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The Slovak bitcoin Blog “bicoiner.sk” published a brief interview with me (I’ll translate it when I have a bit more time): http://bitcoiner.sk/bitcoinova-horucka-kurz-presiahol-220-co-na-to-odbornik/.

However, there is an important thing that I want to get off my chest, because I don’t think I’ve concisely addressed it yet. As far as I can remember, I have been refusing to give predictions about the future price of Bitcoin, I only indirectly explained how and why it will be influenced. In my master’s thesis, I explained the mechanisms  influencing the demand for Bitcoin and what it means for the future of Bitcoin. Here I’ll summarise it here very briefly.

For the foreseeable future, I expect the price of Bitcoin to be subject to fluctuations, just like it has been behaving until now, because the market isn’t sufficiently liquid. It may currently be in a bubble phase, or not. I don’t know. But it is also irrelevant for the future of Bitcoin, because a medium of exchange on the market gains market share through its reduction of transaction costs against competitors, not through its price stability. Indeed, in A case for a genuine gold dollar, Rothbard criticised Hayek’s Denationalisation of Money for precisely the same point: that price stability is not a valid reason for people to choose one medium of exchange in preference for another. Rothbard invoked, from the point of view of the network effect, the argument of critical mass: the competitor wouldn’t be able to compete with something people are accustomed to. But other factors are unmentioned by Rothbard, in particular the reduction of transaction costs. This is because until Bitcoin, Austrians (with the exception of Lawrence White, whom I quoted several times) assume that money substitutes have lower transaction costs than money in the narrower sense. Bitcoin exposes this as an implicit assumption which is actually an empirical factor, and leaves most of the Austrians dead in the water, not understanding what’s happening.

Will Bitcoin ever become money? I don’t know, and while that would be terrific, it’s also not relevant for the broad question of the future of Bitcoin, because of the “money or nothing fallacy” (which is a false dichotomy that many critics, Austrian or not, of Bitcoin, invoke, arguing that if we can refute that Bitcoin is or will be money, it follows that it is nothing). But that’s bogus. As long as it provides an significant advantage in transaction costs, it will be here and compete, even if it never becomes money (whether that’s due to too much leverage the states have over fiat money, or due to inertia, or even if we admit all the arguments of Gertchevs and Kordas about impracticality of electronic money, even though 31% of Kenya’s GDP is now being spent through mobile phones, i.e. if we accept whatever assumptions they make up on the fly). Non-Austrians have called such a medium of exchange “metacurrency“, for example, Krugman (who is critical of Bitcoin, but missing that it confirm his own 30 year old papers) calls it “vehicle currency“. Austrians also have a name suitable for such class of media of exchange, for example “secondary media of exchange” (Mises) or “quasi monies” (Rothbard). But whatever our classification of Bitcoin may be, from economic point of view it is an immaterial good with ultra low transaction costs and an inelastic supply, a perfect fit for a reform of payment mechanisms and the financial sector, irrespective of whether it also sucks up all the “moneyness” from fiat, whether it “monetises” or not, and irrespective of what people argue about it. In order to pull this off, Bitcoin does not have to be perfect, it just needs to provide a significant comparative advantage over competitors. This it has, and I expect it to stay that way for the foreseeable future.

Bitcoin may fail for one reason or another, but it won’t be because its price is susceptible to bubbles, because we argue how to classify it, because of low barriers to entry, because economists or pundits don’t understand it and have to hastily make things up to patch the holes in their arguments. It will be because it will stop having a comparative advantage in transaction costs, i.e. it will be replaced by something which provides better utility for the users.

By Jon Matonis
Forbes
Wednesday, April 3, 2013

http://www.forbes.com/sites/jonmatonis/2013/04/03/bitcoin-obliterates-the-state-theory-of-money/

Once you get past the childish title, the recent bitcoin piece
from Karl Denninger raises some issues that warrant consideration from
bitcoin economists. Denninger is an intelligent student of the capital
markets and his essay deserves a serious reply.

The economic contribution of his essay is that it represents the thesis advanced by German economist Georg Friedrich Knapp in The State Theory of Money (1924), an expose advocating the Chartalist
approach to monetary theory claiming that money must have no intrinsic
value and strictly be used as tokens issued by the government, or fiat
money. Today, modern-day chartalists are from the school of thought
known as Modern Monetary Theory (MMT).

Without getting into the intrinsic value debate, this is where I
strongly depart from Denninger, because if we accept the thesis that all
money is a universal mass illusion, then a market-based illusion can be
just as valid or more valid than a State-controlled illusion. What
Denninger and Greenbackers and MMT supporters
reject is the notion that monetary illusions themselves are a
competitive marketplace, falsely believing that only the State is in a
‘special’ position to confer legitimacy in monetary matters.

Regarding this issue of State-sanctioned legitimacy, bitcoin
as a cryptographic unit seeks and gains legitimacy through the free and
open marketplace. It is not a governmental instrument of legal tender
that requires regulatory legitimacy and coercion by law in order to gain
acceptance.

Therefore, the path to widespread adoption of bitcoin
hinges on three primary market-based developments: (a) robust and
liquid global exchanges similar to national currencies that can offer
risk management via futures and options, (b) more user-friendly
applications that mask the complexities of cryptography from users and
merchants, and (c) a paradigm shift towards “closing the loop” such as
receiving source payments and wages in bitcoin to eliminate the need for
conversion from or to national fiat.

Even after graciously accepting Denninger’s definition of what the
ideal currency would be (which I don’t) and searching for any economic
nuggets of value, his arguments can be distilled into four main
criticisms of bitcoin as a monetary instrument. First, bitcoin does not
provide cash-like anonymity. Second, bitcoin transactions take too long
for confirmations to be useful in everyday transactions. Third, bitcoin
exhibits irreversible entropy.  Fourth, the decoupling of the stateless
bitcoin from the obligation of monetary sovereigns is considered a fatal
weakness.

Now that we identified the objections, let’s take these in order.

On the first point surrounding bitcoin anonymity, Denninger only
embarrasses himself with this criticism. By default, bitcoin may not
offer anonymity and untraceability like our paper cash today, but it is
better described as user-defined anonymity
because the decision to reveal identity and usage patterns resides
solely with the bitcoin user. This is far superior to a situation where
users of a currency are relegated to seeking permission for their
financial privacy which is typically denied by the monetary and
financial overlords. Also, his capital gains tax issue is a non-starter
because it’s a byproduct of a monopoly over money.

His second criticism of a lack of utility in the ‘goods and service
preference’ due to timing of sufficient block chain confirmations has
some merit. However, advances have been made in the use of green
addressing techniques
that solve the confirmation delay problem by utilizing special-purpose
bitcoin addresses from parties trusted not to double spend.

Denniger’s third criticism that bitcoin
exhibits irreversible entropy is confusing. Typically, entropy refers
to a measure of the unavailable energy in a closed thermodynamic system
that is also usually considered to be a measure of the system’s
disorder. In the case of bitcoin, I suspect Denninger is taking it to
mean the degradation of the matter in the universe because of his
explicit comparison to gold. While it is true that bitcoins lost or
forgotten are ultimately irretrievable, I view that as a feature not a
bug because it is the prevailing trait of a digital bearer instrument.
Two bitcoin digital attributes that make it superior to physical gold
are its ability to create backups and its difficulty of confiscation.
Furthermore, the number of spaces to the right of the decimal point
(currently eight) is immaterial to bitcoin’s suitability as a monetary
unit.

Now for the big and final one. Denninger asserts that monetary
sovereign issuers possess not only the privilege, but the obligation, of
seigniorage, which Denninger refers to as bi-directional since
sovereigns have the responsibility of maintaining a stable price level
during times of both economic expansion and economic contraction. As a
product of Hayekian free choice in currency,
market-based bitcoin is decentralized by nature and poses a false
comparison to the century-old practice of central bank monetary
manipulation. Fear not deflation.

Governments have appropriated
the monetary unit for their own benefit by declaring it the only
preferred monetary unit for payment of taxes to the State. Believing
that governments have sincere and good intentions in administering the
monetary system is akin to believing in fairy tales. Control of the
monetary system serves one and only one interest — the unlimited
expansion of the sovereign’s spending activity to the detriment of the
unfortunate users of that monetary unit. Decentralized Bitcoin
obliterates this sad state of affairs.

Denninger’s biased and establishment preference for a monetary
sovereign serves only to harm his analysis because it undeniably closes
him off from alternative, and usually superior, free-market monetary
arrangements. More damaging, however, is the fact that it places him
outside of the mainstream in free banking circles and squanders his
remaining quasi-libertarian credibility as a champion of markets.