A Skeptic's Guide to Bitcoin
#87: On the fiat, cryptocurrency, and the global monetary system.
The Magic Money Tree
For much of my life I’ve thought a lot about money, but I hadn’t really thought about money.
In business school I learned about macro- and microeconomics, supply and demand, and accounting. Working in banking, I learned valuation and corporate finance. As a private investor, our goal was to return more dollars to our investors than they gave us in the first place.
But I never had to spend much time thinking about what money is — how it is created, destroyed, and controlled.
In some ways, this is a mark of a decent money system. Being able to conduct business without worrying about the means of value transfer is a testament to functioning currency. And for the most part, I felt my local currency, the U.S. Dollar, was fairly reliable.
But more recently, my ignorance has been revealed in painful ways. The simple models of supply and demand, debits and credits, simply do not produce the results that we have witnessed over the past several years.
How could a global pandemic create a record setting surge in corporate profits and nominal wealth? How could state tax coffers be overflowing during a time of widespread unemployment? How can a “transitory” supply shock lead to permanent increase in consumer prices across the board?
Answering these questions led me down a rabbit hole that has become the topic of much of my writing — quantitative easing and tightening, commercial banking, credit creation, and government spending — all critical in understanding modern money.
One overarching takeaway I’ve learned is that modern fiat currencies are pliable, flexible, soft. This flexibility is a distinct feature for the issuer, one that gives immense power, economically and geopolitically.
In particular, the indirect and opaque tax of currency debasement is a critical source of government financing. In normal times, this occurs at a rate gradual enough for people to casually ignore, but on special occasions such as wars and pandemics it must be conducted at large scale. And while we have recently witnessed the largest currency debasement in my lifetime, a longer look at history reveals it is a well-worn tactic. Governments will always find a way to debase currency, digital fiat currency just makes it as simple as a keystroke.
Debasement — or money printing — provides the funding for repeated bailouts, stimulus, and structural deficits. This benefits some, while hurting others. Fiat savers and creditors suffer while debtors and the recipients of government spending benefit. Sovereign debt holders experience the soft default of dilution.
Normally, there is a concerted effort to obscure debasement, because it’s much more effective when people don’t recognize that its happening. The trick is that people will accept debased currency at its previous value, before wising up and raising prices. But increasingly, this method of government funding — opaque and non-legislative taxation — is being embraced and advocated as sound, long-term economic policy.
Beyond pure economic considerations, the U.S. in particular has also used its dominance of the international financial systems to enforce sanctions against its rivals. While initially crippling, this tool only dulls as it is used more widely — pushing enemies into each other’s arms while incentivizing the development of alternative payment systems.
Nothing in modern politics, fiscal budgets, or monetary policy, suggests to me that these trends are likely to reverse. Rather, having discovered the magic money tree, we are only more likely to shake it. Considering that the alternative is fiscal austerity and de-leveraging, it seems nearly certain to be a one-way street.
And while debasement has been a feature of currency through the ages, the modern fiat system — unbacked, government-issued chits — is particularly well suited for it. Inflation globally has rapidly accelerated as currency has been severed from the hard backing of precious metals over the last century. By contrast, hard assets, such as equities, houses, gold or silver have skyrocketed in nominal terms.
Again, this system benefits some and hurts others. In developed countries with relatively stable currencies, it can lead to inequality and populism, even if living standards and total production improve in aggregate. In weaker economies, it can lead to outright devastation.
Without any alternative, one must simply play their hand within the rules of the game — a game that is little over 50 years old in its current form. And at least until recently, there has only been one game in town.
Bitcoin and the “Use Case”
At the center of the crypto debate is the question of a use case. Proponents and detractors argue about whether an entirely digital and intrinsically worthless piece of code can successfully function as a form of money, allowing the transfer and storage of value without the backing of a sovereign government. These discussions are often phrased in theoretical, academic, or prospective terms.
But in 2024, cryptocurrency is not a theory, and as such, these theoretical arguments are increasingly moot. The best argument for cryptocurrencies as a functioning form of money, is that today they are. This objective reality, in my opinion, trumps a normative debate.
Since its inception in 2009, bitcoin has functioned as a form of ledger money, facilitating the nearly instantaneous transfer of value globally with no downtime or outages, and without any centralized oversight or governance. Everyday, billions of dollars of transaction value are recorded on the blockchain (which excludes all transaction layers that sit above the blockchain like the lightning network).
And while the transaction volume demonstrates bitcoin’s ability to transfer large sums of value at scale, bitcoin has also proven to be an effective storage of value through its relatively short existence. While extraordinarily volatile, it has been one of the fastest appreciating assets of all time. Since early 2011, when Bitcoin’s exchange rate to the U.S. dollar has increased from 1:1 to over 46,000:1, even as the circulating supply has increased almost four-fold from ~5 million to 19.5 million today.
Throughout this time, the accessibility of the asset has improved and ties to the traditional financial systems have only increased. Between exchanges, custodians, stablecoins, ETFs, the technological barriers to entry have diminished, allowing more seamless integration. Meanwhile the regulatory framework in the U.S. has begrudgingly moved towards acceptance of cryptocurrency, clearing one of the most existential barriers for long-term adoption.
Of course, past performance is just that. The question of whether cryptocurrencies like bitcoin will continue to serve as a medium of transfer and store of value is still an open question. But the longer that bitcoin demonstrates its use case in transferring and storing of value, the weaker the arguments against it become. As arguments against the asset become weaker, broader acceptance is likely to occur in a positive-reinforcing cycle.