Those who have been paying attention will have noted something of a fiscal and monetary malaise - some might say crisis - stocking the world economy in recent years. These problems are no doubt in some considerable measure behind the recent interest in Bitcoin.
To some of these problems Bitcoin does offer a real solution. To others, not so much.
The major Bitcoin advantage lies in remedying the threats of fiat currency and the inevitably ensuing inflation . Inflation is the great and secret impoverisher. Under its burden we see the purchasing power of our money gutted. Not all suffer equally, though. The well placed and politically connected (think big banks and their favored customers) profit handsomely by receiving first issuance of this money-from-nowhere. They can therefore purchase goods at pre-inflated prices, prosper immensely, and leave the rest of us to bear the burden of inflated prices that only come after they've made out like bandits.
Unlike a fiat currency, though, the value of which is effectively set by the issuer (most likely the government) by means of its control over supply and influence over interest rates, Bitcoin is a market valued currency. Like any real money it is valued by the market for what it can do - including its virtue as a medium of exchange and store of value.
Here, Bitcoin shines. Since no individual(s) or organization can arbitrarily decree the Bitcoin supply, it is not subject to the self-serving manipulation characteristic of government's use of fiat currency. Consequently, Bitcoin effectively resists inflationary pressures.
If only this were the sole cause of current problems in the world economy. The other big contributor is much less responsive to the correctives of market valued currencies like Bitcoin. That problem is fractional reserve banking: the practice whereby the banks magically multiply the currency supply.
This is done by lending out most of the value of deposits as loans, yet claiming to still have the depositor's savings available. The money can't both be in the depositor's account and in the hands of the borrower.
There's no doubt that this little bit of black magic does fuel economic growth, increasing monetary liquidity, and benefits arise from this. At the same time, though, there is a price to be paid.
a) It contributes to inflation. It's really not that different from what the government does: money is created out of thin air. In the process, though, an illusion is perpetuated about saving levels. b) Growing directly out of this latter deception, business cycles are created. The ephemeral money supply increases create the false impression of higher tendencies to saving, which mislead entrepreneurs to borrow at the resulting artificially suppressed interest rates. Those rates, though, are sending false signals, which the borrowers discover too late. The result is recession - possibly depression. c) Borrowers are not the only direct victims of these practices. If depositors come to recognize these banking practices as the Ponzi scheme they are, they demand return of their deposits. The problem with that, of course, is that the money isn't really there.
Bitcoin's susceptibility to reserve banking has been painfully revealed by the suspension of Bitcoin withdrawals by the Tokyo-based Mt. Gox exchange. Mt. Gox has been the world leading exchange between U.S. dollars and Bitcoin. It has, though, been engaged in fractional reserve lending practices. And, now, those who have put Bitcoins in can't get them out.
Mt. Gox's official explanation has been to blame a recent moratorium on withdrawals on technical malfunction. The problem with this spinning of the matter is that Mt. Gox has engaged in a low profile, high volume convertibility suspension for the last year. Multiple ruses have been deployed over that time. It appears, though, the gloves are now off.
Apparently, Mt. Gox has given us the first ever digital bank run. The exchange/bank's response? The age old one through banking history: Katie, bar the doors! There are now serious prospects of Mt. Gox's Bitcoin depositors losing a great deal - or possibly even all - of their investment.
A solid, market based currency is wonderful and welcomed, but not a panacea for poor investment decisions. The interest from fractional reserve banking is alluring, but willful myopia to its risks puts your savings in grave danger. Bitcoin's virtues do not include a financial redo.
To some of these problems Bitcoin does offer a real solution. To others, not so much.
The major Bitcoin advantage lies in remedying the threats of fiat currency and the inevitably ensuing inflation . Inflation is the great and secret impoverisher. Under its burden we see the purchasing power of our money gutted. Not all suffer equally, though. The well placed and politically connected (think big banks and their favored customers) profit handsomely by receiving first issuance of this money-from-nowhere. They can therefore purchase goods at pre-inflated prices, prosper immensely, and leave the rest of us to bear the burden of inflated prices that only come after they've made out like bandits.
Unlike a fiat currency, though, the value of which is effectively set by the issuer (most likely the government) by means of its control over supply and influence over interest rates, Bitcoin is a market valued currency. Like any real money it is valued by the market for what it can do - including its virtue as a medium of exchange and store of value.
Here, Bitcoin shines. Since no individual(s) or organization can arbitrarily decree the Bitcoin supply, it is not subject to the self-serving manipulation characteristic of government's use of fiat currency. Consequently, Bitcoin effectively resists inflationary pressures.
If only this were the sole cause of current problems in the world economy. The other big contributor is much less responsive to the correctives of market valued currencies like Bitcoin. That problem is fractional reserve banking: the practice whereby the banks magically multiply the currency supply.
This is done by lending out most of the value of deposits as loans, yet claiming to still have the depositor's savings available. The money can't both be in the depositor's account and in the hands of the borrower.
There's no doubt that this little bit of black magic does fuel economic growth, increasing monetary liquidity, and benefits arise from this. At the same time, though, there is a price to be paid.
a) It contributes to inflation. It's really not that different from what the government does: money is created out of thin air. In the process, though, an illusion is perpetuated about saving levels. b) Growing directly out of this latter deception, business cycles are created. The ephemeral money supply increases create the false impression of higher tendencies to saving, which mislead entrepreneurs to borrow at the resulting artificially suppressed interest rates. Those rates, though, are sending false signals, which the borrowers discover too late. The result is recession - possibly depression. c) Borrowers are not the only direct victims of these practices. If depositors come to recognize these banking practices as the Ponzi scheme they are, they demand return of their deposits. The problem with that, of course, is that the money isn't really there.
Bitcoin's susceptibility to reserve banking has been painfully revealed by the suspension of Bitcoin withdrawals by the Tokyo-based Mt. Gox exchange. Mt. Gox has been the world leading exchange between U.S. dollars and Bitcoin. It has, though, been engaged in fractional reserve lending practices. And, now, those who have put Bitcoins in can't get them out.
Mt. Gox's official explanation has been to blame a recent moratorium on withdrawals on technical malfunction. The problem with this spinning of the matter is that Mt. Gox has engaged in a low profile, high volume convertibility suspension for the last year. Multiple ruses have been deployed over that time. It appears, though, the gloves are now off.
Apparently, Mt. Gox has given us the first ever digital bank run. The exchange/bank's response? The age old one through banking history: Katie, bar the doors! There are now serious prospects of Mt. Gox's Bitcoin depositors losing a great deal - or possibly even all - of their investment.
A solid, market based currency is wonderful and welcomed, but not a panacea for poor investment decisions. The interest from fractional reserve banking is alluring, but willful myopia to its risks puts your savings in grave danger. Bitcoin's virtues do not include a financial redo.
About the Author:
If you are or plan to be benefiting from the Bitcoin renaissance in global finance, you need to stay on top of events by getting the scoop at the Bitcoin Profit Calculator blog. Wallace Eddington has been storming the blogosphere with his recent analysis. See particularly his popular piece on Bitcoin exchange trading funds .