NEW YORK (TheStreet) -- I have been thinking a bit about bitcoin lately. I personally don't get it, just as I don't get the fascination with gold as an alternative currency.
I view a currency as being a zero duration, full faith and credit obligation of a sovereign; meaning, whether I like politicians or not, at least I have rule of law, taxing authority, land and other assets behind my money.
I don't understand exactly who I should have my faith and credit invested in if I buy bitcoin. Proponents of the virtual (two) bit tell me that is the precise value proposition. As George Costanza would say, "It's a (currency) about nothing."
adjective \ˈvər-chə-wəl, -chəl; ˈvərch-wəl\
: very close to being something without actually being it
: existing or occurring on computers or on the Internet
So a "virtual" currency is very close to being an actual currency without actually being one. This is fine as long as we treat it as we would Zynga (ZNGA) - Get Zynga Inc. Class A Report game tokens. If one wants to spend real money on virtual money, I guess that is their privilege.
But now there is talk of a bitcoin exchange-traded fund. This really got me thinking because as we leave the virtual world and effectively turn a digital object into a public security, it brings a couple of issues to the fore.
Just as the SPDR Gold Trust ETF (GLD) - Get SPDR Gold Trust Report created demand for spot gold (easier to hold, don't need to hassle with storage and can hold alongside other portfolio instruments at your brokerage), the bitcoin ETF could be assumed to do the same for similar reasons (replace cost of storage with cost of cybersecurity).
What is interesting with bitcoin, however, is it has a very low market cap. Unlike gold or the S&P 500, where the ETF is/was rather small compared to the market cap of the market (although I did read where GLD holds more physical gold than the reserves of Russia, Switzerland or Japan), the potential here is for the ratio to be much larger and thus more impactful.
The market cap of bitcoin is about 7 billion right now. Say someone is mildly intrigued yet doesn't want to hassle with setting up new accounts. That person might just dip a toe in it via the ETF. Demand could surprise.
What if the prospective ETF grows to, say, 500 million? That is very meaningful versus today's market cap level -- particularly considering bitcoin operates in a thin and disjointed, not to mention unregulated, market.
So the demand curve for bitcoin would shift right and the price would go up. But this is where it gets really interesting to think about.
Normally, a supply curve is upward sloping from left to right due to increasing marginal cost of production in a world with finite resources. But is this so with a virtual good? The marginal cost of producing another bitcoin is quite low (zero?) once you have the fixed cost of the supercomputer and the algorithm figured out. The only reason there is scarcity at all is because there is an arbitrarily agreed upon cap in created supply.
Does this not look like market manipulation to anyone? In the real world, there are production limiters that cap out supply (cost of drilling, risk of investing money and getting stuck with inventory, amount the market will finance growth, availability of inputs, etc.). But with bitcoin, it is an agreement (collusive?) that caps out supply, not any real world supply chain issue.
Yes, we have seen this is tactic before with "limited edition" collector's items in a product suite, but the supply cap is the whole raison d'etre of bitcoin. If there were no cap, production would meet demand and the price would approach the point where marginal revenue met marginal cost (which again is near zero). (And if marginal cost of production of a digital object isn't near zero, why do I get so many emails from barristers representing ill-fated lost relatives for whom I just happen to be the sole beneficiary, Russian singles who would love to meet me, and "pharmacies" touting 70% off "Vigara"?)
Isn't there a monopolistic inefficiency created by this capricious cap? There was a lot of talk about bitcoiners going after Apple on anti-trust grounds because Apple wouldn't host bitcoin apps on iTunes. Could bitcoin itself be subject to anti-trust?
In economics, we learn that resources are scarce. But in the virtual world, there is no scarcity once the initial work has been done (why not just hit "F9" and keep creating more digital bits?). Instead, we have to manufacture scarcity to create "value." That "value" is a dead weight loss born by the consumer.
In any game we play, there are arbitrary rules that get set up. Roll doubles three times in a row and go directly to jail without passing Go. That is fine, we agree to those when we play, because we are operating in the virtual environment of the game. But when we transition to public markets, some rules supersede others. Does the fact that, by its very design, bitcoin is creating a monopolistic inefficiency run afoul in any way of the Sherman Act?
How does the world of economics even work in a world where resources are not scarce? The virtual world has no scarcity-something gets lost in translation between virtual and economic reality. If we have to artificially institute controls to make virtual resources scarce in order to give them value, how is that not manipulation?
Again, it is kind of fascinating because we are talking about a "currency" which is "about nothing." But I think there are issues that bubble up when you transition from sideshow to public market.
1) The idea of ETFs overwhelming illiquid underlying markets and creating price distortions compounded by
2) being based in the virtual world, where marginal cost of production is de minimis but we support price by capping output, and what that says about Harberger's Triangle.
If you were the SEC, would you approve the bitcoin ETF? OK, this is the entity that trampled all over Regulation T when it gave the nod to the levered and short-side ETFs. So maybe the question is, should the SEC approve this?
This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.
Eric Oberg worked in fixed income, currencies and commodities for Goldman Sachs for 17 years before retiring as a managing director.