Let me start off by giving you a little background as to my knowledge on the subject of monetary theory. As you can see in the header bar of this page, I’ve put together my own little online college in Austrian economics that is composed of over 150 individual lectures on economic theory by Austrian economists.
I have pretty much watched every single one of those lectures (and hundreds more), in addition to reading such works as Man, Economy, and State, along with numerous other books, in-person lectures, and journal articles. I have a business school undergrad and I work as a software developer, which forces me to think logically on a daily basis (there is a reason why so many software developers are libertarians).
I feel I have a pretty damn good grasp of Austrian economic theory and its core tenants. Thus, it was incredibly surprising to me when I set about visiting numerous libertarian forums to discuss the new peer-to-peer currency called Bitcoin and was met with wide ranging hostility. To be fair, not everyone was hostile to the idea, but it was clear from the responses that the majority saw the new currency as some kind of a scam.
I was accused of promoting a ponzi scheme, accused of promoting a pump and dump, accused of promoting unsound currency that would eventually implode, etc.. etc.. etc.. All the while, none of my detractors actually bothered to comment on the economics of the Bitcoin monetary system. It was like they had been brainwashed into believing the only legitimate money is gold while everything else must automatically be junk.
I suspect that many libertarians who denounce Bitcoin as a legitimate currency system have purchased large quantities of gold and silver, and are looking to recoup some of their investment by having those metals make up the groundwork for a new monetary system. It would stand to reason that anyone who holds large amounts of precious metals would be opposed to any new currency system that is not based on those metals.
At the time I started promoting the currency I had NO HOLDINGS of Bitcoins. Only recently did I manage to actually purchase some – AFTER they had already inflated in price. Further, I own a good chunk of physical silver myself, and I’ve always been a strong advocate of a gold standard currency system.
That said, I want to cover the economic reasons why Bitcoin (at least in my view) is a superior currency to precious metals. (The equivalent of shooting myself in the foot with my silver holdings).
The primary questions people should concern themselves with is; why did the markets chose gold as a currency and what properties does gold have that make it a currency?
Let’s begin by defining what a commodity is, then I will explain why Austrian economic theory believes that real money MUST be a commodity. Wiki defines a commodity as “a good for which there is demand, but which is supplied without qualitative differentiation across a market.”
So a commodity is typically something tangible, fungible, and divisible. Gold would be an example of a commodity. I don’t care which gold coin I am paid with, I simply care that I am getting a gold coin as payment. I don’t care what shape the gold coin has, but I do care how much it weighs.
Austrian theory demands that money be a commodity for a few reasons:
It is logically impossible to have prices arise from anything other than a commodity. If there were no money in the world, it would be impossible for a government to print up some paper notes, write some numbers on them, and then tell people to start trading them as a money. People would have no idea how much a single unit of the currency was actually worth.
Is a candy bar worth 1 unit or 10,000 units?
Prices must be set by trading weights of one good for another. Only after prices have been established in weights can paper notes be used to represent the actual amounts of the commodities being traded.
The dollar used to represent 1/32nd an ounce of gold. Thus, the dollar was actually a representation of weight. And through this, price levels in terms of dollars were able to be established.
If it is logically impossible for prices to arise any other way, then we can say markets demand that real money be some kind of a commodity (a product that is fungible, divisible, and for which demand exists).
The argument I hear from the peanut gallery is that Bitcoins aren’t actually a commodity because you can’t pick them up and hold them. They are intangible; therefore, they must not be a commodity. I would argue this is false because the nature of Bitcoin’s coding actually turns them into tangible goods that meet all the criteria of being labeled a commodity.
So let’s break down the dictionary definition of a commodity and compare it to the properties of a Bitcoin:
Is it a good? – yep.
Is there demand? – yep.
Fungibility? – yep.
The nature of the Bitcoin network ensures the uniqueness of each coin and completely prevents arbitrary replication of the digital product called a Bitcoin. Bitcoins are NOT like a software product which can be installed on multiple computers while incurring almost no physical cost to replicate. The soundness of the currency lies in the strength of its cryptography. If the cryptography is secure, then so too is the uniqueness of each digital coin.
For example, a Bitcoin wallet file can be replicated a billion times over, but the network knows exactly how much that wallet file is worth. No matter how many times the wallet file is replicated, the number of Bitcoins that are accessible to that file remain the same. The file itself is a tangible product that must be physically stored at some location, either on a USB thumb drive, remote server, smart phone, or home PC.
What is the difference if I am holding a USB key that contains a file which the markets have deemed to be worth $1,600 or a physical ounce of gold?
Bitcoins are the first digital commodity to come into existence that do not require a central point of control. The Bitcoin solves the double spending problem that has plagued digital currencies from their inception. This is a new class of software that is unique in its own right. It is worthy of being branded a “digital commodity.”
I’ve recently seen arguments by supposed free market economists arguing that Bitcoins are nothing, therefore they are inherently worth nothing. This is a fallacious argument. To claim Bitcoins are nothing is like claiming your operating system is nothing, therefore it is worth nothing. Clearly an inordinate amount of time and resources went into the development of your computer’s operating system. The time and resources that went into the development of the software constitutes “something”, which is obviously more than nothing. Software can have inherent properties that give it value in and of itself.
Let’s look at some other reasons besides the inability of fiat money to establish prices as the basis for demanding real money be a commodity.
Rothbard writes on monetary units as commodities:
Obviously, the more valuable the units of a commodity are, the smaller the size of the units used in daily transactions; thus, platinum will be traded in terms of ounces, while iron is traded in terms of tons. Relatively valuable money commodities like gold and silver will tend to be traded in terms of smaller units of weight. Here again, this fact has no particular economic significance.
The form in which a unit weight of any commodity is traded depends on its usefulness for any specific, desired purpose.
The weight of a Bitcoin is infinitesimally small, but indeed a Bitcoin does have physical weight if we consider that the digital hash which makes up a Bitcoin must reside on a physical storage medium. The more Bitcoins you have, the more storage medium required.
So why is such an infinitesimally small digital commodity worth so much money? Because of Bitcoin’s usefulness for the specific desired purpose of measuring and storing value.
An ounce of gold is not worth $1600 today because it can be made into shiny jewelery. Gold is worth $1600 dollars today because it is a scarce resource that can not be arbitrarily inflated, which makes it ideal for representing the value of other goods and services. Its scarcity, fungibility, and divisibility give it properties which lend itself to acting as a measure of wealth.
In the same way gold acts as a measure of wealth, as determined by free markets, so too do Bitcoins act in the same capacity for the exact same reasons. Bitcoins are scarce, they are fungible, and they are even MORE divisible than gold (in functional terms). And they can be sent across a wire transaction, while gold requires expensive shipping costs and insurance to actually deliver.
So lets look at how commodity pricing comes into existence. First, a commodity must be mined and extracted from the earth. Then the markets must chose that commodity as a trade intermediary. Then the miner must spend the commodity into the economy by having people freely decide just how much each individual unit/weight is worth. As the law of supply and demand dictate, the more of something there is, the less valuable it will become.
This is exactly how Bitcoins currently operate. Miners run specialized software that labors to produce the unique hash that makes up a Bitcoin. The miners incur real world electrical costs and computer resource costs on producing a Bitcoin. By being able to spend that coin into the economy first, they economically benefit in the same way a person mining for gold does. As they spend the coins into the economy, the market then determines the value of each coin. Bitcoin production does not differ at all from how gold comes into existence as a money.
Another way in which Bitcoins are superior to gold is that gold can be indefinitely mined forever. The supply of gold is always increasing to some degree and always will be. Bitcoin production on the other hand will reach a point where no new coins can ever be created. This means that in the future, the supply of Bitcoins will never be subject to supply side economic factors. This removes a huge layer of uncertainty when trying to gauge the future value of a Bitcoin in comparison to gold. It also means that there will never be price inflation with Bitcoins due to an arbitrary expansion of the money supply.
There is no government out there demanding that people transact in Bitcoins. There is no government out there telling people that they must accept Bitcoins in payment of debts. There is no government out there controlling the issue of Bitcoins. The only forces that are giving Bitcoins the value they have are free people deciding on their own that Bitcoins do indeed have value as a store of wealth and as a trade facilitator. The markets have decided that the time and labor that went into producing the Bitcoin software, along with the properties of the software itself, have real value in the real world.
Whether Bitcoins are currently experiencing a bubble in prices or not is immaterial to their efficacy as a currency unit. They have value because the market says they have value. And because they have value, and because they are divisible, fungible, and scarce, they ARE free market money. If I thought there was some aspect of Bitcoin production that would throw a monkey wrench into the free market economics espoused by Austrian theory (such as arbitrary inflation, interest rate price fixing, centralized control, etc.. etc..) I would be denouncing Bitcoin at the top of my lungs. – I can tell you that no such problems exist with the system.
Austrian economists don’t want a gold standard because they simply like shiny yellow metal. They want a gold standard because historically when people were free to choose, they chose gold. The markets chose gold because of its properties of scarcity, divisibility, fungibility, and recognizability. In the same way the markets chose gold, and for the same reasons, we WILL see Bitcoins come to dominate the currency markets to the exclusion of all other currencies.
Bitcoins are free market money.