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Salmon: Bitcoin's Rise Is Nothing to Celebrate

NEW YORK ( Reuters Blogs) -- I’ve posted a very long piece on bitcoin over at Medium. Obviously, I’d love for you to go over there and read the whole thing — or at least save it somehow for reading later. But here’s the heart of the article:

Volatility is a serious problem, if you're trying to put together a currency, rather than a vehicle for financial speculation. If the currency of a country ever fluctuated as much as bitcoins did, it would never be taken seriously as a medium of exchange: how are you meant to do business in a place where an item costing one unit of currency is worth $10 one day and $20 the next? Currencies need a modicum of stability; indeed, one of the main selling points of bitcoin was that it couldn't be destabilized by government institutions. But that comes as scant comfort to people watching the value of a bitcoin behave like some kind of demented internet stock during the dot-com bubble.

In reality, then, bitcoin doesn't really behave like a currency at all. In terms of its market value, it looks much more like a highly-volatile commodity. That's by design: bitcoins were created to be the most fungible commodity the world had ever seen - to the point at which they would effectively erase the distinction between a commodity and a currency.

But is that a good idea?

The answer, of course, is no. It’s a bad idea to turn a currency into a commodity, because if the price of the commodity goes up, then everybody using the currency suffers from enormous deflation. Imagine a sucker who took out a loan in bitcoins a few weeks ago — she’d never be able to pay it back today. That’s a pretty good sign that bitcoins don’t work as a currency.

More profoundly, it’s incredibly corrosive to try to build a currency on mistrust, as bitcoin has attempted.

It's because we place so much trust in banks, after all, that they are forced to take on a great deal of responsibility. Banks and central banks are given an important job to do, are regulated and scrutinized, and can be held responsible for their actions. The population of the entire country, as represented by the government, stands behind bank deposits and promises to honor them even if the bank goes bust. Money, in other words, is a key ingredient in the glue which keeps the social compact together. (What we're seeing in Cyprus is in large part a demonstration of what happens when that compact starts becoming unglued.)

Bitcoin, in that sense, is anti democratic. It's based on mistrust rather than trust, it refuses to take any responsibility onto itself - indeed, it doesn't even have a self to take responsibility onto. It's nihilistic.

It’s fun to watch the bitcoin bubble, but it’s also important to understand that almost no one actually wants to live in the kind of world that bitcoin enthusiasts are looking forward to. Thankfully, the rising price of bitcoins is not some kind of market signal telling us that we’re closer to that world. But at the same time, it’s certainly not something to celebrate.

-- Written by Felix Salmon in New York.

Read more of Felix's blogs at Reuters.

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