Tag Archives: Fiat money

Significant Day for Crypto

13 Mar

I haven’t posted in quite a while, but the news this morning seemed significant enough to stir me to start typing.

The first thing I saw on my phone this morning was that ether, the token (or crypto-currency) of the Ethereum Blockchain, was trading at $27. When I yelled this news to my wife, she responded with “twenty eight forty three”. Thus far the high on the Kraken exchange has been $29.98 but right now fallen back below $29.85. This is a 100 to 1 increase in valuation, from $.29 in August 2014.

This certainly got me excited, so as I sat in front of CBS Morning while reading Ethnews.com on my phone I saw this headline: New Gold Backed Cryptocurrency Introduced (https://www.ethnews.com/new-gold-backed-cryptocurrency-introduced).

The story reports that a new crypto-coin, OZcoinGold, is being launched on the Ethereum blockchain, but rather than a mined coin, it is a limited edition of tokens, 100 of which grant ownership in 1/3 oz. of 24 karat gold in a vault at the Perth, Australia mint, and 2/3 oz. of gold in certified reserves in a gold mine regulated by the Australian government. The issuer of the coin is backing it with 100,000 oz. of gold, at the mint and in reserves at the mine. After March 1st, 2022, holders of the tokens will be able to redeem them for certificates from the Perth mint, which are then exchangeable for gold at gold dealers throughout the world.

The coin was launched at SXSW on March 10.

This means that with only two more pieces of the puzzle in place, the unregulated free market in ideas will have provided the world with an unshakable gold standard. It will then be up to the market in currencies to use this mechanism to supplant the corrupt central bank/creeping world bank fiat money regime that siphons our wealth to fund the eternal war.

I plan to write further on what the two remaining pieces of the puzzle are, but I am also thinking about starting a new blog under a pseudonym. If you are reading this and would like to know where to find my future posts (if that change does come to pass), please email me at gmautry@gmail.com and I’ll reply with a link to the new blog. And please let me know if you found anything on this blog useful or interesting.


Government’s Role in the Bitcoin Universe

19 Nov

With bitcoin hearings before a Senate committee underway today, plenty is already being written about what the government is or is not likely to do and how its actions could affect the future of bitcoin. That is not what I want to discuss. This post is about what the government should or should not do, and how its actions will impact the world economy and the prosperity of its citizenry.

I will make clear at the outset, that my own intellectual bias is Austrian (primarily relying on the work of H.H. Hoppe), anarcho-capitalist, and post-statist. In my view, the best thing the government could do would be to shut up shop, abandon all of its assets to homesteaders, and sink into the ash-heap of history. However, I am also a realist. I recognize that the solutions I will propose herein represent a compromise with evil, and I hope that my fellow anarchist readers can forgive me for that. I would not propose them if I did not believe them to be within the realm of reasonable possibility, and that if enacted, they would shift the balance of power within society away from the political and toward the economic means.

To begin, I wish to establish a few points of agreement with my readers. If the following statements strike you as false, you should probably not waste your time reading further.

1. If government has any legitimate functions, one of these functions is the protection and restoration of justly acquired property.

2. Bitcoin is property. All bitcoin acquired through mining is justly acquired, as the means of production may be freely obtained by anyone (freely in the sense of being without arbitrary restriction such as patent or licensing law, rather than of being without investment cost). All bitcoin acquired through voluntary, honest exchange, like any other good so obtained, is also justly acquired.

3. The existence of property in bitcoin resides in the physical integrity of the bitcoin network.

4. Ergo, it is the duty of government to protect the physical integrity of the bitcoin network, and to work to restore bitcoin obtained by force, theft, or fraud to the rightful owner.

5. It is not the duty of the government to protect the value of bitcoin, but any government policy explicitly intended to decrease or destroy the value of bitcoin, such as a ban on bitcoin software, or confiscation or punitive taxation of bitcoin balances, would constitute a crime.

These points summarize what I believe to be the level of consensus today between the actors in the bitcoin community, the broader financial community, and the American federal and state governments. The more extreme stance taken by the law enforcement and anti-terrorist elements of the federal government, that bitcoin is a threat and should be actively suppressed, does not seem to be gaining a critical mass of support. At the same time, most of the major players in the bitcoin economy seem to be advocating detente with the regulatory state rather maintaining the radically anarcho-capitalist position of the early years.

Here is how I see the concerns and objectives of the key interests:

The government’s largest concern is how to tax the bitcoin economy, and it should be assumed that all proposals coming from that side will have tax enforcement as the primary goal but will be couched in terms of anti-terrorist and anti-fraud protections in order to muster public support.

The largest concern of the banks and Wall Street is the protection of the ability to manipulate credit through the fractional reserve system anchored in the Federal Reserve. They will maintain a publicly neutral stance but will covertly and frantically lobby against any proposal (such as the one that I offer) that threatens their corrupt power.

The core concerns of the bitcoin community are the maintenance of the physical integrity of the bitcoin network and its surrounding infrastructure, including enhancement and maintenance of security measures to deter theft, and continued viability of the software as the network scales upward. There are also significant concerns arising from externalities, such as the public perception of bitcoin and the policies of the regulatory bureaucracy. These include raising public awareness and understanding of the bitcoin economy with the aim of deterring fraud, and defense against unwarranted restrictions on the free production and exchange of bitcoin.

And finally, the key concern of the public at large is to be secure in their private property rights, that is, the right to justly acquire, exchange, or use for any peaceful and honest purpose, any property, including bitcoin.

My proposal provides what I believe to be a reasonable compromise between the competing concerns of the government, bitcoin community, and the public, which although not fully just (as involuntary taxation is never just), is at least as just as the current regime. (I can find no way to reconcile this proposal with the interests of banks and Wall Street, nor do I wish to do so.)

Here is the proposal:

1. Congress should enact the Fair Tax Act of 2013 (HR 25, Wikipedia, http://www.fairtax.org) This measure repeals all federal income taxes (personal, estate, gift, capital gains, alternative minimum, Social Security, Medicare, self-employment, and corporate), replacing them with a single broad consumption tax collected on the sale of new end-user goods. The tax rate is revenue neutral. A monthly “prebate”, in the amount of the tax that would have been paid on expenditures equal to the federal poverty level, is remitted monthly to each registered family. The clause in this bill relevant to bitcoin is Section 103 paragraph (d), “Barter Transactions- If gross payment for taxable property or services is made in other than money, then the person responsible for collecting and remitting the tax shall remit the tax to the sales tax administering authority in money as if gross payment had been made in money at the tax inclusive fair market value of the taxable property or services purchased.”

The enactment of this bill would satisfy the government’s objective of facilitating tax enforcement by eliminating the need to track bitcoin incomes or capital gains and instead to simply collect the sales tax in dollars on items purchased with bitcoin. The capability of calculating the tax based on the exchange rate at the time of the transaction would be a trivial addition to the functionality of already available bitcoin payment processing platforms. This single step would eliminate a huge source of uncertainty on the part of both the government and users of bitcoin. Step two would extend this benefit even further.

2. Congress should enact legislation authorizing the optional distribution of any portion of Fair Tax prebates in BTC. Taxpayers should be permitted to designate the portion to be remitted in BTC at any time more than one month prior to receiving a prebate. The prebate amount would be denominated in dollars, and the exchange rate for determining the BTC amount would be the Average Federal Bitcoin Acquisition Rate (AFBAR) for each monthly period, where AFBAR is defined as the sum of the cost in dollars of BTC purchased by the federal government during the month plus the amortized value of the GH/s employed by the government to mine BTC during the month, divided by the number of BTC distributed in prebates at the end of the month. The government would be prohibited from acquiring more, during each month, than 105% of the BTC required for the next prebate. In order to smooth the impact on market exchange rates, it would be required that purchases or sales of BTC or GH/s to make up any projected shortfall or overage in mining production be made in nearly equal daily increments, such that the total bitcoin surplus after each monthly prebate distribution would not exceed 5% of the amount distributed.

This part of the proposal is (I believe) being set forth here for the first time, and deserves some explanation. The purpose is twofold – to facilitate the acceptance of bitcoin as an alternative currency, by establishing a mechanism for widespread distribution of bitcoin throughout the populace; and to achieve rapid equilibrium in the market exchange rate between dollars and bitcoin, with minimum volatility, by making a significant fraction of the demand for bitcoin highly predictable and constant. It makes the government a significant stakeholder in the success of bitcoin, is neutral from a taxpayer perspective, and moderates the concentration of bitcoin wealth, reducing the attendant risk of market manipulation, bubbles and crashes.

Assuming these two measures are implemented while the bitcoin price in dollars is still rising, I predict the following results. Initially, few households will opt to accept the prebate in BTC, both due to unfamiliarity and to the risk that the exchange rate on the date of the prebate will be lower than AFBAR. My analysis of price data from the MtGOX exchange beginning on July 10, 2010, shows that this was the case 45% of the time. Thus, risk averse families who do not intend to save a large percentage of the prebate would be very unlikely to opt to collect in BTC. However, the data also show that if the prebate is held in savings, the risk of a negative monthly return by saving bitcoin versus dollars decreases as the period that the savings are held increases. At 22 months, the risk of a negative return by choosing bitcoin vanishes.

Under these conditions, within a few months, most families will have adopted a strategy of collecting increasing percentages of the prebate in BTC, selling BTC for dollars immediately if the exchange rate is favorable, and holding BTC in savings in the months when the rates are unfavorable. Within another few months, the most common strategy will shift to collecting 100% of the prebate in BTC, and holding these as savings as long as possible. This means that the quantity of BTC that must be acquired by government monthly will steadily increase toward a maximum, and that citizens will have a highly liquid market for selling their bitcoin prebates, at a steadily rising price.

If these measures are enacted, the economy will experience a short period, three to five years at most, of a dual currency regime. Every family will have a small, guaranteed income in a relatively deflating currency, which will significantly increase their ability to discharge debts and increase savings. At the same time, a moderately inflating currency will continue to provide the unit of account. This will moderate the shock of the transition to a truly stable currency, as dollar denominated prices and wages remain relatively steady.

In my next post, I will describe the end state of this scenario…

Is gold worth its weight in Bitcoin?

15 Nov

A question for my American readers: have you ever been watching a British drama on PBS or BBC America and wondered what the difference is between a guinea and a pound sterling? I used to think that “guineas” was just a nickname for pounds, like “bucks” and dollars. Turns out that the difference between guineas and pounds provides an almost perfect real world demonstration of Gresham’s Law (the subject of my last post) in action.

During the colonial era in America, Great Britain defined the weight of the shilling as 86 troy grains of pure silver, and its legal tender law established this coin as the basis of the British monetary system. Twenty shillings made a “pound sterling”. Britain also minted the guinea, a gold coin weighing 129.4 grains of .9135 pure gold. The valuation of the guinea relative to the shilling was set by British law, but was adjusted from time to time as the relative market prices of gold and silver fluctuated; for the purposes of this tale, we will look at the 1717 guinea, which was set by statute at the value of 1 pound 1 shilling (21 shillings).

Doing the math, we see that 118.21 (129.4 x .9135) grains of gold was set equal to 1806 (86 x 21) grains of silver. Thus the price ratio of silver to gold was established by British law at 15.28/1. All well and good, but unfortunately, the actual ratio of the market prices of gold and silver in the foreign markets where British goods were traded was somewhat less than this figure, meaning that gold was overvalued in Britain (and in America). In turn, this meant that Britain’s trading partners wanted to be paid in silver, and wanted to pay for British exports in gold. The result, bad money (gold) drove good money (silver) away from British shores.

So what accounted for this mismatch in prices? After all, gold and silver coins issued by an imperial government both function in exactly the same way. They are equally recognizable, equally portable, equally exchangeable, equally storeable. You need more shillings than guineas to make the same purchase, but that factor exerts a negligible effect on the relative demand for the different coins. The fundamental driver of the ratio of the free market prices of gold and silver coins was the relative supply of the two elements. When the combined weight of all of the silver in the British sphere was less than 15.28 times the combined weight of all the gold, the result was a drain of silver coin from the British isles. As a result, the empire switched from silver to gold as the currency standard in the nineteenth century.

In the twentieth century, gold and silver coins were abandoned as circulating currency (i.e. as a medium of exchange) by the nations of the world in favor of fiat paper currencies and base metal coinage. Once the United States defaulted on its obligations under the Bretton Woods agreement and later changed the statutory definition of the dollar to remove all reference to a fixed weight of gold, neither gold nor silver served as the unit of account in any part of the global financial system. Of the three defining functions of money, this left only the storage of value. Because of its lower price, silver came to be valued more highly in industrial applications than as bullion, so that most silver coin and bullion has disappeared. Today, the only remaining monetary role for metal is gold as a store of wealth, either in central bank reserves or in private hands.

For this reason, the traditional the price relationship between gold and silver, based on the relative quantities of circulating coins, which had varied in a narrow range for centuries, has now completely broken down. Silver today would probably command a higher price than gold if the price ratio depended on relative quantities of bullion. Some interpret this fact to be extremely bullish for silver, assuming that the price ratio must inevitably move in the direction of alignment with the ratio of physical bullion, or at least with the traditional ratio of around 15 to 1. But since silver is no longer in demand in any monetary role, there is no clear basis for predicting any particular ratio between gold and silver.

Let me pause to recap a few facts. We know that the price of anything is a function of supply and demand. We know that prices can only be comparable against a unit of account. We know that historically, at least for most of the last 3 millenia, the ultimate means of balancing financial accounts was by the exchange of quantities of an easily measurable characteristic of a scarce commodity, usually the weight (mass) of a precious metal. We know that when a specified weight of one metal is used as the unit of account, the market price of an equal weight of any other metal used in coinage stays very close to the ratio of the total available weight of that metal to the total available weight of the reference metal. We know that when an attempt is made to constrain the price of one metal relative to another, for example, by statute, the metal that is undervalued will either be exported or saved and will cease to circulate (Gresham’s law).

We also know that the policies of central banks supported by states have overthrown this regime and replaced it with a system of accounts maintained on bank ledgers, using paper tokens exchanged by hand or digital tokens exchanged electronically in the place of metal specie. Each major state establishes its own unit of account and its units of currency are the primary means of exchange within its borders. These major currencies are freely traded on global markets, and so a fluctuating exchange rate exists between each pair of currencies. And finally, the US dollar is the de facto unit of exchange for most international trade, primarily due to the relative strength of the US economy and the relationship with the Saudi Kingdom establishing the dollar as the single currency used to settle international trades in petroleum.

What can we glean from these historical facts to guide us in predicting the future dollar price of bitcoin? Obviously, neither dollars nor bitcoin are metals. However, bitcoin simulates the properties that make metals useful as money to a far greater extent than dollars. The main difference is in the limited and predictable supply of bitcoin. In addition, although bitcoin is exceptionally well suited to provide all of the essential elements of monetary utility, (unit of account, medium of exchange, and store of value), its level of acceptance at this stage allows it to compete in only one area, that is as an incorruptible and indestructible store of value. This is because the dollar is far too ingrained as the unit of account in the world’s financial systems to be overthrown on any time scale less than decades. And bitcoin is severely undervalued, not due to government fiat, but due simply to the lack of widespread acceptance. This undervaluation is precisely what makes bitcoin problematic as a medium of exchange but almost unbelievably valuable as a store of wealth.

So we have the following situation: despite the replacement of precious metals as money, there remains a vestigial demand for gold bullion, and to a much smaller extent for silver, as a store of wealth. There are estimated to be around 3 billion troy ounces of gold in the form of bullion or coins. At today’s market price in dollars, this comes to a little less than $4 trillion of demand for the utility of gold as a store of wealth. I personally see no reason why this demand for a secure means of storing and protecting wealth for future needs cannot be met by bitcoin as readily as by gold. You can refer to my earlier post (here) for my explanation of why the basis of the value of bitcoin is exactly the same as the basis of the value of metal bullion.

Right now, I could buy all existing BTC for a little over $5 billion (well, I couldn’t, but there are a few folks who could). This reflects the fact that practically none of the 7 billion plus people on earth have even heard of bitcoin, and the majority of those who have think it is a scam, a bubble, a money laundering scheme, a hack waiting to happen, or else they are simply too busy or too dull to make the effort to understand what it actually is and to grasp its potential. However, the tiny fraction of humanity who have taken the time to study and really understand what bitcoin is all about are grabbing it with both hands as fast as they can.

As one of these people, I can unequivocally state that there is zero chance that any significant fraction of us will ever be persuaded that bitcoin’s value as a savings vehicle is likely to decline in the long term. These are people, for the most part, who not only have an understanding of bitcoin, but also have much greater than average understanding of the current financial system and its weaknesses, particularly the utter worthlessness of the fiat dollar, under current Fed policy, for savings. There is some finite positive probability, given bitcoin’s exponential explosion into the world’s consciousness, that some of those learning about it for the first time, or those currently rejecting it, will also come to embrace it. So the demand for bitcoin solely in the role of digital bullion can only stay at current levels or increase. Thus;

Worst case – the demand for bitcoin as digital bullion remains about where it is and its dollar value fluctuates in the range of $100 – $1000 (in 2013 dollars)

More likely case – bitcoin splits the demand for bullion with gold at some level near parity and trades between $50,000 and $500,000 (in 2013 dollars)

Best case – the continuing spectacular increase in the price of bitcoin ultimately leads to total acceptance, so that it splits or captures the demand not only for bullion but for a medium of exchange, and becomes the defacto global unit of account. At that point, the dollar price becomes meaningless. If this has occurred by 2040, when the supply of bitcoin will be stable at under 2,100,000,000,000,000 Satoshi, and world population is estimated to be around 9,000,000,000, the per capita share of BTC will be 233,000 Satoshi.

Today, anyone on earth can purchase that amount of BTC for a buck, but the price is going up. I’d get started if I were you.

Gresham’s Law and Bitcoin

14 Nov

“The course our city runs is the same towards men and money.
She has true and worthy sons.
She has fine new gold and ancient silver,
Coins untouched with alloys, gold or silver,
Each well minted, tested each and ringing clear.
Yet we never use them!
Others pass from hand to hand,
Sorry brass just struck last week and branded with a wretched brand.
So with men we know for upright, blameless lives and noble names.
These we spurn for men of brass…”

Aristophanes, “The Frogs”, circa 405 B.C.E.

Gresham’s Law states that “bad money drives out good”. When the price of a currency is artificially constrained, for example by a legal tender law, then the constrained price may be higher, the same, or lower, than what its price would be on a free market. If the currency’s constrained price is lower than it would be on a free market, it will tend to be exported to be resold where the constraint does not operate, and thus will disappear from circulation. If there are competing currencies in the constrained market, the currencies that are relatively undervalued will also disappear from circulation. This will be true, even if the constrained price of the most undervalued currency is still greater than or equal to its true free market price. If creditors are compelled under legal tender laws to accept one or more currencies at a fixed price, debtors will always tend to pay with the cheapest currency available, that is the currency whose constrained price has the greatest positive (or smallest negative) spread from the free market price. The currencies with a narrower spread, even if they cannot be resold on a foreign market at a profit, will tend to be retained as savings.

What does this have to do with Bitcoin? Bitcoin actually does trade on a truly free and global market. Thus its spread is, by definition, zero. No national fiat currency can make this claim, at least in its home country. Thus, by applying Gresham’s law, we can see that given a choice, debtors will tend to pay their debts with their national currency, and retain any Bitcoin that they acquire as savings. They will exchange their Bitcoins for other currencies only if they have no other means of paying a debt or purchasing a necessity.

This means that the adoption of Bitcoin for commerce directly will be slow, or in other words, even if Bitcoin becomes commonly used as a payment system by merchants, prices for consumer goods and interest rates on loans will continue to be denominated in the national currency, and will be quoted in Bitcoin at the prevailing free market exchange rate at the time of payment. During the current phase of Bitcoin’s adoption, as it becomes increasingly clear that demand continues to rise steadily, I would actually expect that Bitcoin prices will be quoted at a discount to the instantaneous exchange rate.

So, as a unit of account, Bitcoin will not become the standard anytime soon, although it probably will at some point in the future, when demand for Bitcoin reaches equilibrium with other currencies, and in particular, gold and silver bullion, which also trade globally on a fairly free market. However, as a store of value, I believe that it is already the standard.

In my next post I will explain at what price I expect that equilibrium to occur.