This article will be dealing with why Bitcoin is a good investment/hedge, without going in too deep of the underlying technology behind it. Although the technology part is of great importance, it's better explained by math/computer geeks - aka smart people. In short, Bitcoin is a peer-to-peer network containing units (bitcoins) that can be transferred in the system with zero to low costs. Every transaction is verified by the computers running the system. The math behind it makes it impossible for any entity to mess with this process of continuous update of the ledger. The ledger being a sort of receipt which contains all previous transactions in the network. To break the system you would need to muster up more than half of the systems combined computer power. Discounting the possibility of quantum computing this would be incredibly expensive and/or impossible. Which is why banks around the world are working with this technology (not Bitcoin but the block-chain tech) to make trading systems where traders can buy/sell stocks. But to understand why Bitcoin is a good hedge we need to understand money and the fragility of our current economy.
Money
Money is one of man’s greatest inventions. Since we left the barter system and started using mediums of exchange, different types of mediums has been used for trading. Gold, grain, salt amongst others, gold obviously being the most famous one. Every one of them was granted the status of money due to specific attributes such as divisibility and what I would like to call a "reliable core demand". The right to redeem state currency into gold ended in a peculiar fashion with the death of Bretton Woods (1971), and ever since then we have been trading in worthless pieces of paper.(1).
As fiat became the predominant transmitter of wealth in our economy, governmental control over money increased. From a naive standpoint that power shift could seem insignificant, but I would argue it has given us a profound shift in real economic activities. Money in the form of gold had a certain inflation built in to it, since people continuously dig it up from the ground. Yet the gold-economy saw price deflation as production became more efficient, thanks to the invisible hand of the market and advancements in technology. These deflationary powers were at times greater than the inflation coming from new gold findings. Price-deflation has historically been the norm, and shouldn't be viewed as dangerous. In todays fiat-world however, we hear about central banks trying to fight deflation, believing such an environment would be negative for the economy. One argument being that workers have a hard time accepting lower nominal wages, and that this causes overwhelming troubles for companies when they have to cut labor costs. Another argument for price inflation comes from a belief that consumers will hold off with spending in a deflationary environment (seeking a better deal tomorrow), but if that indeed was the case, why are we buying all of these cellphones and television sets? Although some of these ideas at first can seem fairly logical, I think they are disputed by our economic history and in my opinion they shouldn't be seen as facts. However, today when we hear about central banks fighting deflation, what they are really fighting is a credit crunch. Debt, also a form of money, has been growing increasingly. Although taking a short break 07/08, the debt in ratio to almost everything, is a lot greater today than ever before. A deleveraging of debt would shrink the amount of debt-money (largely concentrated in stocks/bonds/real estate) and this is what central banks are fighting, their job is basically to get this overly leveraged economy more leveraged. Needless to say, we're in uncharted territory and there are huge systemic risks because of their policy.
Government deficits and unfunded liabilities
At which rate would you be willing to loan money to Greece? This one is really a no-brainier, meaning you shouldn't have to think to come up with an answer, since Greece wouldn't pay you back either way. Greece has a enormous debt and a whole lot of unfunded liabilities. These unfunded liabilities are mostly consisting of workers pensions and health care obligations to the Greek people. Greek politicians will always rank these payment obligations as a higher priority expenditure than to give "greedy speculators" their money back. That simple fact holds true for most government bonds. Therefore I think almost all government bonds are worth substantially less than they are being priced today. Right now the market deems these bonds as low-risk assets. For example, the U.S 10-year bond yields around 2%. In other words; you'll get close to no return (if the FED manages to reach close to its inflation target) for loaning out your money to the worlds largest debtor nation for a period of ten years. This anomaly is so great and profound, it should be viewed as a major indicator of how messed up things have become.
How did we get these absurd yields? Well, demand for bonds drive the yields down, and ever since the financial crisis central banks like the FED and ECB has been on a buying spree. Speculators joined them in their buying and have been betting on the the continuing bond purchasing from the CB's, or holding a belief that the CB's will be unable to reach inflation targets, basically taking a bet on deflation. In a real market economy (not driven by central banks) with a low savings rate like the United States, these bonds would yield a lot more. The fact is the U.S, much like Greece, can’t repay its debt, ever, it’s impossible, nope, can’t be done. The U.S national debt is around 18 trillion dollars and their unfunded liabilities sums up to another whopping 210 trillion (as testified to congress by Boston university economic professor Laurence Kotlikoff).(2) Even though a lot of these future expenditures as Kotlikoff is including in his measurement could be slashed, some of them, like pensions, are going to be extremely unpopular to cut. The writing has been on the wall for quite some time.
Fear of haircuts
If this whole experiment with low interest rates fails, and some sort of economic meltdown indeed ensues, I expect governments around the world to act in a similar fashion as seen in Greece/Argentine. Bank depositors will most likely have to take a 'haircut' on their deposits to refinance the bank in which it is deposited. This is the most crucial part of why you should own bitcoins. I believe the threat of this bail-in approach to reach debt-equilibrium in the financial system will drive people to assets which cannot be confiscated. As Reuters report, this bail-in legislation is now being extended to other EU countries, regardless of whether they're in the Euro or not.(3).
We’ve already seen some correlations of the Bitcoin price with bad economic sentiment, and I expect that trend to catch on as time proceeds. The most clear cut example of this we got during the summer, with the increase in demand for bitcoins during the Greek-crisis. The day Greece reached an agreement with its creditors - Bitcoin dropped 12%. Yet, recent volatility in global stocks has not been accompanied with upward pressure on Bitcoin. When Dow Jones fell a thousand points intraday, Bitcoin fell as well, suggestion the link between financial instability and the value of Bitcoin at least for now is rather weak. But if we take a look at Argentine and their post collapse economy (after suffering a bond market collapse and soaring inflation), we find it is here where bitcoin is having the most impact as an actual money transmitter. As NYT notes ”Argentine has been quietly gaining renown in technology circles as the first, and almost only place where bitcoins are being regularly used by ordinary people for real commercial transactions.”(4)
Valuation and risk
First of all, one should obviously not invest more than what's bearable to lose, since there's a nontrivial chance of bitcoin having the value of zero in the future. Our current medium of exchange only has value due to a reliable core demand, thus it's a system that requires confidence for central banking, since it has the power to expand the money supply. As the unforseen consequences of all of the market intervention becomes more apparent this confidence will fall short, and perhaps every currency with it. Bitcoin doesn't have a reliable core demand at this point, but it has a good underlying trend. Perhaps the idea of a digital currency won't feel any more outlandish to the average guy on the street than the fiat currency he's trading in today. Wierd as it is, the average person doesn't seem to care that we're trading in an imaginary currency unit today. Remember, fiat isn't failing due to it's non-existing fundamental value, but rather the destruction of its buying power. Today the Bitcoin market cap is about 3.4 billion dollars. Besides a small market cap, the uncertainty of demand and lack of intrinsic value is two of its biggest weaknesses. Even if you believe in the idea of a digital currency, Bitcoin is far from the only one out there. There's competition in the form of other cryptocurrencies with similar but different properties, and only the future will tell which of these (if any) will come out on top. As for now though, Bitcoin has established itself as the clear frontrunner. There is also a high governmental risk involved. If our political leaders start seeing this digital money as a threat to its powers of taxation, or fears grow about what it might do to enable shady transactions, it will certainly go out of its way to try and stop it. Even though Bitcoin as a system itself is resiliencent to government intervention, one could easily foresee regulation aimed to strangle Bitcoin companies operating in the real world, making mass adoption a lot less likely. So far the western world haven’t cracked down too much on Bitcoin, in some places it has even been declared as a currency, not a commodity, meaning any potential gains in one's holding in those countries would be free from taxation. I'll leave the risks of the underlying technology to be explained by someone else, but google the words Bitcoin+fork and you'll find another very good reason not to go full retard in bitcoins.
Lär dig mer om smarta kontrakt och Blockkedjan på www.smartakontrakt.se
Money
Money is one of man’s greatest inventions. Since we left the barter system and started using mediums of exchange, different types of mediums has been used for trading. Gold, grain, salt amongst others, gold obviously being the most famous one. Every one of them was granted the status of money due to specific attributes such as divisibility and what I would like to call a "reliable core demand". The right to redeem state currency into gold ended in a peculiar fashion with the death of Bretton Woods (1971), and ever since then we have been trading in worthless pieces of paper.(1).
As fiat became the predominant transmitter of wealth in our economy, governmental control over money increased. From a naive standpoint that power shift could seem insignificant, but I would argue it has given us a profound shift in real economic activities. Money in the form of gold had a certain inflation built in to it, since people continuously dig it up from the ground. Yet the gold-economy saw price deflation as production became more efficient, thanks to the invisible hand of the market and advancements in technology. These deflationary powers were at times greater than the inflation coming from new gold findings. Price-deflation has historically been the norm, and shouldn't be viewed as dangerous. In todays fiat-world however, we hear about central banks trying to fight deflation, believing such an environment would be negative for the economy. One argument being that workers have a hard time accepting lower nominal wages, and that this causes overwhelming troubles for companies when they have to cut labor costs. Another argument for price inflation comes from a belief that consumers will hold off with spending in a deflationary environment (seeking a better deal tomorrow), but if that indeed was the case, why are we buying all of these cellphones and television sets? Although some of these ideas at first can seem fairly logical, I think they are disputed by our economic history and in my opinion they shouldn't be seen as facts. However, today when we hear about central banks fighting deflation, what they are really fighting is a credit crunch. Debt, also a form of money, has been growing increasingly. Although taking a short break 07/08, the debt in ratio to almost everything, is a lot greater today than ever before. A deleveraging of debt would shrink the amount of debt-money (largely concentrated in stocks/bonds/real estate) and this is what central banks are fighting, their job is basically to get this overly leveraged economy more leveraged. Needless to say, we're in uncharted territory and there are huge systemic risks because of their policy.
Government deficits and unfunded liabilities
At which rate would you be willing to loan money to Greece? This one is really a no-brainier, meaning you shouldn't have to think to come up with an answer, since Greece wouldn't pay you back either way. Greece has a enormous debt and a whole lot of unfunded liabilities. These unfunded liabilities are mostly consisting of workers pensions and health care obligations to the Greek people. Greek politicians will always rank these payment obligations as a higher priority expenditure than to give "greedy speculators" their money back. That simple fact holds true for most government bonds. Therefore I think almost all government bonds are worth substantially less than they are being priced today. Right now the market deems these bonds as low-risk assets. For example, the U.S 10-year bond yields around 2%. In other words; you'll get close to no return (if the FED manages to reach close to its inflation target) for loaning out your money to the worlds largest debtor nation for a period of ten years. This anomaly is so great and profound, it should be viewed as a major indicator of how messed up things have become.
How did we get these absurd yields? Well, demand for bonds drive the yields down, and ever since the financial crisis central banks like the FED and ECB has been on a buying spree. Speculators joined them in their buying and have been betting on the the continuing bond purchasing from the CB's, or holding a belief that the CB's will be unable to reach inflation targets, basically taking a bet on deflation. In a real market economy (not driven by central banks) with a low savings rate like the United States, these bonds would yield a lot more. The fact is the U.S, much like Greece, can’t repay its debt, ever, it’s impossible, nope, can’t be done. The U.S national debt is around 18 trillion dollars and their unfunded liabilities sums up to another whopping 210 trillion (as testified to congress by Boston university economic professor Laurence Kotlikoff).(2) Even though a lot of these future expenditures as Kotlikoff is including in his measurement could be slashed, some of them, like pensions, are going to be extremely unpopular to cut. The writing has been on the wall for quite some time.
Fear of haircuts
If this whole experiment with low interest rates fails, and some sort of economic meltdown indeed ensues, I expect governments around the world to act in a similar fashion as seen in Greece/Argentine. Bank depositors will most likely have to take a 'haircut' on their deposits to refinance the bank in which it is deposited. This is the most crucial part of why you should own bitcoins. I believe the threat of this bail-in approach to reach debt-equilibrium in the financial system will drive people to assets which cannot be confiscated. As Reuters report, this bail-in legislation is now being extended to other EU countries, regardless of whether they're in the Euro or not.(3).
We’ve already seen some correlations of the Bitcoin price with bad economic sentiment, and I expect that trend to catch on as time proceeds. The most clear cut example of this we got during the summer, with the increase in demand for bitcoins during the Greek-crisis. The day Greece reached an agreement with its creditors - Bitcoin dropped 12%. Yet, recent volatility in global stocks has not been accompanied with upward pressure on Bitcoin. When Dow Jones fell a thousand points intraday, Bitcoin fell as well, suggestion the link between financial instability and the value of Bitcoin at least for now is rather weak. But if we take a look at Argentine and their post collapse economy (after suffering a bond market collapse and soaring inflation), we find it is here where bitcoin is having the most impact as an actual money transmitter. As NYT notes ”Argentine has been quietly gaining renown in technology circles as the first, and almost only place where bitcoins are being regularly used by ordinary people for real commercial transactions.”(4)
Valuation and risk
First of all, one should obviously not invest more than what's bearable to lose, since there's a nontrivial chance of bitcoin having the value of zero in the future. Our current medium of exchange only has value due to a reliable core demand, thus it's a system that requires confidence for central banking, since it has the power to expand the money supply. As the unforseen consequences of all of the market intervention becomes more apparent this confidence will fall short, and perhaps every currency with it. Bitcoin doesn't have a reliable core demand at this point, but it has a good underlying trend. Perhaps the idea of a digital currency won't feel any more outlandish to the average guy on the street than the fiat currency he's trading in today. Wierd as it is, the average person doesn't seem to care that we're trading in an imaginary currency unit today. Remember, fiat isn't failing due to it's non-existing fundamental value, but rather the destruction of its buying power. Today the Bitcoin market cap is about 3.4 billion dollars. Besides a small market cap, the uncertainty of demand and lack of intrinsic value is two of its biggest weaknesses. Even if you believe in the idea of a digital currency, Bitcoin is far from the only one out there. There's competition in the form of other cryptocurrencies with similar but different properties, and only the future will tell which of these (if any) will come out on top. As for now though, Bitcoin has established itself as the clear frontrunner. There is also a high governmental risk involved. If our political leaders start seeing this digital money as a threat to its powers of taxation, or fears grow about what it might do to enable shady transactions, it will certainly go out of its way to try and stop it. Even though Bitcoin as a system itself is resiliencent to government intervention, one could easily foresee regulation aimed to strangle Bitcoin companies operating in the real world, making mass adoption a lot less likely. So far the western world haven’t cracked down too much on Bitcoin, in some places it has even been declared as a currency, not a commodity, meaning any potential gains in one's holding in those countries would be free from taxation. I'll leave the risks of the underlying technology to be explained by someone else, but google the words Bitcoin+fork and you'll find another very good reason not to go full retard in bitcoins.
Lär dig mer om smarta kontrakt och Blockkedjan på www.smartakontrakt.se
References:
(1) https://history.state.gov/milestones/1969-1976/nixon-shock
(2)
http://cnsnews.com/news/article/barbara-hollingsworth/economist-tells-congress-us-may-be-worse-fiscal-shape-greece
(3)
http://ca.reuters.com/article/businessNews/idCAKBN0OD14Z20150528
(4) http://www.nytimes.com/2015/05/03/magazine/how-bitcoin-is-disrupting-argentinas-economy.html?_r=0
Well written, but bitcoin and the blockchain is so much more than just a medium of exchange.
SvaraRaderahttp://www.wired.com/2015/10/hedge-fund-borrows-10m-in-stock-via-the-bitcoin-blockchain/
Totally agree, it's just that explaining all other potential uses for blockchain tech would make this article way too long.
RaderaDen här kommentaren har tagits bort av skribenten.
SvaraRadera