Reconsidering Bitcoin

By Douglas Rushkoff. Published in Hemispheres Magazine on 1 November 2013

The famous Winklevoss twins are back. In case you missed the movie The Social Network, they’re the Harvard frat boys who first hired Mark Zuckerberg to develop a social network before getting shut out of Facebook, themselves. They were right about the future of social networking, even if they weren’t the ones to implement it, and they made millions in the followup lawsuit. And now - again from the sidelines - they’re placing a bet on another emerging digital technology: Bitcoin.

By now you’re probably among the millions of people who have heard of the experimental digital “crypto” currency, and are wondering if it might be time for you to get involved. But then the inevitable question comes up: just how does one get involved in Bitcoin, and - more important - why?

It’s tricky, but not nearly as complicated as the numerous Wikipedia entries on the subject make it sound. In fact, while you might be reading this column to get a sense of whether you should take a gamble and invest in Bitcoin, the whole point of Bitcoin was to serve as something other than a speculative investment.

Bitcoin is intended as an alternative currency. Traditional currencies, like the dollar and euro, are issued by a central bank. They are essentially loaned into existence, at interest. This means that for every dollar issued, more than a dollar has to be paid back. Where does the additional money come from? Good question. For the system to keep working, the economy has to grow.

This made central currency great for the era in which it was invented: the 13th Century, when European nations were expanding all around the globe. And it served as a terrific fuel for the engines of capitalism ever since. Central currency allows people and institutions that already have money to make more money simply by lending it out. It’s bankers’ money.

Well, now that we live in a digital economy, bankers’ money may not be the best tool for every job. Two kids with a laptop can launch an app that sells millions on iTunes without ever accepting a bank loan. Women making crafts at home can trade or sell them directly, without ever reaching the shelves of Wal-Mart.

Bitcoin was invented to foster this new, digital style of commerce. There is no central bank or authority. Instead, Bitcoin is a self-monitoring network, spread out between the computers of everyone who uses it. All transactions are encrypted, verified and logged by other members in an intensive process called mining. For now, miners are rewarded for their work with new bitcoins. This is how the currency is being issued into existence.

The process will continue until 21 million bitcoins have been mined, after which no new bitcoins will be created. Like the fixed quantity of matchsticks soldiers used as money in the prison camps, the fixed supply of Bitcoin will guarantee its scarcity and, presumably, its value.

So far, there are painfully few merchants willing to accept bitcoin instead of, well, real money. The few restaurants who do accept it are in it more for the gimmick and publicity than genuine utility. In fact, the only people strongly motivated to use Bitcoin have been those trading illegal goods online (who want to maintain anonymity) and, increasingly, investors. Using web-based exchanges, speculators trade dollars for bitcoins at one rate, and hope that the value of bitcoins goes up.

Sometimes it does - wildly so. The Bitcoin economy is still quite volatile, and the online exchanges are still small and vulnerable to hacking and manipulation.

The Winklevoss brothers claim they already own over $10 million in Bitcoin, and want to make the currency more available to the world (thus increasing the value of their own investment, but let’s not go there). Their idea is to launch a publicly traded Bitcoin ETF which, like the exchange traded funds available for gold and silver, will offer retail investors exposure to this exotic new currency without the complexity or volatility of today’s Bitcoin marketplace.

The irony here, however, is that if Bitcoin succeeds as an investment vehicle it will have failed in its original role as a currency biased toward transaction instead of speculation. Because if the currency is hoarded by investors instead of traded between people, it won’t have lived up to the dream of offering an alternative to expensive bankers’ money. And if no one is using it for anything real, its value will go down, taking the portfolios of its investors down along with it.

Meanwhile, if Bitcoin actually succeeds as a transactional alternative to bank issued cash, it will be because it avoided the inflationary spiral that afflicts regular, debt-based money. That also means it would be better spent than saved.

Either way, in the long run, the speculators lose.