The opinion media are awash with articles and reports attempting to answer the question, “Is bitcoin real money?” It should be obvious to the reader that when applied to any of our modern fiat currencies, the phrase, “real money,” is an oxymoron. It may be less obvious that the phrase remains oxymoronic when applied to money in the form of dolphin teeth, shell beads, tea bricks, and gold coins.
Fiat currencies, such as bitcoin and the U.S. dollar, have no real inherent value. They can be useful in facilitating exchange of real goods and services only when a sufficiently large number of people agree to accept them for that purpose. The value of a fiat currency exists only in the imaginations of its users, and is based on those users believing that their trading partners will continue to value the currency similarly. That imagined value can change rapidly if the user suspects that other users have changed their opinions of its value.
Some commodity currencies have durable practical value. For example, one might make an attractive necklace from dolphin teeth, shell beads, and a gold chain. Other currencies, like tea bricks, or like cigarettes in prisons, have been known to retain their value as currency for many years after their commodity value was lost to the ravages of time. However in all of these cases we find that a commodity’s value in facilitating exchange bears little relation to its value as a commodity. There are, after all, other possible materials for producing attractive necklaces.
Since money is primarily a medium of exchange, I believe it reasonable to define, “real money,” as money that is widely used as a medium of exchange, or, in other words, widely used to purchase and sell real goods and services. By “real goods and services,” I mean goods and services that human beings actually use (as opposed to speculative investments and financial instruments). By this standard, the U.S. dollar and, increasingly, bitcoin, are real money, but gold is not.
That does not mean we should give either bitcoin or the U.S. dollar a clear pass. The supply of dollars, like many other national fiat currencies, has been greatly inflated over the past year, leading people to reasonably doubt its valuation. If a large enough number of people have enough doubt, the value of the dollar will fall. Unlike the dollar, bitcoin is not susceptible to inflation, but there are still reasons to be concerned about its future.
From it’s beginning, in 2009, the bitcoin network has been maintained by people called “miners” who have been paid for their efforts with newly created bitcoin. The unit payment will continue to decline and the effort necessary to earn it will increase until the quantity of bitcoin created equals 21-million, at which time no more bitcoin will be created. This is predicted to take 120 years. It is unclear whether there will be sufficient incentive for people to continue to maintain the network in the longer term.
A lot of the early interest in bitcoin has come from people who do not trust their governments to responsibly manage the supply of their official fiat currency. (The recent unprecedented inflation of the supply of U.S. dollars provides an example. People responded by trading dollars for bitcoin, causing the value of the U.S. dollar to decline by over 80% in a single year, relative to bitcoin) If people begin to perceive some other currency superior to bitcoin, then bitcoin’s value could decline rapidly as well.
The bitcoin system issues each bitcoin owner both a private key and public key. (The keys are very large integers that no normal person could memorize.) The bitcoin owner keeps the private key secret and uses it to gain access to the bitcoin. If the private key is lost, the owner’s bitcoin becomes permanently locked, essentially ceasing to exist. In 2019, Investopedia reported that 20% of all bitcoin ever mined had been lost, probably permanently. It is likely that bitcoin will continue to be lost and the total quantity available will peak well below the theoretical 21-million limit and then decline. It is not clear how a declining quantity of bitcoin will affect its usefulness as currency.
A miscreant can steal the bitcoin of another by stealing a copy of the private key. There have been many such thefts, some in the multi-million-dollar range, and few owners have been able to regain their bitcoin.
Bitcoin faces additional challenges from the advances in quantum computing. By some methods I do not fully understand, the bitcoin algorithm uses the public key to verify that the owner has the correct private key without disclosing the private key. While, in theory, the private key can be determined mathematically from the public key, practically such a calculation would be so immense as to be impossible with our current digital-computer technology. But researchers suggest that quantum computers will someday be able to complete that calculation in seconds. It is not clear that bitcoin can survive the advent of quantum computing, which might be upon us an a decade or two.
All fiat money is inherently worthless, and the value of commodity money is not closely related to its usefulness as a commodity. Like the U.S. dollar, bitcoin is inherently worthless fiat money. Bitcoin’s most obvious advantage over the dollar is that ruling elites cannot easily manipulate it for political gain. But bitcoin faces challenges inherent in its design, and potential challenges from opponents and new innovative currencies. The future of bitcoin looks promising in the short run, but is anything but certain.
Posted 2021/03/16