My thoughts are that we need a new crypto currency without the deflationary flaw of bitcoin. The rate of new coins mined should increase as time goes on in a controlled fashion.
A crypto currency with managed inflation wouldn't make early adopters as wealthy, but it would be a better medium of exchange.
I don't know that you can call deflation an inherent flaw. In most econometric schools of thought, the debate between deflation and inflation boils down to expectations, making predictability more important than either tendency. IE Actors knowing what to expect from the money supply, eliminates some of the uncertainty that drives volatility. Predictability gives actors the opportunity to properly hedge protecting against the negatives normally attributed to both inflationary and deflationary currencies.
With central banks, it just became accepted that when dealing with unpredictable economies, the tendency to inflate was less dangerous than the tendency to deflate and thus why most banks will err on that side when making policy decisions. There are some great historical examples where banks organized mass deflation (I can't find one right now, but the one in my mind involved the entire country dropping zeroes from the end of their notes) and by making the change predictable, they were able to avoid many of the harmful effects.
Are you sure there are examples of actual successful deflations, where debts, payments, wages, etc denominated in the form of money deflating increased in value? I know of successful cases central banks have brought inflation under control or one currency was replaced with another that was much more valuable. But human nominal loss aversion[1] usually causes big problems during deflation in any modern economy. Maybe you could have pulled it off back in the day when 90% of the population were independent agents in the market, but not today where 90% are employees of firms with contractual wages.
I don't see how a currency like BTC would deflate, ever, besides runs on the market. At least if BTC became a real market force. Right now, almost all BTC transactions are between currencies like USD, so it is functioning more like stock than real money.
If it were legitimately used in widespread transactions, the currencies market wouldn't impact the valuation as much, and without that turbulance, since BTC's can't "disappear" under your couch, and you have a mathematically fixed growth rate up through 2140, the currency shouldn't deflate. Just as a frequently cited example, the US had a crisis in the 70's not because pegging the dollar to gold was bad, but because the real gold reserves were covering vastly less of the actual dollars in the market drastically due to money printing.
BTC doesn't have those issues - they are fixed in circulation, have a predictable rate of disbursement that will slow to nothing in 2140, and at that point the exchange rates for goods with BTC would only fluctuate its fixed value against other currencies or against goods scarcity. I wouldn't imagine, if it actually became a well grounded currency, significant swathes of the market making a run on it and depreciating its value as badly by that point. It lets you keep currency speculation, though, without the rampant inflationary effects of quantitative easing and money printing at whims.
There have been a few already made, check out the Alternative Cryptocurrencies forum on bitcointalk.
The problem with a coin like this is initial adoption (which is required to create the network effect that makes the coin useful). Why would anyone put serious money into a currency that is guaranteed to lose value forever through inflation and with no useful network?
The only reason inflation works for a currency like USD is because there are already billions of users locked in by the extremely large network effect, and similar inflation on any viable alternatives like the EUR.
Look at inflating currencies with smaller networks (south america) and how hard it is to keep people from getting rid of that money, usually it requires government (violent) intervention.
Because money is a medium of exchange, and has no inherent value. Hoarding cash is equivalent to destroying production-- by then time you try to spend it, there won't be anything left to buy. Inflation encourages people to be active in the system, exchanging to produce real value, not staring a the charts of growth of imaginary wealth that means only as much as a video game high score board.
That sounds awfully counter-intuitive. Before there'd be nothing left to buy, the prices of things to buy would go up (i.e. inflation), which would discourage further hoarding.
Yes. Finally, someone levelheaded. Every bitcoin supporter I've ever spoken to has basically dismissed deflation as a non-issue. It is important, and if the bitcoin economy grows, the deflationary effects are only going to become more visible.
I have never met a single person who was able to convincingly raise at least a little bit of suspicion about deflation in me. Why is deflation bad? Because people stop spending? Can't you see how ludicrous this explanation is?
If the real rate return of investments over any period of time is on average less than simply hoarding the currency (an inevitable consequence of a permanently deflationary economy) your economy is screwed up.
Bitcoin and its users have no duty to any existing "economy", and certainly don't amount to one themselves. If one's holdings of bitcoin appreciate with respect to some other commodity, eventually the wealth effect will make investment and other spending in that second commodity attractive. No one is in any sense stuck in a "bitcoin economy".
Your above points are correct; depreciation in general is a bad thing but for a "parallel currency" aiming for a particular niche like Bitcoin it's probably not an issue, especially because holding Bitcoins is definitely not without risk.
(In the unlikely event that Bitcoins ever became widely popular with speculators, then governments will tax or restrict domestic purchasers or exchanges for Bitcoins (they can't and won't be especially efficient at doing this; the US/EU don't need to be to severely damage the exchange value of a Bitcoin.).
Ok, let's say everybody in the world uses Bitcoin. Nobody invests. If that's the case, then the amount of goods and services in the economy remains constant, which means the price of Bitcoin doesn't rise. How do I make money then without investing and creating more value?
In that scenario, once you've adjusted for the risk associated with investment you'd give up all hope of "making money" - with no aggregate monetary growth(1) it would be like "investing" in a game of poker (sure, you might back the surprise winner but...). It's amazing how much less risk averse you are if you lose ~2% per annum from sitting on cash and you can make money from a slightly-worse-than-average investment portfolio (and there's a 2% return for an average investment)
Arcane hypothetical edge cases are unhelpful for exposition. It's easier to look at the conventional alternative: everybody in the world uses a means of payment which diminishes in value at a slow but stable rate. Now the average person that invests in production gains, and the average person holding cash is incentivised to convert that cash into something they want or funding the production of something others want. Isn't this better?
(1)strictly speaking we're better off looking at money as a flow, in which case the velocity of circulation comes into place, but a fixed money supply certainly wouldn't induce that to increase....
with no aggregate monetary growth it would be like "investing" in a game of poker.
This statement is wrong, because you measure profits in money rather than value. With bitcoin the amount of money in the economy stays the same, true. However the value of each unit grows as soon as you invest and produce something useful that people want. This means, you may receive back even less than you invested in absolute units of money, but more in value.
As I had replied to Eliezer, investing in a deflationary world will be tilted towards capital that yields a regular stream of real dividends: actual goods, not money. That is, there will be fewer corporations that will be expected to give money as a yield and more consumer cooperatives that will yield goods and services. Farms that yield food, NG well and that yields NG, a power plant and get a yield of electricity and so on.
Deflation is bad because it makes loan repayment more difficult during both recessions and periods of growth. In the extreme, deflation will worsen recessions and hinder expansions of the economy.
Then we have to ask, bad for whom? For those who take loans certainly it's bad. For those who loan, it's great. Inflation creates a reverse situation. It is possible, I would imagine, to create contracts that adjust for the fluctuations in currency valuation, but it is unwise to blame deflation for all the bad luck of those who take loans. Deflation would only mean that people taking those loans would think really hard about the prospects of any future profit they are hoping to get from investing the loaned money. Which means we'll have a more, not less, stable economy.
Actually, deflation is bad for both lenders and borrowers, since it increases the likelihood of default. Let's put it this way: if you knew that it would be hard for me to repay a loan during an economic boom, and even harder during a recession, would you want to lend money to me? Deflation actively discourages lending, by creating an incentive to hold money.
It is easy to think that lending is a bad thing, but let's put it this way: it is because we are able to take out loans (of various kinds) to start businesses that non-wealthy non-aristocrats are able to participate in the market. Too much credit is a bad thing, but too little credit denies capital to anyone who is not already wealthy.
You have a point, however I would like to note that Bitcoin is not actually a deflationary currency as I explained in this comment: https://news.ycombinator.com/item?id=5403360
The bigger issue we should be focusing on is not deflation or inflation but rather who controls it. If it is controlled by one player (government) then it ultimately decides who benefits and who loses from it. It is a much more honest situation when market controls it. Once there are too many people taking loans and going bankrupt, then investors stop investing until a point is reached at which it is more profitable to invest than to hoard again.
In any case, the extent to which people are denied access to capital is almost exactly the same as the extent to which they benefit from hoarding.The distribution of capital changes, rewarding less opportunistic and more hardworking people during deflation. Ironically, it's exactly the opposite of what governments in almost any country tell people.
Finally, I would like to add that even though capital is important, it is not the only component responsible for creating value and wealth. Thus, economy would reward not only people capable of obtaining capital, but also those who have great ideas and skills to implement those ideas.
It is deflationary.
I have 1€, I can buy one loaf of bread with it today.
One year from now:
Inflation - I can buy 0.5 loafs of bread.
Deflation - I can buy 2 loafs of bread.
Have any loans ever been denominated in bitcoin? Given the disadvantages of a bitcoin loan, some of which you cite, when should we expect such to occur? Is there any reason to believe bitcoin could affect the supply or demand of loans denominated in other currencies?
I am not aware of any major Bitcoin lending, nor would I expect to see any major Bitcoin lending at any point. The reason is simple: Bitcoin is not a legal tender anywhere, nor does it enjoy any legal status as a currency anywhere. Courts deal in fiat currencies, and both lenders and borrowers need to deal with the court system in case of default; until courts start dealing in Bitcoin, issuing a Bitcoin loan will only add complication to such proceedings.
In my view, Bitcoin will ultimately be little more than another way to make electronic payments. Merchants will accept Bitcoin only to immediately trade the Bitcoin units for some fiat currency on a Bitcoin exchange. Bitcoin exchanges will basically be payment processors. This, of course, assumes that technical problems do not destabilize everyone's trust in Bitcoin as a secure payment system (and given that it fails to meet the formal definition of security used by cryptographers, I suspect that this is bound to happen).
All of this makes sense, which leads me to think that when you said "deflation is bad" above you meant it in a very general sense rather than as a criticism of bitcoin. After all if there will never be significant loans in bitcoin it can't very well be implicated in a breakdown of the lending system. Sorry for misunderstanding.
Yes. Ripple[1] has allowed for the use of bitcoins to denominate loan-like credit extended between people for quite some time[2]. You just have to be careful.
By the way I back my ripple credit entirely with bitcoin -- if you can make a payment go through the network to me, you are entitled to it.
It's too late for an "alternative" now. Regardless of your views on the impact of deflation in an overall society, a deflationary currency is always going to be a better store of value and a more attractive option for a consumer. The wheels are set in motion with Bitcoin whether we like it or not (personally I'm unconvinced that deflation causes as many problems as people claim, especially with infinite divisibility).
What happens when someone retires at the same time and tries to cash in their hoard of btc to buy stuff that no one is producing (since they also retired)? Liquidity shock. Years of deflation instantly give way to hyperinflation.
That's not easy to fix with more lucrative mining. Suppose your economy is growing at 3% real rate per annum. Now suppose that you try to have 3% more Bitcoins per annum, produced by mining. People will compete for these Bitcoins until the competition stops being profitable, i.e., until price exceeds profit. Then 3% of all your planetary resources are being burned on wasted computing power that competes to mine Bitcoins.
having a secure system with the properties of bitcoin is worth some amount of money compared to money wasted on frictional costs in the current financial system.
Setting fire to 3% of gross planetary product doesn't seem like it should be the best solution. Current financial wastage is more than this, sure, but who says that Bitcoin fixes all problems and they never come back?
It doesn't, but fortunately it only burns as much electricity as makes sense given the size of the bitcoin infrastructure which depends on how the market prices the bitcoin infrastructure. Bitcoin only needs to replace a small amount of inefficiency (in the grand scheme of the global financial market) to be worth it.
If you avoid drinking the kool-aid you don't regard bitcoin as a replacement for current methods of exchange. It only really serves one of the three functions of money very well.
The initial deflationary period is important for adoption. But in the long run, increasing scarcity of coin could jeopardize the health of the miners. Bitcoin has a transaction fee structure to handle this, but taxing transactions is hardly the way to get people to adopt your currency. Also, BTC and other fixed-supply coins suffer from early-adopter windfall effects. The early miners of bitcoin may own a significant fraction of the economy.
I'm devising a "Friedman Coin" or "Free Coin" to fix these issues. If you're interested, drop me a line.
Comments
My thoughts are that we need a new crypto currency without the deflationary flaw of bitcoin. The rate of new coins mined should increase as time goes on in a controlled fashion.
A crypto currency with managed inflation wouldn't make early adopters as wealthy, but it would be a better medium of exchange.
I don't know that you can call deflation an inherent flaw. In most econometric schools of thought, the debate between deflation and inflation boils down to expectations, making predictability more important than either tendency. IE Actors knowing what to expect from the money supply, eliminates some of the uncertainty that drives volatility. Predictability gives actors the opportunity to properly hedge protecting against the negatives normally attributed to both inflationary and deflationary currencies.
With central banks, it just became accepted that when dealing with unpredictable economies, the tendency to inflate was less dangerous than the tendency to deflate and thus why most banks will err on that side when making policy decisions. There are some great historical examples where banks organized mass deflation (I can't find one right now, but the one in my mind involved the entire country dropping zeroes from the end of their notes) and by making the change predictable, they were able to avoid many of the harmful effects.
Are you sure there are examples of actual successful deflations, where debts, payments, wages, etc denominated in the form of money deflating increased in value? I know of successful cases central banks have brought inflation under control or one currency was replaced with another that was much more valuable. But human nominal loss aversion[1] usually causes big problems during deflation in any modern economy. Maybe you could have pulled it off back in the day when 90% of the population were independent agents in the market, but not today where 90% are employees of firms with contractual wages.
[1]http://en.wikipedia.org/wiki/Loss_aversion
I don't see how a currency like BTC would deflate, ever, besides runs on the market. At least if BTC became a real market force. Right now, almost all BTC transactions are between currencies like USD, so it is functioning more like stock than real money.
If it were legitimately used in widespread transactions, the currencies market wouldn't impact the valuation as much, and without that turbulance, since BTC's can't "disappear" under your couch, and you have a mathematically fixed growth rate up through 2140, the currency shouldn't deflate. Just as a frequently cited example, the US had a crisis in the 70's not because pegging the dollar to gold was bad, but because the real gold reserves were covering vastly less of the actual dollars in the market drastically due to money printing.
BTC doesn't have those issues - they are fixed in circulation, have a predictable rate of disbursement that will slow to nothing in 2140, and at that point the exchange rates for goods with BTC would only fluctuate its fixed value against other currencies or against goods scarcity. I wouldn't imagine, if it actually became a well grounded currency, significant swathes of the market making a run on it and depreciating its value as badly by that point. It lets you keep currency speculation, though, without the rampant inflationary effects of quantitative easing and money printing at whims.
There have been a few already made, check out the Alternative Cryptocurrencies forum on bitcointalk.
The problem with a coin like this is initial adoption (which is required to create the network effect that makes the coin useful). Why would anyone put serious money into a currency that is guaranteed to lose value forever through inflation and with no useful network?
The only reason inflation works for a currency like USD is because there are already billions of users locked in by the extremely large network effect, and similar inflation on any viable alternatives like the EUR.
Look at inflating currencies with smaller networks (south america) and how hard it is to keep people from getting rid of that money, usually it requires government (violent) intervention.
Because money is a medium of exchange, and has no inherent value. Hoarding cash is equivalent to destroying production-- by then time you try to spend it, there won't be anything left to buy. Inflation encourages people to be active in the system, exchanging to produce real value, not staring a the charts of growth of imaginary wealth that means only as much as a video game high score board.
That sounds awfully counter-intuitive. Before there'd be nothing left to buy, the prices of things to buy would go up (i.e. inflation), which would discourage further hoarding.
Hoarding cash does not destroy production, as the number of units of cash in circulation does not affect economic productivity.
Yes. Finally, someone levelheaded. Every bitcoin supporter I've ever spoken to has basically dismissed deflation as a non-issue. It is important, and if the bitcoin economy grows, the deflationary effects are only going to become more visible.
I have never met a single person who was able to convincingly raise at least a little bit of suspicion about deflation in me. Why is deflation bad? Because people stop spending? Can't you see how ludicrous this explanation is?
It's more because people stop investing
If the real rate return of investments over any period of time is on average less than simply hoarding the currency (an inevitable consequence of a permanently deflationary economy) your economy is screwed up.
Bitcoin and its users have no duty to any existing "economy", and certainly don't amount to one themselves. If one's holdings of bitcoin appreciate with respect to some other commodity, eventually the wealth effect will make investment and other spending in that second commodity attractive. No one is in any sense stuck in a "bitcoin economy".
If I'm misunderstanding, please clarify.
Your above points are correct; depreciation in general is a bad thing but for a "parallel currency" aiming for a particular niche like Bitcoin it's probably not an issue, especially because holding Bitcoins is definitely not without risk.
(In the unlikely event that Bitcoins ever became widely popular with speculators, then governments will tax or restrict domestic purchasers or exchanges for Bitcoins (they can't and won't be especially efficient at doing this; the US/EU don't need to be to severely damage the exchange value of a Bitcoin.).
Ok, let's say everybody in the world uses Bitcoin. Nobody invests. If that's the case, then the amount of goods and services in the economy remains constant, which means the price of Bitcoin doesn't rise. How do I make money then without investing and creating more value?
In that scenario, once you've adjusted for the risk associated with investment you'd give up all hope of "making money" - with no aggregate monetary growth(1) it would be like "investing" in a game of poker (sure, you might back the surprise winner but...). It's amazing how much less risk averse you are if you lose ~2% per annum from sitting on cash and you can make money from a slightly-worse-than-average investment portfolio (and there's a 2% return for an average investment)
Arcane hypothetical edge cases are unhelpful for exposition. It's easier to look at the conventional alternative: everybody in the world uses a means of payment which diminishes in value at a slow but stable rate. Now the average person that invests in production gains, and the average person holding cash is incentivised to convert that cash into something they want or funding the production of something others want. Isn't this better?
(1)strictly speaking we're better off looking at money as a flow, in which case the velocity of circulation comes into place, but a fixed money supply certainly wouldn't induce that to increase....
with no aggregate monetary growth it would be like "investing" in a game of poker.
This statement is wrong, because you measure profits in money rather than value. With bitcoin the amount of money in the economy stays the same, true. However the value of each unit grows as soon as you invest and produce something useful that people want. This means, you may receive back even less than you invested in absolute units of money, but more in value.
As I had replied to Eliezer, investing in a deflationary world will be tilted towards capital that yields a regular stream of real dividends: actual goods, not money. That is, there will be fewer corporations that will be expected to give money as a yield and more consumer cooperatives that will yield goods and services. Farms that yield food, NG well and that yields NG, a power plant and get a yield of electricity and so on.
Actually, it is only less for a sub-average investment. If you invest something with an above-average return, you'll be better off investing.
"Why is deflation bad?"
Deflation is bad because it makes loan repayment more difficult during both recessions and periods of growth. In the extreme, deflation will worsen recessions and hinder expansions of the economy.
Then we have to ask, bad for whom? For those who take loans certainly it's bad. For those who loan, it's great. Inflation creates a reverse situation. It is possible, I would imagine, to create contracts that adjust for the fluctuations in currency valuation, but it is unwise to blame deflation for all the bad luck of those who take loans. Deflation would only mean that people taking those loans would think really hard about the prospects of any future profit they are hoping to get from investing the loaned money. Which means we'll have a more, not less, stable economy.
Actually, deflation is bad for both lenders and borrowers, since it increases the likelihood of default. Let's put it this way: if you knew that it would be hard for me to repay a loan during an economic boom, and even harder during a recession, would you want to lend money to me? Deflation actively discourages lending, by creating an incentive to hold money.
It is easy to think that lending is a bad thing, but let's put it this way: it is because we are able to take out loans (of various kinds) to start businesses that non-wealthy non-aristocrats are able to participate in the market. Too much credit is a bad thing, but too little credit denies capital to anyone who is not already wealthy.
You have a point, however I would like to note that Bitcoin is not actually a deflationary currency as I explained in this comment: https://news.ycombinator.com/item?id=5403360
The bigger issue we should be focusing on is not deflation or inflation but rather who controls it. If it is controlled by one player (government) then it ultimately decides who benefits and who loses from it. It is a much more honest situation when market controls it. Once there are too many people taking loans and going bankrupt, then investors stop investing until a point is reached at which it is more profitable to invest than to hoard again.
In any case, the extent to which people are denied access to capital is almost exactly the same as the extent to which they benefit from hoarding.The distribution of capital changes, rewarding less opportunistic and more hardworking people during deflation. Ironically, it's exactly the opposite of what governments in almost any country tell people.
Finally, I would like to add that even though capital is important, it is not the only component responsible for creating value and wealth. Thus, economy would reward not only people capable of obtaining capital, but also those who have great ideas and skills to implement those ideas.
It is deflationary. I have 1€, I can buy one loaf of bread with it today. One year from now: Inflation - I can buy 0.5 loafs of bread. Deflation - I can buy 2 loafs of bread.
Have any loans ever been denominated in bitcoin? Given the disadvantages of a bitcoin loan, some of which you cite, when should we expect such to occur? Is there any reason to believe bitcoin could affect the supply or demand of loans denominated in other currencies?
I am not aware of any major Bitcoin lending, nor would I expect to see any major Bitcoin lending at any point. The reason is simple: Bitcoin is not a legal tender anywhere, nor does it enjoy any legal status as a currency anywhere. Courts deal in fiat currencies, and both lenders and borrowers need to deal with the court system in case of default; until courts start dealing in Bitcoin, issuing a Bitcoin loan will only add complication to such proceedings.
In my view, Bitcoin will ultimately be little more than another way to make electronic payments. Merchants will accept Bitcoin only to immediately trade the Bitcoin units for some fiat currency on a Bitcoin exchange. Bitcoin exchanges will basically be payment processors. This, of course, assumes that technical problems do not destabilize everyone's trust in Bitcoin as a secure payment system (and given that it fails to meet the formal definition of security used by cryptographers, I suspect that this is bound to happen).
All of this makes sense, which leads me to think that when you said "deflation is bad" above you meant it in a very general sense rather than as a criticism of bitcoin. After all if there will never be significant loans in bitcoin it can't very well be implicated in a breakdown of the lending system. Sorry for misunderstanding.
Yes. Ripple[1] has allowed for the use of bitcoins to denominate loan-like credit extended between people for quite some time[2]. You just have to be careful.
By the way I back my ripple credit entirely with bitcoin -- if you can make a payment go through the network to me, you are entitled to it.
[1] http://www.ripple.com
[2] http://ripplepay.com
https://btcjam.com/
It's too late for an "alternative" now. Regardless of your views on the impact of deflation in an overall society, a deflationary currency is always going to be a better store of value and a more attractive option for a consumer. The wheels are set in motion with Bitcoin whether we like it or not (personally I'm unconvinced that deflation causes as many problems as people claim, especially with infinite divisibility).
What happens when someone retires at the same time and tries to cash in their hoard of btc to buy stuff that no one is producing (since they also retired)? Liquidity shock. Years of deflation instantly give way to hyperinflation.
What are the deflationary effects? I am curious, I have heard this before, and I don't understand.
What are the effects you expect to see?
That's not easy to fix with more lucrative mining. Suppose your economy is growing at 3% real rate per annum. Now suppose that you try to have 3% more Bitcoins per annum, produced by mining. People will compete for these Bitcoins until the competition stops being profitable, i.e., until price exceeds profit. Then 3% of all your planetary resources are being burned on wasted computing power that competes to mine Bitcoins.
>wasted computing power
having a secure system with the properties of bitcoin is worth some amount of money compared to money wasted on frictional costs in the current financial system.
Setting fire to 3% of gross planetary product doesn't seem like it should be the best solution. Current financial wastage is more than this, sure, but who says that Bitcoin fixes all problems and they never come back?
It doesn't, but fortunately it only burns as much electricity as makes sense given the size of the bitcoin infrastructure which depends on how the market prices the bitcoin infrastructure. Bitcoin only needs to replace a small amount of inefficiency (in the grand scheme of the global financial market) to be worth it.
If you avoid drinking the kool-aid you don't regard bitcoin as a replacement for current methods of exchange. It only really serves one of the three functions of money very well.
The initial deflationary period is important for adoption. But in the long run, increasing scarcity of coin could jeopardize the health of the miners. Bitcoin has a transaction fee structure to handle this, but taxing transactions is hardly the way to get people to adopt your currency. Also, BTC and other fixed-supply coins suffer from early-adopter windfall effects. The early miners of bitcoin may own a significant fraction of the economy.
I'm devising a "Friedman Coin" or "Free Coin" to fix these issues. If you're interested, drop me a line.