In this article, noted economist Paul Krugman complains that Bitcoin’s value is a shared hallucination, when that’s also true of paper (fiat) money. As best I understand it – and correct me if I’m wrong – that’s a characteristic of ALL money. With dollars, we have (as Krugman points out) the added benefit that the government tells us the hallucination is real and stable. But, the Fed then prints more dollars to inflate debts away – that’s not up for debate, it’s called “quantitative easing.” It involves creating dollars out of thin air so debts are easier to pay because they dollar falls faster than the US debt gains interest.
Bitcoin’s value is a shared hallucination too, but it has no central hallucination authority. Bitcoin can of course collapse in hours, likely a lot more easily than paper currencies (which also do have a distressing tendency to eventually collapse, they are NOT immune from it at all). But the shared hallucination of value comes from these facts:
- Bitcoins are “mined” at a known rate, and the mining is complete at a set time in the future. There is only ever a limited amount of Bitcoins. You CANNOT “mine” more than the algorithm describes. You just can’t.
- As long as people want to use Bitcoin to transfer value, obviously it will have a value. Duh?
There are three ways Bitcoin’s value might fall to zero:
- The Bitcoin algorithm may be cracked. There are very, very smart cryptographers currently crawling all over the code for it. If there is a flaw, they will eventually find it. As we’ve seen over and over and over again, the strongest cryptosystems are ones which have every math nerd on the planet all up in their bits with a microscope. If you design systems in secret, they’re usually weak and cracked in weeks or months by teenagers. If Bitcoin has flaws, it’s likely that they’ll be slowly uncovered piecemeal, because if they were glaring or fatal, it’s fairly likely they’d have been found by now.
- The Bitcoin network may be taken over. Anyone who controls 51% of the “miners” can double-spend coins and thus destroy the integrity of the currency. This would likely be done by spooks, organized criminals, or hackers. Because of the amount of computing power required to control 51% of the network, this potential problem is most likely to be caused by a well-funded attacker (spooks). A related cryptocurrency called Litecoin (sometimes described as “silver to Bitcoin’s gold”) is more vulnerable to a 51% attack for a few reasons and will be until it gains widespread adoption; the #3 cryptocurrency, PPCoin, has been designed to make a 51% attack more difficult.
- Bitcoin may be replaced by something else, thus eventually becoming valueless.
- A fourth bonus way is some massive event (comet impact, Walking Dead scenario starting at Bank of America headquarters) may render digital currency meaningless, in which case you don’t care that its value went to zero.
Anyway, after implying that Bitcoin is totally unstable – which it is, currently, and which isn’t really a bad rap for a peer-to-peer cryptocurrency that was barn-raised only about four years ago – Krugman then goes on to imply that Bitcoin is only useful for illegal drugs, money laundering, arms trade and so on. That argument got old a few months back. I’ve bought digital goods with Bitcoin, and they were totally mundane ones, not stolen MP3s, or even non-stolen MP3s that get you high when you listen to them.
Bolstering Krugman’s guilt-by-association argument that Bitcoin is no good, he says the currency is anonymous (false) and untraceable (false). It isn’t EASY to figure out transactions, but the entire transaction history for the entire existence of the currency is, and always will be, public. In fact, some practices currently in use in Bitcoin transactions were adopted well after the invention of Bitcoin to make it more cash-like. But just using Bitcoins to purchase anything does not make the transaction anonymous or untraceable.
Finally, Krugman is (as usual) dismissive of complaints about irresponsible money printing by the Federal Reserve, saying it’s really fine because we haven’t had inflation that some people were worried about. (Have you looked at food and energy prices lately? Do you maybe wonder why food and energy are cut out of the government damn lies, er, statistics on inflation?)
More importantly, though, Krugman ignores that money printing by the Fed is destroying savers in the USA. You can not put dollars into a bank and have the same or more value (in terms of number of Big Macs or iPads or shotguns/canned goods you can buy) in that account 10 or 20 years in the future due to interest. Because of inflation, you will have less value if you hold dollars in a bank account. This means you either eat the loss, or you are forced into riskier investments where you may lose principal. Stuffing cash in a mattress is even worse, because then you aren’t even getting the pittance of interest you’ll find at the bank, and a house fire can wipe you out.
Is Bitcoin (or gold) better for that scenario – storing value for retirement? Well, for Bitcoin, no, and gold is risky in the sense that you can take a bath on the gold exchange rate when it’s time to retire. But we KNOW that dollars aren’t good for storing wealth on which to retire. If you hoard them, they will surely lose value. If you hoard gold, or Bitcoins, you have no idea what may happen. But to me, it’s really curious that Krugman conveniently ignores the fact that money printing is making life difficult for savers and folks on fixed incomes. He’s not a stupid man, and I believe he genuinely can’t like the reality here: you can’t save dollars and expect them to retain value over long periods. It would be foolish to save Bitcoins for long periods too (or even short ones), but I don’t get why he has to rely on such a flawed argument to trash Bitcoin, when it’s such a new concept there’s really not much an informed person – yes, even a lauded economist – can say but “I guess we’ll see.”