Bitcoin, gold and the demise of fiat money

I am intrigued by the Bitcoin experiment – the attempt to launch a virtual currency as an alternative to the current global patchwork of local state fiat monies. Bitcoin has recently been hotly debated in the online community and among libertarians, and has now aroused the interest of the mainstream media and the political establishment.  Bitcoin’s challenges seem to be mainly operational – related to computer and internet security and cryptography, which is of paramount importance to the Bitcoin project. These are areas in which I am no expert by any stretch of the imagination. But many of Bitcoin’s monetary properties strike me indeed as highly interesting and commendable, and I am somewhat surprised by the indifference or even hostility Bitcoin has encountered from many free-market ‘Austrians’.

I cannot presently see it challenge gold, and after some recent setbacks – again, mainly of an operational nature – I am not even sure it will survive, but in terms of pure monetary economics it has considerable advantages over state fiat money, many characteristics of gold – and potentially even some unique advantages. The concepts and ideas behind Bitcoin cannot easily be dismissed.

Before I try and evaluate Bitcoin, let’s put this story into the broader context. Please bear with me for a moment as all of the following does indeed relate to the Bitcoin project.

The decline of state paper money

We are presently living in the twilight of the fiat money era. The twentieth century was the century of statism, of big state ideologies, such as communism, socialism, fascism, and, since the end of World War 2 and certainly since the fall of communism in 1989, of global social democracy — the combination of nominal capitalism (nominally private ownership of the means of production and moderately free trade) combined with a highly interventionist state apparatus legitimized by the concept of majority rule.

All the big state ideologies of the first half of the twentieth century (and I include here the ‘fascism lite’ of 1930s New Deal America) were hostile to gold. If the state was to create a better world and fulfil the historic mission of the class, the race, or the nation, its activities couldn’t be restricted with the straitjacket of a gold standard. The Bolsheviks confiscated all gold after the revolution, so did Roosevelt during the depression in 1933. Maybe nothing signifies the end of the classical liberal era of the nineteenth century more than the demonetization of gold, and the Nazi economist Werner Daitz was not just speaking for his fascist masters but reflected widespread ideology when he declared:

“In future, gold will play no role as a basis for the European currencies, because a currency does not depend on what it is covered by, but rather it is dependent on the value which is given it by the state, or in this case by the economic order which is controlled by the state.”

The modern social democratic state has largely maintained the concept of complete state control over money via its territorial monopoly on paper money creation. Historically, state paper money was introduced – openly and unashamedly – as a tool to fund the state, predominantly for the purpose of warfare. Of course, the modern client state has to argue somewhat differently. Conveniently, modern macroeconomics has, in the twentieth century, come up with a number of ultimately dubious theories for how the national economy – obviously a political fiction – can be made to perform better through the clever manipulation of the national money supply and the administrative setting of national interest rates by the central bank, in which the national monopoly power of money creation is vested. Bizarrely, in the latter part of the twentieth century, even self-styled “free market” economists have found ways to make peace with the concept of state money (Milton Friedman).

This system is not only suboptimal it is in fact unsustainable – even if those who are in charge of the fiat money franchise do exactly as they say they would. The system’s Achilles heel is the very elasticity of the money supply that today’s mainstream doesn’t tire of touting as its main advantage: “No dreadful deflation and we can always ‘stimulate’ the economy!”

The fallout from decades of ongoing and essentially unconstrained paper money production is now accumulating all around us – unsustainable debt levels, overleveraged and weak banks, and distorted asset prices globally. The crisis is at the moment still unfolding in slow motion, although I reckon things are about to accelerate soon.

Continue reading at Paper Money Collapse.

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4 Comments

  • Hello,

    If you are interested, I´ve written a series of short posts related to Bitcoins and Regression Theorem, you can find them here:

    http://eleconomistaprudente.wordpress.com/2011/06/06/bitcoins-and-mises%c2%b4s-regression-theorem/

  • John Spiers says:

    Detlev Schlichter is ambivalent on Bitcoins, probably because his argument has some fatal errors… in favor of Bitcoins he says:

    “Again, just like gold. If widely accepted as a medium of exchange – and that’s a big ‘if’ – it could become a store of value, unlike state paper money, which is always and everywhere a political tool and is issued for the purpose of ongoing debasement – with grave consequences for the entire economy.”

    This “store of value” is a problem for economists. Money emerges from a commodity as Schlichter himself in this article notes, quoting Menger. The store of value is in the commodity, not in the money. Money or not, a commodity is, more or less and among other things, a store of value. “State paper money” fiat currency, is neither money nor a commodity. Bitcoins is neither money nor a commodity.

    “Few people today appreciate just how anachronistic local state fiat monies are in a world of increasingly global trade. ”

    This is strange too… fiat monies (he means currencies) are actually rather modern (dilution being the ancient sin). Currency started as warehouse receipts for gold and silver. Some wicked warehousemen would issue more receipts than there was gold and silver in storage, and eventually the fraud would be discovered and various people financially ruined. So this was outlawed. Next, what was outlawed for us the government began to do itself. The Bank of England was created to print more more currency (warehouse receipts for gold and silver) than stocks thereof warranted. This leads to inflation, which is a tax on the poor and middle class.

    Fiat currency worldwide or local is a problem, a one world currency may be more efficient, but it is still fraud. If the market supported one million gold and silver warehouses, and thus we had one million different currencies, what would it matter? Thus spake the market.

    Further, possibly the freest, most provident, peaceful and prosperous political economy on earth today, compliments of the Communist Party of the People’s Republic of China, is Hong Kong. In Hong Kong, three separate private companies issue unique currency for Hong Kong, a nation state of seven million, comparable to Switzerland. The government does get to issue one note for minor purposes… but it is so suspect that it is not expanded to more than the one $10 note. Transactions among the three private currencies are frictionless. In the USA we have the legal fiction that there are nine private companies issuing currency, but no one believes it. To match the Hong Kong ratio of private currency, USA would have to have about 45 separate companies issuing currencies. USA has been there, but it was outlawed.

    Perhaps few people appreciate how anachronistic multi-fiat currencies are because it is not anachronistic, and more important, it is irrelevant.

    “The gold price has skyrocket in recent years not because of any rising demand for gold in industrial application but because of its use as a monetary asset.”

    Let me correct this be re-writing it: “Gold as priced in fiat currency has risen, not because of rising demand for gold in industrial application, but because of the profligate printing of fiat currency in recent years.” You see gold has not changed in value much if any, an ounce still buys a good suit of clothes, two silver dimes still buy a gallon of gas, just as when a gallon of gas was 20 cents 50 years ago. The buying power of money has not changed, the quantity of fiat currency has changed. More currency chasing the same amount of gold commands more currency for an ounce of gold.

    Bitcoins is not money nor currency. It is either an accounting system for barter or it is a kind of virtual reality video game.

  • Hi John,

    Bitcoins is already being used for exchanging goods and services. The definition of barter is direct exchange, if you use anything in the middle (Bitcoins or any other thing), we are not talking about barter, we are talking about indirect exchange.

    I have no doubt that Bitcoins is already a medium of exchange, i.e. Currency. Not widely accecpted? Yes. But that does not mean is not being used as currency.

    What differences money from credit is that money is a present good, while credit is not. Anything that is a present good and is used as currency is money. I don´t see how Bitcoins would fit within Credit. Bitcoins are a present good just as software is also a present good, it´s just hat both are intangible, that´s all.

    A Gold standard as most austrians propose it requires the usinhg gold liabilities as currency, not physical gold itself. This is a weak point in the gold standard that Bitcoins avoid.

  • dalson says:

    Cryptocurrencies like Bitcoin will be the future of payment.

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