Matt Yglesias: Bitcoin Will Spiral Up and Down Forever

Matt Yglesias explains why the scheme will prove useless:

Tim Lee makes what is I think the strongest case for Bitcoin, arguing that it’s not just a fad, it’s a disruptive technology that can serve as a platform


But where I think the analogy breaks down is with deflation. As computers started looking more and more useful and demand for computers grew, the world started building more computers. Bitcoins are deliberately designed to represent a finite supply. So if over time more and more people want to use Bitcoins to conduct transactions of various kinds, then the price of bitcoins is going to have to rise and rise. The problem is that if the price of a bitcoin is on a steady upward trajectory, then nobody’s actually going to want to spend a Bitcoin on anything. And if everyone’s hoarding their Bitcoins, then the network is actually useless. Then, since it turns out to be useless, you get a crash. The funny thing is that once the upward spiral comes to an end, then the technological virtues of the Bitcoin platform come to the fore again. If nobody wants to hoard Bitcoins, then Bitcoin-as-platform looks like an attractive alternative to elements of the payment system. But when Bitcoin starts looking attractive again, you should get a renewed hoarding cycle.

To put it in more jargony terms, expectations about the price level will be ‘unanchored’ instead of rapidly mean-reverting, so its going to be very difficult to ever have a platform that attracts a steady user base rather than a boom-and-bust cycle.

Tim Lee: Why bitcoin is a bubble

 As I just posted, Felix Salmon says “bitcoin is a bubble…”. Tim Lee writes “Why bitcoin is a bubble“, guest-posted at Megan McArdle:

My friend Tim Lee says that critics of Bitcoin need to do a better job of explaining why bitcoins–the virtual currency that has been soaring to impressive heights–are in a bubble.  Tim writes:

When people dismiss Bitcoins because they can’t think of how they’d use it, they’re missing the fact that Bitcoin is a platform, not a product in its own right. When ordinary users started buying computers, it wasn’t because they thought it would be cool to own a computer. They did it because they wanted to do spreadsheets or word processing or email. Similarly, ordinary users aren’t going to start using Bitcoins just because it’s a cool technology. If normal users start using Bitcoin, it will be because they’re interested in gambling, or cheap international money transfers, or some other applications that hasn’t been invented yet. And Bitcoin’s intermediary-free architecture means that many more people can try their hand at building the platform’s killer app.

I haven’t written about bitcoin before, but here’s my stab at why it’s fair to say that bitcoins are frothy: eventually, the novelty will wear off, the state will get involved, and the costs will be found to outweigh the advantages.

The problem isn’t that I can’t imagine how I’d used bitcoins.  I can imagine exactly how I’d use them: to evade government surveillance of my financial transactions.  This potential use seems to have tickled the imaginations of many, many bitcoin fanciers. The problem is, the government also has an imagination. 

The reason I think that bitcoins will ultimately go away is that I think they will, like other virtual currencies before them, ultimately prove to be too illiquid.  A dollar is one of the world’s most liquid assets: it can be turned into virtually anything I want, at least if I put enough of them together.  

But bitcoins are not so liquid.  Mostly, to buy things, I need to trade them for dollars or another currency.  And that is the fatal weakness of bitcoins: at some point, to compete with dollars, it needs to enter the real economy.  And if bitcoins become a good way to avoid government surveillance of your financial transactions, then governments will find a way to choke off those entry points so that bitcoins become very illiquid indeed.  (…) 

Some of those ‘technologies’ are pretty low tech. Bitcoins are essentially electronic bearer bonds.  Readers of 1930s-era thrillers will remember that these often figured heavily in the plot: bonds which paid out to whoever happened to be physically holding the bond.  These were very useful for refugees, tax dodgers, and criminals, and anyone else who wanted to keep the government’s eyes off their finances.

But the usefulness of bearer bonds became a problem.  If your bearer bond was destroyed, you had no recourse. They also turned out to be very useful to steal, since the original owner had no way to prove their property rights.  And indeed, one source alleges that about 10% of bitcoins have been stolen at some point.

Even worse, governments found a way to shut down the issuance.  In fact, this proved surprisingly easy: the US government simply announced that interest payments on bearer bonds would no longer be tax deductible.  And voila, no one wanted to issue bearer bonds any more.

 (…) In other words, I think that governments can make it so difficult to translate your bitcoins into the real economy that most people simply won’t bother.  And the more successful that bitcoins are–the better they become established as an alternate currency–the more likely it is that rich-world governments will swoop in and make it prohibitively difficult to use bitcoins to procure real-world goods in developed countries.  At that point you’ve essentially got a novelty currency like greenstamps, which can be exchanged for only a limited supply of goods, and maybe some developing-world travel.

Given that, bitcoins seem overvalued to me.  People are betting on bitcoins as an actual substitute for money, not a novelty currency.  And while I wish the bettors luck, I think they’re facing some pretty long odds.

More Tim Lee at Megan McArdle.

On the bitcoin-as-platform concept, my friend Charles writes “Bitcoin is really a template for a whole family of shared distributed ledger systems that can potentially solve all kinds of problems without any central authority being involved.” Personally I think Charles has the best perspective on the future utility of this machinery. The “Killer App” of bitcoin may not involve bitcoin as medium of exchange.

Scott Sumner: When bitcoin crashes . . .

Scott Sumner captioned his somewhat technical “no bubble” argument “When bitcoin crashes . . .”

. . . .I predict people will say it was a bubble, even though it wasn’t. The term ‘bubble’ can mean many things, but the sine qua non of definitions includes “rejection of the EMH.” But the EMH says that bitcoin is very likely to crash. Why is this so, and why don’t people know this?

1. We know that market volatility is serially correlated. Markets that have been highly volatile are likely to remain highly volatile.

2. Bitcoin prices are super volatile.

3. The EMH predicts that expected returns are near zero. Combined with high volatility, this mean the EMH predicts that bitcoin will exhibit large price increases and large price decreases at various times in the future.


Felix Salmon on “The Bitcoin Bubble and the Future of Currency” a primer on the crypto-currency

Each time the value of a bitcoin hits a new high or a new milestone, there’s more press coverage of the phenomenon, drawing new people in, and sending the value of bitcoins even higher. Indeed, if you chart the value of bitcoins against the number of times that they’re being talked about on Twitter, you’ll see a very strong correlation. And because of the Cyprus connection, mainstream publications have a handy real-world news hook, now, with which to explain the bitcoin phenomenon.

This is actually a serious problem, if you’re trying to put together a currency, rather than a vehicle for financial speculation. If the currency of a country ever fluctuated as much as bitcoins did, it would never be taken seriously as a medium of exchange: how are you meant to do business in a place where an item costing one unit of currency is worth $10 one day and $20 the next? Currencies need a modicum of stability; indeed, one of the main selling points of bitcoin was that it couldn’t be destabilized by government institutions. But that comes as scant comfort to people watching the value of a bitcoin behave like some kind of demented internet stock during the dot-com bubble.

And just like demented internet stocks, bitcoins have seen busts as well as bubbles: in the second half of 2011, for instance, the value of bitcoins retreated from their peak around $30 each to a low point closer to $3. (Today, they’re trading above $140.)

In reality, then, bitcoin doesn’t really behave like a currency at all. In terms of its market value, it looks much more like a highly-volatile commodity. That’s by design: bitcoins were created to be the most fungible commodity the world had ever seen – to the point at which they would effectively erase the distinction between a commodity and a currency.

But is that a good idea?


 Good question. More in the longish essay by Felix Salmon at The Medium. 

The bitcoin demand crisis?


As I write there are about 11 million bitcoins minted. There will be about 21 million bit coins when the increasingly power-hungry crypto algorithm stops minting fresh coins. Is it money? What is driving the enormous surge in trading prices? At the moment the total market cap is less than Facebook paid for Instagram (which was a company of nine people at the time?)

For some bitcoin perspective, read Zachary M. Seward’s  Quartz series – where Zachary attempts to unravel the future of bitcoin. This is a good place to get some perspective on the crypto-currency: Example: 

(…) Last time I wrote about bitcoin’s surge, I cast doubt on the popular theory that it’s due to the crisis in Cyprus and asked for better ideas. (Here’s my email address.) The best explanations I received were the simplest: bitcoin is going through a “demand crisis,” as Quartz reader Rees Sloan put it. That’s as obvious as it sounds—increasing demand for the currency is pushing its value higher—but framing it as a crisis emphasizes some other truths: As bitcoin’s value rises, so does interest in it, which drives the price up even further, leading people who own bitcoins to expect even more gain, making them reluctant to sell, reducing the available supply of bitcoins, driving the price still higher, leading to more interest, which…


That’s great publicity if you’re a bitcoin speculator, riding this surge to $100 before dumping the currency on a very eager market. It’s less encouraging if you believe in the idea of bitcoin as a truly alternative currency, unencumbered by sovereign governments, a refuge from the turbulence of monetary unions and fiat money. If that’s the bet you’re making on bitcoin, brace yourself: Just today, the value of a single bitcoin swung between $75.00 and $95.70.

Market forces tend to ruin good ideas.

 Full disclosure – we have no position in bitcoin And AFAIK there is no way to short bitcoin. If there was…

Scott Sumner for Fed Chairman!

This post is US-centric because the topics are the “Great Recession” and US monetary policy. So skip the rest if those topics are not of interest.

For the third time I am listening to the 2 Jan 2012 Econtalk interview with monetary economist Scott Sumner. From time to time I read Scott’s blog The Money Illusion . It’s not easy going, at least for me, as I find the workings of central banking monetary systems difficult. The basics are easy, but the important subtle bits seem tricky.

Example: commonly in discussions of the effectiveness of fiscal policy, the control assumption is “holding monetary policy constant”. Scott argues that every economist thinks they know what that means, but if you interview them, you discover they hold many different views of “stable monetary policy”. E.g., some think it means stable interest rates, some stable money supply growth, etc. But the US Fed is constantly trying to adapt to market conditions, to the perceived track of the economy. So Sumner’s critical point is that the Fed can be expected to react to fiscal stimulus — if they think the economy is improving they tighten and inversely.

What about the Fed’s response to the Great Recession?

Through his articles, and three Econtalk interviews, Scott has convinced me that the monetary authority (the central bank) has the power to change nominal variables – e.g., inflation or nominal GDP growth. In the short term, that means influence on the business cycle. But the monetary authority has little if any influence on the long term real growth or health of the economy.

Why is the US still mired in slow growth and high unemployment? Scott’s analysis is this is due to the inadequate response of the Fed to the 2008 collapse: the slow growth of nominal GDP (NGDP) is the proof of his argument (if you accept that the Fed has policy tools that absolutely will increase NGDP growth). Which I do.

Russ asked Scott what he would do as Fed chairman? Scott says (paraphrasing): “…establish and publicize the Fed strategy as roughly “we will target NGDP at 7% until GDP growth has returned to trend” (he nuanced how close to trend, we’ll keep it simple here)”. And I thought Scott’s corollary idea was brilliant — for the NGDP measure targeted by the Fed to be a new class of futures – NGDP futures contracts. Transparency 100% – everyone can see how the Fed is doing and estimate what future policies the Fed will undertake.

I highly recommend this Econtalk discussion, and the Money Illusion as a resource. Please see also the Bank of England’s excellent Quantitative Easing Explained, the best concise explanation of QE that I have seen.

The LNT Hypothesis: Ethical Travesties

Many thanks to Rod Adams for posting the transcript of this talk by: Margaret N. Maxey, Ph.D., Professor, Biomedical Engineering, College of Engineering, The University of Texas at Austin. Excerpts:

(…) Slowly but inexorably, radiation scientists are recognizing that the LNT hypothesis – at one time administratively useful in regulating radiation exposures during the infancy of radiation science — has in its maturity become scientifically illegitimate and ethically indefensible. In his book, Has Radiation Protection Become a Health Hazard? Gunnar Walinder, a Swedish radiobiologist, states unequivocally: “The linear, no-threshold hypothesis is one of the greatest scientific scandals of modern times.” Dr. Walinder’s bold statement is indicative of a significant sea-change among radiation experts in their assessment of the validity of using the LNT hypothesis as a basis for setting standards in radiation protection.

Among prominent experts, Leonard Sagan now observes that the LNT model is based on “politics and social concerns,” not science. Nobel Laureate Rosalyn Yalow writes that, “the literature and media overestimate radiation damage even if the overall effect does not differ from zero.” Sohei Kondo at Osaka, Japan’s Kinki University has conducted research into atomic bomb survivors which shows slight decreases in cancer deaths among those exposed to low doses — suggesting that radiation-induced precancerous cells undergo self-killing or apoptosis which prevents later development of a cancer. An emerging consensus concludes that current regulations for radiation exposure are not only “based on quicksand,” but have become pernicious obstacles to the ethical goal they purport to achieve: public health protection.

Radiation protection standards enacted by regulatory agencies have reflected ethical concerns based on two presuppositions:

(1) that the linear, zero-threshold hypothesis derives from scientific data in radiobiology that are virtually conclusive; and

(2) that it is “morally better” for health protection to assume that any radiation exposure, no matter how small, has some harmful effect which can and ought to be prevented.

These presuppositions have been reinforced by a popular unscientific belief that industrial man since World War II has introduced into the biosphere enormous quantities of synthetic toxic substances contaminating an otherwise benign natural world. These include “unnatural” radiation sources as well as huge quantities of “sinister” chemicals having no natural equivalents. Hence, official policy has enshrined a quasi-dogma: it is “morally prudent” to assume that “even the most minute dose, even a single molecule, may trigger a lethal change in a cell that will cause it to multiply malignantly.”


Ethical Travesties: Fear of radiation has proved to be far more detrimental to public health than radiation itself. No actual deaths of U.S. citizens have been attributed to accidental releases of radiation from reactors. But fear of radiation has proved fatal: (1) fear of bearing a “nuclear mutant” led 100,000 European women to choose unnecessary abortions after Chernobyl; (2) thousands of people avoid life-saving medical procedures such as mammograms or radiotherapy because they involve radiation; (3) regulatory roadblocks preventing management of harmless low-level wastes are causing many hospitals to shut down radiomedical treatment centers; (4) thousands of deaths from pathogens infecting seafood, eggs, beef and poultry could be prevented by irradiating food. Moreover billions of dollars have already been spent on trivial radiation risks based on grotesque scenarios about (1) single atoms destined to migrate through miles of desert soil to contaminate a potential water source in some distant future, or (2) measurable radon producing sick buildings which require costly remediation or destruction. Fear endangers human health.

Because the LNT model is deeply entrenched in standard-setting procedures of UNSCEAR, BEIR, ICRP and NCRP (UBIN), their bureaucracies have neither cited, discussed, nor refuted the data and theory contradicting the LNT model. Eventually, politicizing and prostituting scientific principles will erode not only the credibility of scientists, but also public confidence in regulatory institutions. Risk-tradeoff analysis is an ethically necessary replacement for the regulatory vested interests now dominating bureaucratic incentives to “keep the hazard alive” — namely, empire building, legalized plunder, research funding, sales of instruments, and indispensible services to a fearful public. An obsession with hypothetical health effects from but one technology siphons attention away from widespread harms claiming the lives of human beings daily.

Read the whole thing »

A message for all our readers in the United Kingdom

Tyler Cowen echoing Scott Sumner — so I will echo Scott one more time as I think this message is extremely important. Both US and UK have completely lost the plot on how to accelerate out of a recession – it is monetary policy that has power, fiscal policy is a weak tool, and to work must have easy monetary policy anyway.

From Scott Sumner, but endorsed by me in full:

Take the current situation in the UK. If I’m not mistaken, the British political system is different from that in America. British governments are basically elected dictatorships, with no checks and balances. Even though the Bank of England is independent, the government can give it whatever mandate it likes. If I’m right then both fiscal and monetary policy are technically under the control of the Cameron government.

So I read the UK austerity critics as saying:

“Because you guys are too stupid to raise your inflation target to 3%, or to switch over to NGDP targeting, fiscal austerity will fail. We believe the solution is not to be less stupid about monetary policy, but rather to run up every larger public debts.”

Is that right? Is that what critics are doing?

Some will argue that my views are naive, that Cameron would be savagely attacked for a desperate attempt to print money as a way of overcoming the failures of his coalition government. Yes, but by whom? Would this criticism come from Ed Balls? Perhaps, but in that case he would essentially be saying:

“It’s outrageous that the Cameron government is trying to use monetary stimulus to raise inflation from 2% to 3%, whereas they should be using fiscal stimulus to raise inflation from 2% to 3%.”

I’m sorry to have to repeat this over and over again, but what 99% of pundits on both sides of the Atlantic are treating as a debate about “stimulus” and “austerity” is actually a debate about stupidity. I’m not saying the pundits are stupid (Krugman certainly understands what I’m saying) but rather they are addressing their audience as if the audience was stupid.

Don’t talk down to Cameron and Osborne! Don’t say “austerity will fail.” Say “austerity will work, but only if the BOE becomes much more aggressive, otherwise it will fail.” That sort of advice would be USEFUL. Instead we are getting a bunch of pundits getting ego boosts because they can say “I told you so.”

Scream it from the rooftops!