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Wed, 21 Aug 2013

Bitcoins are worthless

A few months ago, as more attention began being paid to Bitcoin, I began looking into it. I discovered that Bitcoin currency was not backed by anything. It had no value other than its purported value as a currency.

This means it is worthless. Currencies only have value if they have some inherent value. It is why gold has been used as a currency for so many millenia. Two years before I was born, US federal reserve notes (dollars) were still backed by gold. Gold is used as a currency, it is used for jewelery, but it has other uses as well, in industrial settings and such.

Bitcoin has no use other than as a "currency". Which means it is not even a currency. Because all real currencies have an underlying value, like gold has.

But isn't Bitcoin valuable now? Can't you get exchange them for dollars, euros etc.? Doesn't that make them not worthless?

This is true, but it is temporary. They are inherently worthless though. People who get into pyramid schemes early might actually come out ahead if they cash out early. There is no inherent worth though. Gold and silver were valuable 2000 years ago and are still valuable. If I know someone with one hundred losing lottery tickets from last week - last week those tickets were considered worth one hundred dollars, today their value is nothing. If I bought five tickets for carnival rides last week, and the carnival has packed up and moved on, my tickets are now worthless. Bitcoin is the same.

In March 1637, there was a craze for tulip bulbs in Holland. A tulip blub could sell for 3000 florins or more, which would be about 30,840 euros ($41250) today. A speculative bubble built up, which then collapsed, and the price of tulips plunged back toward its more normal price. So temporal situations like this can exist - tulips were sold for tens of thousands of dollars in one country, in the space of one month, but this could not last. Tulips do not have that much of a value.

What about currency like US dollars?

As I said, US currency was backed by gold until two years before I was born. So obviously, people felt this was necessary.

Get 14 hundred dollar bills which are worn and torn somewhat in a manner which would make them less valuable for collectors, but would still be accepted as currency. Does anyone think those bills will be worth more than an ounce of gold five centuries for now? Or with inflation, even fifty years from now?

Currencies are only as valuable as their inherent worth. Only an institution as powerful as a government can get away with creating a fiat currency that would be considered to have worth. Not that that always works - consider countries with runaway inflation they can't control. Consider the confederate dollar, or the Reichsmark. The confederate dollar and Reichsmark had value for a time, but when their governments were defeated, their currency became worthless. Even before the Reichsmark, Germany's pre-Nazi Papiermark was becoming worthless over time. Governments love to be able to print money and say it has value, but they only have so much power in this regard, and it only lasts so long. England thought it had the power to keep the value of the pound at a certain level. George Soros is said to have made over one billion pounds proving them wrong. The power of governments to print money is limited and temporal.

Of course, the US federal reserve says of itself that it a "unique structure that is both public and private" which is "independent within the government" but not "indepedent of government". This aside, US dollars do have value. You can pay taxes and other fees with it. You can go to the post office and ship packages with it, and buy boxes and envelopes while you are there. Soldiers can go to their local PX or commissary and buy all sorts of things with dollars. None of this has the long-term useful value of gold though.

What do Bitcoin partisans say?

I find this interesting. The most clear answer I've gotten was from a wiki called "Bitcoin myths". Here are the relevant parts from that web page, with the argument against Bitcoin, which they consider false, and then their reply:

Bitcoins are worthless because they aren't backed by anything

One could argue that gold isn't backed by anything either. Bitcoins have properties resulting from the system's design that allows them to be subjectively valued by individuals. This valuation is demonstrated when individuals freely exchange for or with bitcoins. Please refer to the Subjective Theory of Value.

See also: the "Bitcoin is backed by processing power" myth.

The value of bitcoins are based on how much electricity and computing power it takes to mine them

This statement is an attempt to apply to Bitcoin the labor theory of value, which is generally accepted as false. Just because something takes X resources to create does not mean that the resulting product will be worth X. It can be worth more, or less, depending on the utility thereof to its users.

In fact the causality is the reverse of that (this applies to the labor theory of value in general). The cost to mine bitcoins is based on how much they are worth. If bitcoins go up in value, more people will mine (because mining is profitable), thus difficulty will go up, thus the cost of mining will go up. The inverse happens if bitcoins go down in value. These effects balance out to cause mining to always cost an amount proportional to the value of bitcoins it produces.

So basically they're saying Bitcoin is valuable due to the subjective theory of labor.

Then they go on to try to show how the labor theory of value is a fallacy - and fail.

Whether you agree with them or not, there have been serious arguments against the labor theory of value by people like Eugen Böhm von Bawerk. The Bitcoin myths FAQ does not delve into this, they create a false strawman of what they think the labor theory of value is and then proceed to knock it down: "Just because something takes X resources to create does not mean that the resulting product will be worth X." Yes, if that was what the labor theory of value was, that would be a good argument against it. But Adam Smith, David Ricardo and company did not construct a theory of value that could be knocked down with one sentence after a few seconds of thought. Especially Ricardo, who wrote volumes on his theories of value.

The Bitcoin FAQ seems like it was written by someone recapitulating arguments that they heard a more educated person make. I can't imagine someone having the basic realization that these theories of values came into play with Bitcoin, and then spelling out these ideas in such a sloppy manner. I'm more concerned with that original argument than the mistakes of what was probably a sloppy transcriber.

To say that Bitcoin gets value because the subjective theory of value is true is not a falsifiable argument. Because if people realize it is worthless, those people can then just go on and say it had no subjective value. It's not really a falsifiable argument.

On the other hand, if Bitcoins continues to be exchangeable for goods with real value over the long term - that would disprove the labor theory of value. Like Wile E. Coyote walking off the edge of a cliff, things like tulip bulbs, Bernie Madoff's pyramid scheme, Reichsmarks and so forth can seem to have a great value for some period of time - but eventually people wake up and realize it is worthless.

I guess one thing that can be done with this realization is I could make money shorting Bitcoins. Of course if I was personally liable, Bitcoin could shoot from $122 USD to $1000 before crashing to near $0, but that last part wouldn't matter as I would've been wiped out by the margin call on the way to $1000. So I would have to use an LLC or something. Even then, if it went $122 to $1000 to $0, I could still lose my money. So the bet would have to be low enough that I could cover any realistic margin call. Also, as Keynes said, "Markets can remain irrational a lot longer than you and I can remain solvent." But I think I can afford shorting one Bitcoin, just for the principle of it.

To put my money where my mouth is, I think I'm going to look into shorting one bitcoin using Bitfinex or someplace like that. Of course, the reliability and trustworthiness of Bitfinex comes into play. As do regulations, legalities etc. It would only be $122 though.

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