I recently read "Better Money: Gold, Fiat, or Bitcoin?" by Lawrence H. White, and attended a webinar where Prof. White was presenting it. I found it sufficiently interesting to motivate me to give feedback. I wouldn't call it a review, it's more of an extended reaction. As for the review, the book is good and suitable for a wide range of people, has minor problems, which I will describe below, but they may or may not be important for people who read it.
The overarching principle of my reaction is that people writing about Bitcoin bring in their own expertise into the writing. This is a double edged sword, because even experts can't be expert on everything. Given the current amount of knowledge that has been accumulated by humanity, people can at best be an expert in a very narrow area of an area of an area. This is not necessarily a bad thing. The problem is when experts start to believe that just because they are experts, they are experts on everything, or perhaps from a different point of view, every phenomenon can be reformulated to fit into their area of expertise, and therefore evaluating such a phenomenon from the point of view of their area of expertise is useful. Just to make it clear, I don't think professor White is suffering from this expertise delusion. You can see that he is very cautious and thorough in presenting his arguments. This is more of a general complaint about people writing about Bitcoin. However, professor White still thinks like an economist.
I don't. I have been programming for about 35 years. I dabbled in some other areas, and my university degree is in Business Administration, however I still mainly write and review code and build computer infrastructure (or manage people who do). I think like an engineer.
What would an engineer do?
When you ask why the gold standard failed, you'll receive a different response depending on the background of the person responding. Even though all the answers shown below are technically correct, they lead to vastly different conclusions about what should be done as a consequence of the end of gold standard.
If you ask a mainstream economist, he'll respond along the lines of: There were bank panics and depressions and it wasn't good for the economy, on fiat the government is more able to conduct countercyclical policies and prevent bank runs. Going back to gold would be stupid.
If you ask an Austrian economist, his answer would be more like: The government needed more money to wage wars or expand in general. We need to go back to gold standard to reduce the size of the government.
If you ask an engineer, he'll say: Gold standard failed because gold was diluted and censored. Therefore, we should have money that resists dilution and censorship.
Does the last one look familiar? This is basically what Satoshi Nakamoto wrote in a now famous post on the P2P foundation website shortly after launching Bitcoin. This is why Bitcoin is as it is and why for an engineer nothing else makes sense. Resistance to dilution and censorship should be the top priorities if you want to get rid of fiat. If something else is a priority, then it will be diluted and censored and we're back to fiat again. It will fail again, like gold did.
It also explains Bitcoin Maximalism. Bitcoin Maximalism, for an engineer, is an ideology accompanying Bitcoin in order to preserve and enhance its resistance to dilution and censorship.
What non-engineers think about Bitcoin
Here are some examples of what non-engineers think about Bitcoin.
Nassim Nicholas Taleb thinks that that Bitcoin does not provide any revenue stream nor traditional services and therefore, US dollar denominated expected value of Bitcoin is zero. Taleb is a financial expert. Taleb is not an engineer.
John Paul Koning thinks that Bitcoin is a gambling tool with a potentially positive expected value. Koning is a hybrid economics / financial expert. Koning is not an engineer.
Lawrence H. White thinks that Bitcoin is great, but could be improved by having a more elastic supply. White is an economics expert. White is not an engineer.
Why non-engineer critiques of Bitcoin are useless
An engineer's analysis of the gold standard explains his attitude towards criticism of Bitcoin from the point of view of economists or financial experts. A criticism only matters if it explains why it makes Bitcoin more dilutible and / or more censorable, and thus fiat more inevitable.
But even then a criticism is still only halfway done. The reason for this is not an engineering one but an economic one: demand for liquidity exists. People want to be liquid (they want to be in control of media of exchange). It doesn't necessarily mean that everyone will always choose an option to remain liquid / increase liquidity. It just means that if people are using X to be liquid, and X stops being able to provide liquidity, they will look for a substitute, Y, to remain liquid. Conversely, as long as there is no Y, they will keep using X. In the absence of Y, they have no other option. Therefore, a critique of Bitcoin, even if valid, still would have to explain what better alternative there is available to provide liquidity.
It's kind of like critiquing a computer for spying on you, and then silently implying that, well, because computers are bad, mathematics needs to end, instead of saying "use pen and paper or an abacus because they don't suffer from this problem". It's a half-assed argument. Proposing pen and paper may be an extreme alternative, but is still a valid alternative, as opposed to nothing.
So what are my responses to the critiques above? They are all the same: if Bitcoin was altered to address the concerns you have, it would cause it to fail. It would cause Bitcoin to be diluted and censored and ultimately replaced by fiat. Therefore, in order for Bitcoin to succeed, your complaints must be rejected. If this was a code review, I'd write "You're optimising for the wrong thing".
If Bitcoin had a US-dollar denominated revenue stream or was providing some traditional service, it would be diluted and censored and replaced by fiat.
If Bitcoin was less suitable for gambling, it would be diluted and censored and replaced by fiat.
If Bitcoin had a more elastic supply, it would be diluted and censored and replaced by fiat.
The critiques use an invalid area of expertise. They aren't wrong, it's way worse: they are useless. Instead of taking us away from fiat, they take us closer to it. Often, they do not even enhance our understanding of the world, or contain actionable information (White however does present some other interesting information). They don't propose an alternative to Bitcoin (again, White does, gold).
Just as I was about to publish this post, yet another comment by Taleb appeared on the news:
At least with Federal Reserve, you have transparency, we know what's going on, we can influence it.
My response: run a Bitcoin node. That's how you get transparency and influence the policy. Taleb's expertise is useless for Bitcoin.
Cantillon effect explained: macroeconomics is bullshit
In order to understand the problem of dilution, it is critical to understand the Cantillon effect. And I mean really understand. Cantillon effect is often presented in the context of printing money. However, there is nothing special about the mechanism of the increase of the quantity of money that causes a relative change in allocation of money. The correct interpretation of the Cantillon effect is: any increase in the money supply is merely a redistribution of wealth (minus the costs incurred by the increaser). The relative change to allocation of the individuals' holdings of monetary units is unavoidable. In a commodity money standard, the producer of the base money has a comparably smaller gain, due to the expenses needed to produce said money, but the redistribution happens anyway.
This process unfortunately tends to be misrepresented. Maybe you recognise some of the following:
The central bank isn't redistributing wealth, it's conducting open market operations or countercyclical policies.
A fractional reserve bank isn't redistributing wealth, it's economizing the use of gold (sorry, Prof. White).
An economist isn't attempting to obscure redistribution of wealth, he's working with aggregates.
A redistribution of wealth isn't happening, just the economy is growing or shrinking.
One may perhaps debate whether redistribution is desired or not. However, it still doesn't explain why a person would want to prefer to hold money that redistributes their wealth away from themselves. A masochist-coin? A virtue-signalling-coin? As Daniel Krawisz explains in "Bitcoin's Shroud of Subtlety and Allure", even if a person has a logically correct objection against Bitcoin, they are still motivated to accumulate it.
Fractional reserve banking
Unfortunately for Professor White, this doesn't bode well for the idea of fractional reserve banking. The users of any money have good reasons to avoid it: it both dilutes their wealth as well as increases the risk of losing control over them. With Bitcoin, the transaction costs of using the base money is low, and even lower if transactions are conducted on additional layers on top of Bitcoin. This reduces the transaction cost benefit of using Bitcoin substitutes. To be fair, White recognises this (unfortunately I don't have the quote in my notes), and doesn't seem to draw any conclusions regarding Bitcoin FRB, which I applaud.
The protocols for using Bitcoin are specific to using Bitcoin, claims on Bitcoin can therefore be discriminated against directly on the protocol level, something which is impossible with a non-digital base layer.
For Bitcoin Maximalists, avoiding using Bitcoin-substitutes is an important principle to follow. Some of the memes to promote this behaviour are:
"Not your keys, not your coins" (don't use Bitcoin substitutes).
"Don't trust, verify" (run your own node).
This isn't a novel idea
The idea that money substitutes make gold standard more vulnerable certainly didn't originate with cypherpunks.
In "The Theory of Money and Credit", Mises writes regarding his proposal to return to the classical gold standard:
Gold must be in the cash holdings of everyone. Everybody must see gold coins changing hands, must be used to having gold coins in his pockets, to receiving gold coins when he cashes his paycheck, and to spending gold coins when he buys in a store.
If Mises was still alive, he may just as well have said "not your keys, not your coins" and "don't trust, verify".
Price stability is overvalued
Ever since I started studying Bitcoin over a decade ago and read articles and books about money, I was getting a bit suspicious about the argument, often repeated by people criticising Bitcoin, that people choose money based on its price stability. Superficially it seems to make sense. However, I found too little evidence for that in the books I read or in evaluating historical events. I recall these sources regarding price stability:
In "On the origin of money", Carl Menger writes something along the lines that precious metals had a more stable price on account of being more liquid. However, it isn't clear to me to what extent he thinks it's a catalyst, rather than just a symptom, of the monetisation process.
In "Denationalization of money", Hayek writes that people would choose such a private money candidate which provides the best price stability. He doesn't further elaborate how he came to that conclusion. In "The Case for a Genuine Gold Dollar", Rothbard criticised Hayek, I'm paraphrasing here, that people choose money based on liquidity, not price stability.
The third such example is the very book that I'm reacting to. Professor White's explanation isn't in the book, but during the webinar he mentioned something along the lines that without price stability one needs to perform complex hedging operations. However, we already have technology to solve this problem. It's called a credit card and it allows you to spend fiat without having any. And, if you collateralise your Bitcoin (or gold, for that matter), you can spend even more fiat you don't have.
To me, when I was studying Bitcoin and still now, the argument that people choose money based on price stability sounds like something that was made up after Bitcoin appeared, because it didn't fit well into pre-existing frameworks. Or, it was implied earlier, as a proxy variable for something else (e.g. stability of the money supply), and the emergence of Bitcoin got people confused. I may entertain an argument that a central bank's plan is to stabilise the price level, but that is an entirely different problem. I'm even starting to think that this is less of an economic issue, and more of a cultural issue, or, at the risk of sounding rude, a "boomer" argument.
At the very least, people do not always choose the money based on price stability. White recognises that. He writes, for example,
It is noteworthy that residents of Latin America adopt the US dollar, rather than the Swiss Franc, even though the Swiss Franc has a better track record than the dollar for low and steady inflation.
I.e. in this case, people prefer liquidity to price stability, as Rothbard predicted. Similarly, during the webinar, one of the participants asked (I'm paraphrasing both the question and answer) "I don't care about price stability, why is it relevant?", and White replied "If more people think like you, then Bitcoin may become money".
As a side note, the argument that people always prefer a more liquid good for monetary purposes, is also wrong. If it was true, then, as I explained in "The Origin, Classification and Utility of Bitcoin", once money (a generally accepted medium of exchange) appears, there can never be another medium of exchange. Indeed, fiat money couldn't exist and we wouldn't have the problem of gold standard ending because a commodity standard couldn't end.
Dealing with price volatility, and what is a medium of exchange
If price volatility isn't necessarily a reason to switch to a different source of liquidity, is there something that a Bitcoin Maximalist can do to deal with price uncertainty? Well, the obvious answer is, if you have expenses denominated in fiat, you borrow fiat. Then, you have an option of either
paying with the borrowed fiat, or
paying with Bitcoin and using the fiat to re-buy Bitcoin.
This isn't a "complex hedging operation". However, it brings up another issue with the analysis of demand for Bitcoin. According to most classifications I'm familiar with, including that used by White, the first person has a speculative demand for Bitcoin, and the second person has a transaction demand for Bitcoin. Only the second person uses Bitcoin as a medium of exchange.
Well, I'm sorry to say, but that's wrong. In both cases, the person in question holds the same amount of Bitcoin pre- and post- transaction, minus transaction cost, the size of which doesn't necessarily favour either scenario. In both cases, they take on the same amount of debt. From the point of view of finance and microeconomics, for that person, both are equivalent. And, merely based on observing their behaviour, we don't have sufficient information to conclude whether either have a speculative or transactional demand for Bitcoin.
We could try to analyse the aggregate (yuck) demand for Bitcoin, but for that we need to look at what happens at the payee's end. Do they end up holding Bitcoin or fiat? That is what is relevant, but not for the payer. So, depending on what exactly you are analysing, it may or may not be relevant, but you need to use a different terminology, not "medium of exchange".
Furthermore, Mises disagrees with such a definition of a "medium of exchange" as well. In "Human Action", he writes:
Money is an element of change not because it "circulates," but because it is kept in cash holdings.
[Money] is necessarily an economic good and as such it is valued and appraised on its own merits, i.e., the services which a man expects from holding cash.
See? Mises would be a HODLer too.
I came to the conclusion that determining whether people holding Bitcoin are speculating with it or using it as a medium of exchange merely based on observing their behaviour (i.e. empirically) is not possible. In the past, I also didn't always fully realise this so I made some hasty interpretations of this or that situation. The deciding factor is: are they looking for an opportunity, even a distant one, to dump Bitcoin or not? Merely because they expect Bitcoin to appreciate against fiat isn't an adequate criterion, because they may also simultaneously expect hyperbitcoinisation (meaning the disappearance of fiat). I think that while it can't be decisively concluded, we see the second aspect in the publications of Bitcoin Maximalists.
We can also investigate an opposite scenario, a hyperinflation. As a money hyperinflates, everyone is trying to get rid of it. If White's classification criteria was correct, observing a hyperinflation, he would have to conclude: look what a wonderful medium of exchange, there is no speculation and everyone is paying with it. I'm terribly sorry, dear economists, this is nonsense. Analysing the act of payment isn't helpful, instead we need to investigate the motivation of the payer, which is ultimately obscured from direct observation (maybe we could observe it using an MRI brain scan) and can only be inferred indirectly.
The end of Bitcoin?
Even though so far Bitcoin is the best solution so far to the problem of the end of gold standard, it doesn't necessarily mean it's adequate. It may yet fail and be replaced by fiat. However, if it was to be replaced by a non-fiat medium of exchange, it would need to be something that still addresses the problems of dilution and censorship. A person who would come up with such a solution would have to understand the problem and propose and implement said solution. It would either be a person who can build, or a person who deals with trust or application of violence. Apart from engineers, it could thus also be, for example, a psychologist, a salesperson, a politician, a diplomat, a soldier, a conman. But I'm skeptical whether an alternative would come from an economist or a financial expert, or even be recognised by them once it appears.
What does all of this have to do with the book?
Based on the notes I made while reading the book, I think Professor White is aware of the issues I brought up, even using the Bitcoin Maximalist lingo on several occasions, however prefers to treat them implicitly and neutrally (with minor exceptions). This is why I try to make them explicit, and why I don't consider my feedback a critique per se. If there was a critique, it would be that Professor White doesn't take the Cantillon effect seriously, and uses an incorrect definition of a medium of exchange.
There are a couple of corrections I would like to recommend for the book. These are mainly technical in nature and not of primary import for the readers of the book.
The book says:
Transfers of "Chaumian banknotes" were "blinded" from the issuer.
This is an unfortunate formulation, I suspect this is due to misinterpretation of the word "blinded". Blinding is a technical name for one of the steps during issuance. In the final step of the issuance process, the signature is unblinded by the issuee and the subsequent transfer uses this already unblinded signature. At least this is a description of the implementation of blind signatures that I worked with, which is newer than the Chaum's, but I think the steps are the same. The point is, the transfer can happen publicly, but the issuer won't be able to identify the transferer based on the observed transaction data. It's probably better to say "the transferer is anonymized from the issuer", rather than blinded. The issuer may know the transfers happen, but they only know the transferer is one of their customers, not which one.
In another place:
The source code that governs the issue schedule is changeable only by consensus of the validators. .... Because they earn Bitcoin rewards for their work, the validators have been called "miners" by analogy to gold miners.
This is a common misconception, an issue that was fought over during the 2017 blocksize wars. All nodes validate the consensus, not merely the mining nodes. The power of developers and miners over the network isn't zero, but it is severely limited in case of changes which aren't backwards compatible. In order to reject a backwards-incompatible change, a node operator has to do exactly nothing. It's rejected by default. As a result, the protocol has a status-quo bias. This is why Bitcoin Maximalists promote operating your own bitcoin nodes ("don't trust, verify"), why it's desirable to keep the cost of operating such a node low, and why hard forks (backwards incompatible changes) in Bitcoin are shunned.