Why Bitcoin fails the test of money: A Laissez-Faire Economic perspective
While almost all market participants have an opinion on the value of Bitcoin, or the lack thereof, the most vocal proponents for both sides of the argument have come from the same ideological community of Laissez-faire Economists/ Libertarians.
To that extent, I will be drawing on the work of Rothbard, Menger, and Greenspan in this article. The objective is not to convert the comrades or the Keynesians. Perhaps ironically, and to paraphrase Greenspan, “They (comrades/ Keynesians) seem to sense – perhaps more clearly and subtly than many consistent defenders of Laissez-Faire – that Bitcoin does not have the required monetary characteristics. And a restraining force on the reckless spending habits of government, it cannot be”.
Trump, with his “Big, Beautiful Bill,” would not be embracing Bitcoin if it would.
Let me start with the conclusions, and the rest of the article is a praxeological explanation of why it is indeed the case. Bitcoin’s Achilles’ Heel, as I have captioned it, is not the lack of widespread adoption as a monetary medium, as one might expect. It is the lack of any non-monetary utility whatsoever that disqualifies its usage as a monetary medium. Even if Bitcoin is adopted by a few countries as a medium of exchange, either through legal tender laws or by the willing use of market participants, it would ultimately fail the test of “desirability.”
The origins of money
The society transitioned from a direct exchange (barter) to an indirect one (using a medium of exchange), as it was more efficient from a transactional standpoint. It permitted greater, easier, and granular exchanges as compared to the prevailing barter system. Consequently, the division of labour could be greater when the medium of exchange was more “marketable” as compared to direct exchanges. The entire process did not originate through an overnight discovery, but a gradual transition of members accepting and using the medium of exchange for conducting their transactions. This medium of exchange had to be a highly valued good under the barter system before it became accepted for its monetary value in indirect exchanges. Or, in other words, the monetary property of a commodity was a consequence of widespread non-monetary utilitywithin a community. It couldn’t have been otherwise.
Many textbooks would define money as a “medium of exchange” and a “store of value” (i.e., retains purchasing power). However, as readers would realize, a good medium of exchange would also be a store of value.
Greenspan summarizes it best in terms of the advantages of moving from a barter system to using money as a mechanism for conducting transactions. Reproducing his quote from Gold and Economic Freedom, “The existence of such a commodity is a precondition of a division of labor economy. If men did not have some commodity of objective value which was generally acceptable as money, they would have to resort to primitive barter or be forced to live on self-sufficient farms and forgo the inestimable advantages of specialization. If men had no means to store value, i.e., to save, neither long-range planning nor exchange would be possible.”
While all commodities possess varying degrees of acceptability as a monetary medium, it was the non-monetary utility that determined their widespread market acceptance for monetary purposes. Literally hundreds of commodities have been experimented with as a medium of exchange in the free markets, and only three have met the market test across countries and for extended periods of time. This is depicted in the table below.
So, why did society start using wheat as a medium of exchange and subsequently transition to iron/ copper, and eventually gold/ silver? Once again, we turn to Greenspan for a pithy summarization: “…the commodity chosen as a medium must be a luxury. Human desires for luxuries are unlimited, and, therefore, luxury goods are always in demand and will always be acceptable. Wheat is a luxury in underfed civilizations, but not in a prosperous society. Cigarettes ordinarily would not serve as money, but they did in post-World War II Europe, where they were considered a luxury. The term “luxury good” implies scarcity and high unit value. Having a high unit value, such a good is easily portable; for instance, an ounce of gold is worth a half-ton of pig iron.”
So not only should the object used as a medium of exchange have widespread non-monetary utility, but it should be a very highly desired commodity as well. The transitions over thousands of years reflect this, as increasing productivity, induced by the specialization of labour, turned what were once luxury items (e.g., wheat, iron, and copper) into basic, everyday goods.
Why only gold/ silver?
While societies have experimented with hundreds of commodities, we eventually settled on gold/ silver, as they best met the requirements desired of money. The authors mentioned in the beginning (Rothbard, Menger, and Greenspan) have extensively documented the rationale, and a summary table is included below.
While desirability (i.e., a luxury good on account of its non-monetary utility) has been expanded earlier, a brief overview of the other four properties is provided below:
- Durable: An ability to retain its essential property over prolonged periods of time. Gold and silver, even under the most corrosive conditions (e.g., the ocean floor), retain their essential properties over thousands of years.
- While proponents have argued that bitcoin is durable (as it is nothing more than an algorithmic token), durability refers to not merely the extended physical/ virtual existence but the continued desirability of the object over that time period. Even assuming some non-monetary utility (i.e., desirability) is found for bitcoin in the years ahead, how can we remotely suppose that a better algorithm will not come along that will serve the same purpose better than bitcoin?
- Divisible: An ability to subdivide into tiny units, with the divided unit retaining its fractional value of the whole. While gold can be divided into units of 0.001 gram with the unit retaining its value by weight, a diamond divided into just two halves would lose substantive value as compared to its fractional equivalent.
- Convenient: An ability to hold a considerable amount of value in a tiny space enables the usage of a commodity for performing even large transactions. For example, a house in most parts of the world can be purchased for a hundred ounces of gold.
- Consistent: Each unit of the good being identical and indistinguishable from another good, even if produced hundreds of years apart or across continents, makes it very easy to accomplish transactions across geographical boundaries and time spans.
The only distinction I would make amongst the five properties is that “Desirable” is a MUST-HAVE one, while the other four are NICE TO HAVE. Wheat was not, by any extent of imagination, a “durable” good. Iron must have been very inconvenient for making slightly larger transactions. Even other items used as money (e.g., salt in Rome, tobacco in prisons, cows in India, etc.) were very desired commodities within these societies.
Gold has a history of serving as a medium of exchange (and of course as a store of value) for nearly 5,000 years, until 1971. It was “demonetized” in stages, starting in 1913 (the formation of the US Fed) and entirely in 1971, primarily because it was doing an exceptional job of limiting the size of the government. In 1913, the US government’s share of the GDP, under the classical gold standard, was only 2%. It was the elimination of the constraints imposed by gold that allowed the government’s cancerous growth at the primary expense of the middle class to reach nearly 25% of the GDP today.
But ultimately, markets overwhelm governments. It cannot be otherwise. There is no history of any fiat currency, however powerful a government might be, surviving beyond a few decades. The current regime of the fiat US Dollar, in existence since 1971, may well be the longest one. The End is Nigh, and it will undoubtedly be gold that will spell the death knell for the US Dollar.
Bitcoin – End Game
Bitcoin’s price has been correlated with the Nasdaq over the last few years, and more specifically, with the AI stocks. The less said about the value of Bitcoin, the better.
Gold’s value comes from its intrinsic properties, such as being a beautiful metal for making jewellery. Gold also has numerous industrial applications due to its highly conductive, non-corrosive, reflective, and ductile properties. This value is available to the owners of gold in perpetuity to use as they see fit. The desirability of gold is on account of these properties, and the price is a reflection of the above, and in addition, the monetary value assigned by markets.
Bitcoin has no intrinsic value to lose, although it currently has a very high market price. Whether the bursting of the bitcoin bubble is triggered by the bursting of the AI bubble or by the launch of a gold-backed currency by some country is not relevant. What is relevant is that price will ultimately catch up with the non-existent value.
Note:
1. Text in Blue points to additional data on the topic.
2. The views expressed here are those of the author and do not necessarily represent or reflect the views of PGurus.
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2. Returned to India in 2005 and have been an investor ever
since
3. Focus on investing in precious metal equities, particularly Gold, Battery Metals and Uranium Juniors.
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