Bitcoin: Is it Really a Currency?

The bitcoin logo
The bitcoin logo
Bitcoins are the latest geeky fad - only, it's no joke, a digital currency worth millions of real dollars and often used in illegal transactions, most famously by the Silk Road website, a sort of black market e-Bay in the dark Web that was recently shut down for illegal activities. It was making something like $2 million real dollars a month yet all transactions were in bitcoins.

Ever since the US Congress took a look at it, bitcoins have acquired a semblance of legitimacy and have become all the talk on Wall street and in the media. One bitcoin is now worth well over $1,000, outperforming gold, and reports are that the Chinese love it and are quite willing to use it. Bitcoins are theoretically in limited supply - 21 million is the total - as a result of so-called computer "mining", i.e. solving algorithms - a method apparently invented by some unknown Japanese geek some years ago, or so the rumor goes.

Geeks have set up a magazine to help spread the word about it - they call it a "cryptocurrency" and you can learn all about how to manage it on Bitcoin Magazine. This is an active group, conferences are planned around the world, from Toronto to the Philippines, including a Bitcoin Expo 2014 announced for Shanghai. There's also a dedicated website to encourage payments in bitcoins and garner merchants (some 12,000 merchants are said to have joined so far), here's their home page (my screen shot):

It seems that the month of November, in part thanks to Black Friday, has been very lucrative, and they've processed over 55 bitcoin merchant transactions, a 165% increase over October (for more details, see here). A "BitPay Boom"? Maybe...Their (not so secret) hope is to replace credit cards for online shopping.

 In spite of all the fanfare, bitcoins so far have been primarily used on gambling sites. So is it a real currency or is it a gambling chip? There is a strong suspicion that it will never make is as a broadly accepted currency on Main Street and that it is just a geeky method of payment reserved for illegal or semi-legal activities - really cool when you don't want your payments to be traced to you.

In my view, the suspicion that it is not a currency at all is well-founded. The fact that it is a method of transaction on the Net that ensures absolute anonymity is its main advantage. And of course that is the reason why it's so appealing to Mafiosi-types as a way of recycling money.

But for a broad legit commercial use, it would need to become stable in value - something it inherently can't do. In the past three weeks, its value has been multiplied by 400 (see article below), it is bound to zigzag more in the future.

Any chances it will ever achieve stability in the long run? No, none at all. And this for two very simple reasons:

1. There are too few bitcoins around and thus not enough depth to the exchange market since it is set at a maximum of 21 million bitcoins: that is not enough and not flexible enough. The means to address variations in value are not there.

2. Bitcoins do not have the institutional support of real currencies. And that is a crucial difference. The US dollar has the Federal Reserve and the banking system, the Euro has the European Central Bank etc etc. There is no Central Bank for bitcoins, nor a dedicated banking system and there won't ever be any: what governments and what banking systems would take on themselves the management of bitcoins? The Chinese? Hmmmm....

The bitcoin world is a virtual casino: you buy bitcoins the way you buy chips in a gambling casino. Real dollars go in, they are used in a vortex of legal, semi-legal and illegal transactions that determine the bitcoin value, and real dollars can be taken out anytime...provided you find someone else willing to gamble in bitcoins!

I've tried to illustrate how it works in the following infogram. My object is to make you see immediately the difference between bitcoins and your credit cards when you buy something online:


Yes, your bitcoins are not linked to any banking system, that is why they are not a currency, merely a digital payments method. Perhaps, our banking system could learn something from the rather sophisticated bitcoin technology to improve the security of online payments that certainly needs improving - that would be a major positive fallout from the bitcoin phenomenon. 

How long is the bitcoin phenomenon likely to last? Pretty long, judging from the copy-cat virtual currencies that it has spawn. People just love to gamble.

 How important is it for the economy? Not very - at best, it's the equivalent of a virtual Las Vegas...
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