrospect, bitcoin did in fact turn out to be a bubble."Korda seems to ascribe the argument of Garzik too much power. He has yet to explain why the bubble is relevant. The relevance of the bubble is only for people who use Bitcoin for speculative purposes. People who use it for a reduction of transaction costs are unaffected, to the extent that the remaining prices still allow trade. Similarly, the tulip bubble was relevant for people who speculated on the tulips. But last time I checked, tulips still exist and are regularly bought and sold. In addition to that, there has been a lot of investment into Bitcoin projects, and these have nothing to do with the changes in price. I don't think there have been comparable investment into tulip infrastructure, and tulips do not decrease transaction costs, so there is no need to hold them for transactional purposes. In fact, we already did have a spike and a following crash in the prices of Bitcoin, in 2011. Yet, the market share grew irrespective of this development, and so did investment, the variety of goods and services related to Bitcoin. So the relevance of the argument is directly contradicted by empirical evidence.
"How could this be bad for libertarians? The answer to this question was also addressed by Jeff Garzik in the interview I posted in my article. Most consumers are not libertarians."But many, if not all, consumers have liquid assets, such as money, and can recognise the benefit in decreasing transaction costs. Similarly as you don't need to be a geek to want to use the internet.
"With mainstream acceptance comes mainstream policy, which includes registration of the exchanges as money service businesses, regulation, fraud insurance, and higher fees to pay for all of this."The exchanges already have long been subject to MSB regulations. But Bitcoin does not need exchanges to work. Even during communism with high capital controls, illegal forex brokers were quite present. Currently, we see the situation in countries Argentina and Iran.
"I simply do not attribute as much weight to the network effect nor as much rationality to the market process as you do."Wait a minute. Now this is a turn in 180 degrees. If there is no network effect, then there is no demand for a new competitor in the first place.
"Nor does it always follow that a product which overtakes another has to be superior in some fashion or another. Standard economic theory would lead one to believe a competitor can win out by either offering a superior product or a lower price. However, there are times when offering what is virtually the same product but at a higher price is the right strategy, as Charlie Munger would point out."In network effect, the "lower price" manifests itself as transaction costs, because the object is a tool, not a consumption good. It is used indirectly. What is the price of a language? What is the price of the internet? There is none. There are costs associated with using them, and benefits that are accessible through their use. In network effect, the transaction costs in the narrower sense can be compensated against by the network size, and if the transaction cost difference is small, the relative market share size can be permanent.
"The classic example of this is red bull, which used to come in large cans and sell for the same price it does today. Another example would be facebook, which is generally more clean-cut and does not allow as much personalization as does myspace."Korda now himself admitted that there can be differences, and these might cause a switch, whereas before he argued that the switch can happen without an apparent reason. Of course, something like this could happen with Bitcoin. A new competitor can provide something different, which the users of Bitcoin consider relevant, and which Bitcoin can't mimick. But the chances of this happening are not very high. Bitcoin is open source, available for anyone without restriction, and its feature set can be enhanced long before the competitor starts gaining market share. If we do a bit of research on Xanga, we find out for example that they were found to be violating "Children's Online Privacy Protection Act". In addition to paying a penalty, they were then subjected to monitoring by the FTC. If we do a bit of research on myspace, we find out for example that their system didn't scale, wasn't able to grow outside of US, made problematic decisions with respect to marketing and so on. I don't know which of these factors is relevant, but clearly there were a lot of differences and many of them could have been relevant.
"People typically do not have an incentive to make up their own language out of nowhere. On the other hand, there has since time immemorial been a great incentive for alchemy."I already commented on this one in the mises.org comment section. This argument is a variant of the labour theory of value, i.e. it misses the demand part. Merely because people invest a lot of money into creating something, it does not follow that this creates demand for it. Indeed, the more people start their own competing projects in the area of network effect, the less likely it will be that any of them will reach significant market penetration, and the costs would be more distributed as well. Now, if someone started a single, big project, with the idea to overcome Bitcoin, and invested billions of dollars into its development, integration, promotion, and so on, that might work. But that would then raise the bar even higher for a subsequent challenger, requiring him to spend even more money. While there is no barrier to entry, there is a barrier to be able to reasonably compete. The network size is also a relevant factor, that gives preference if no relevant distinguishing (technical) factor is present.
"This is the primary reason why people, such as myself, have piled into litecoins earlier this month. I banked on my parable."However, this exactly proves my point. The relevant factor for market share of Bitcoin is liquidity, not price. Investment into LTC infrastructure, good and services is still much smaller than that of Bitcoin, even if Mt. Gox opens a LTC market. Korda probably spent too much time on stock exchanges and too little in the payments industry.
"Moreover there are always, and I mean always, unforeseen complications. The most recent one as far as bitcoin is concerned are the so-called forks."This is probably not apparent for the majority of observers, but the ability to fork are actually good, because they provide a method for resolving problems that arise.
"I believe that digital token money may very well have a big future, but that doesn’t mean bitcoins cannot go the way of xanga. Contrary to the network effect, the fact that bitcoins were first may very well be a detriment. If something major goes wrong, rationally or irrationally, people will switch over to a competitor, even if that competitor may be inferior or nearly identical with little to no improvements."This is now again an entirely opposite argument, indeed this is the same thing that I said. There are valid reasons for people to switch, even if we do not understand them. But that presented by Korda (low barriers to entry) is not one of them.
"Actually, initially you argued that it [price of a money substitute, ed] must be fixed. It was only subsequently that you budged and stated that it can in fact fluctuate, but only downwards according to you."The reason why I did this was that I am unhappy about the Austrian definition of a money substitute. If I insisted on it, then Korda's argument about classification of Bitcoin would be refuted outright and my job would be done. Korda uses Mises' Theory of Money and Credit to classify Bitcoin, but simultaneously rejects his whole reasoning and definitions when doing that.
"I don’t think this is correct. You can have credit money on a metallic standard. But as regards my article and our exchange, this point is irrelevant. All that needs to be said is that bitcoins are not a credit money."Korda entirely missed my point here. My point was that a money substitute can evolve into something that is not a money substitute, and the primary cause for this switch is the breaking of the coupling of the prices between the money substitute and the underlying good. I was trying to explain the essence of Mises' classification system.
"This is more akin to the labor theory of value in my opinion. It takes time, energy, and in essence money to produce a desired outcome in a videogame. However, it does not follow that therefore the various gamers out there should be getting paid for accomplishing those objectives. The essence of the regression theorem is that the object at hand has use-value prior to attaining exchange-value."I can see how one can mistake my argument for labour theory of value. However, what I still don't understand why Korda is missing the point of my argument. What I was doing here was analysing empirical data, not presenting a theoretical argument. I was referring to this:
"During 2009 my exchange rate was calculated by dividing $1.00 by the average amount of electricity required to run a computer with high CPU for a year, 1331.5 kWh, multiplied by the the average residential cost of electricity in the United States for the previous year, $0.1136, divided by 12 months divided by the number of bitcoins generated by my computer over the past 30 days."and followed by a table of exchange rates between USD and BTC, rangining from 1/737 to 1/1622. In other words, the producer was using his costs to establish his ask position. If Bitcoin was a money substitute, he would not mention the costs at all, and the table would contain percentages (discounts/premiums or agios/disagios), possibly would not exist at all (because BTC would trade at par with USD). This is as clear as it gets that Bitcoin is not a money substitute. I don't know how else I can make it more apparent. The production costs of money substitute do not play a role in deciding the ask position of the producer, rather the market price of the underlying good. Which, in case of Bitcoin, doesn't exist.
Now to the second part, the regression theorem. I don't know to what extent Korda was paying attention when reading my thesis, but I clearly explained how the regression theorem fits into Bitcoin. But even if I was wrong, empirical evidence clearly shows that Bitcoin is a medium of exchange. So whatever objections Korda has regarding Bitcoin with respect to the theorem, they are irrelevant. It's like attempting to refute the existence of GPS by pointing out that the earth is flat. It's a methodological blunder, attempting to mix theoretical reasoning with empirical data.
"I have known of families and individuals who hoard things which are extremely durable, such as gold. However, I have not heard of anyone hoarding binary digits."Surely though, Korda must have heard about the internet. While people are not hoarding the internet, they are using it to reduce their transaction costs.
"The primary reason that I classified bitcoins as token money was that there was no other place to put them."But shouldn't then the proper approach be to attempt to understand the reasoning for the classification system and amend it based on that, instead of making up new stuff? That's what I tried to do. I established that the reason for the classification system is the different mechanisms by which the price of those goods emerges. What is Korda's underlying reasoning for his system? Is it based on catallactics or not?
"If we presume that bitcoins will eventually become money, which is presumably what most bitcoiners would like, then we are back to square one in having to classify them. In your thesis, you seem to claim that bitcoins are a commodity money, which is presumably why you have reformulated the regression theorem."Now again we have several issues. First of all, there is no necessity for Bitcoin to become money, nor is there a necessity that we derive the evaluation of Bitcoin from it becoming or not becoming money. I dub this fallacy "money or nothing", it's a false dichotomy. It can remain a medium of exchange, and be primarily used as a payment mechanism, in a world dominated by fiat. How is that supposed to be "bad" for the future of users of Bitcoin?
The reason why I classified Bitcoin as commodity money I explained in my thesis (indeed included two references to support my decision), and elaborated on it in three (now fourth) blog posts. The reason was catallactics, the analysis of supply and demand for Bitcoin. And last but not least, the reason why I reformulated the theorem is that I have not seen it formulated in a coherent manner anywhere, and people were ascribing it features which it doesn't have. One of those people is Korda, who ascribes to it quantitative aspects ("handful of people consume them"), whereas it is a qualitative argument (emergence of price and liquidity). Even if Bitcoin didn't exist, my reformulation would be relevant for fiat money, for example, because many Austrians interpret it very weirdly, for example that the power to tax gives creates demand for money (which still does not explain the price and liquidity of fiat money).
"In your thesis, you claim that “the price of bitcoin correlates with the public interest in bitcoin”".If this is an attempt to fully explain the price of Bitcoin, it is what what Mises calls an "acatallactic monetary doctrine". It is missing the essence. I explicitly say with respect to Chapter 4 that for Austrians, empirical data are not arguments.
"Although this is true, a more precise way of putting it would be that interest in bitcoin follows the price of bitcoin."There is a research paper which comes to the opposite conclusion, i.e. that the price follows the interest. But that still does not answer the actual question.
"This is exactly why I think the price of bitcoin is relevant towards its potential success and that a bubble will be very detrimental."
"I’ve been in the markets long enough to see how this story ends."Korda has been around the wrong markets. Or more accurately, those that are not relevant for Bitcoin. The relevant factor for the future of Bitcoin isn't its price, but liquidity. In other words, the payment systems industry, and to a certain extent, the forex market.
"Your first article practically claims that all of my points are irrelevant."Yes and that is still correct. I have yet to see why any of the arguments are relevant.
"You went on to say that the primary advantage of bitcoins were the lower transaction costs. While it is certainly true that exchanging binary digits is much cheaper than having to move fiat, or worse yet, specie around the globe, there is another edge to this sword. Let us not forget that the most common arguments for fractional-reserve banking or fiat money are in fact lower transaction costs."Exactly. That is why on a free market with a metallic monetary standard, I expect fractional reserve banking to out-compete full reserve banking, due to transaction costs. And that is again why I expect Bitcoin to outcompete fiat money and gold as long as it can keep its comparative advantage in transaction costs.
"I think transaction costs can be greatly eliminated via companies such as BullionVault or GoldMoney."I present theoretical arguments in my thesis why this is probably inadequate to compete with Bitcoin. Furthermore, empirical evidence shows that Bitcoin has already outgrown GoldMoney (2.1 vs 1.9 billion USD). And, you can't use GoldMoney anymore to pay, unless you live in Jersey. We may argue that this is due to regulation, but that is precisely my point, regulation is just yet another factor influencing the suitability of individual goods to reduce transaction costs.
"As for bitcoin, I think they are at present a lose-lose proposition. To reiterate, if it pops this is not good news for the holders of bitcoins. If it does not pop and is instead reasserting itself as a worldwide currency, then it is bound to lose its libertarianism as Garzik pointed out."But now this is yet another argument. If it collapses, it means that it was replaced by something better suited for the users. If it doesn't, it means that it provides a better service than the competitors. Whether this has to do with libertarianism is irrelevant.
Last but not least, I want to address the name of the mises.org article, "Bitcoin: Money of the Future or Old-Fashioned Bubble?". As I have been hopelessly trying to explain, these are not the only options, neither are they mutually exclusive. It's a "money or nothing" fallacy I've been complaining about for a long time. Even if the current price was a bubble, it would have negligible effect on the ability of Bitcoin to decrease transaction costs, and therefore its prospects as a medium of exchange.