The Fallacies at the Root of Bitcoin's Value: Part 2 - Troll Economics and Value From Transferability

"Bitcoin has value a tool: you can use it to near instantly make payments across the world, with almost no transaction fees."

In my initial post, I clarify the properties of value, why I believe a source of value outside of trade is necessary to at least rest assured with a given currency, and why I believe that Bitcoin (aka BTC) does not have such a source of value. There are many responses to this point, citing claimed sources of value, but I believe them to be almost always erroneous. Here, I will focus on the above claim of Value From Transferability.

Disagreements about the economic viability of BTC can usually be split into two areas: "Does Bitcoin have consumable value?" and "Does it even matter? (I mean, look at the inflated price of gold!)". With respect to the claim of Value From Transferability, I will only argue against the former. Arguments against the latter can be made independent of this particular claimed source of value, and will be done in future posts.

Some specifics on the nature of value

Most importantly, certain things are valuable because they're directly consumed. The "shininess factor", with regard to things like silver (aka Ag). This is based on personal preference, and its market exchange rate is as reliable as the existence of that preference among independent individuals across the economy. Other things are valuable as tools to help produce or obtain things that have shininess. Still other things have properties, currency features, that help preserve its own value, assuming it has value to begin with. Durability of Ag is a canonical example.

However, all action in the real world is speculative. Even when I value something for shininess, I speculate that I will in fact enjoy it. But this is not speculation on others' behavior, so it is not relevant to this discussion. More importantly, if I'm a holder of Ag for the purposes of exchange, its value from durability depends on another person down the line valuing its shininess, making the value from durability speculative. And if I'm talking about a commodity without any shininess attributes, that is circulating as currency regardless, any properties such as durability has arbitrary speculation, ie I'm effectively guessing people will continue to take it, because they did yesterday.

Problem?

So with that in mind, let's revisit the Value From Transferability claim: BTC has value, because it's useful, because it can extremely cheaply and reliably transfer value across the world. Seems plausible enough. I want to make a transaction of Ag to somebody across the world in exchange for a vintage postage stamp I wish to collect, but there are expensive wire charges involved. However I find that I am able to exchange some Ag for some BTC in order to send that BTC across the world for miniscule fees (and the fees are not zero). Thus, the BTC demonstrably is valuable to me in that moment.

So what is the problem? In short, it is begging the question. If the BTC system were a means of cheaply transferring something with established value, with BTC as the vessel, then yes, that would give BTC a sustainable value. However the BTC system is a means of transferring BTC. Any value inherent in it is established after, and independent of, the transfer. The claim of Value From Transferability shouldn't depend on BTC already having an established value from some other source, otherwise the claim is superfluous. Thus, we are left with BTC having value because it helps me transfer value, that value again being in the form of the ability to transfer value, ad infinitum.

Value From Transferability is a Currency Feature, but without any speculation on somebody appreciating its shininess. Exactly how much value is at the end of this chain of events is completely arbitrary. Thus, in reality, as with essentially every source of value of BTC, it comes down to arbitrary speculation on people's behavior. Again, whether that is an acceptable basis for a currency is the subject of another discussion, but this conclusion should suffice to dispel the claim that Value From Transferability changes this basis.

Preferences in detail

Let's start with the fact that an exchange can take place when two entities have opposite relative valuations of two objects:

V1(A ) < V1(B)

V2(B ) < V2(A)

Where VX is the person X's valuation of the given object.

Base case: Pure arbitrary speculation

Supposing you were to describe a scenario where, as I claim, people choose to use BTC purely based on arbitrary speculation. For example, let's say there is a current exchange rate of 10oz Ag/BTC. However, there is a common fear among certain people that Ag will soon take a dive. But BTC has been holding steady for some time, so it is preferred by those people. Suppose the cost of each BTC transaction is .01 BTC. What would this scenario look like?

The first person prefers to trade in their Ag for BTC at the current exchange rate:

V1(8.1oz Ag) < V1(.81 BTC)

This same person prefers to trade 0.81 BTC for a certain product, P1. To properly demonstrate opposite relative valuations, which is necessary for a trade, we also note that they prefer 0.8 less than either of these:

V1(.8 BTC) < V1(.81 BTC) < V1(P1)

The next person prefers to trade P1 for .8 BTC, and trade that for another product, P2. 0.79 BTC is shown, again, to demonstrate opposite relative valuations:

V2(P1) < V2(.79 BTC) < V2(.8 BTC) < V2(P2)

And so on:

V3(P2) < V3(.79 BTC) < V3(P3)

Note that the objects are colored to highlight the opposite relative valuations, which allow for the objects to be exchanged, as explained in the beginning of this section.

There's nothing setting the exchange rate of BTC here other than each actor's valuation of their desired product, and their speculation that the next entity will part with it for that much.

Transferring value via BTC

Now let's examine the claim of Value From Transferability, which implies that the above is inaccurate. Suppose I am holding 10oz Ag, which I am willing to exchange for the postage stamp. The stamp vendor is willing to part with it for 8oz Ag so that she can buy a phone. The traditional wire transfer fees are 2oz Ag. The expenses to me would total 10oz Ag, so I am willing to make this transaction.

But then, before I pick up the phone to call Western Union, the stamp vendor hears about BTC from the phone vendor. She explains to me that I can exchange 8.1oz Ag for .81 BTC, send it to her, and I will lose only 0.01 BTC in transaction fees. She can exchange the remaining .8 BTC for the phone, closing the deal. Very directly put, the value of BTC to me here is that it has saved me 2oz Ag. Seems on the surface like the BTC has real use value, but let's examine further.

Since I would be willing to trade 10oz Ag for the stamp, I value 10oz Ag less than I value the stamp. Assuming I could trivially give away silver if I really wanted to, I reasonably value 10oz Ag more than 8.1oz Ag. Here Vm denotes my valuation:

Vm(8.1oz Ag) < Vm(10oz Ag) < Vm(Stamp)

I value .81 BTC more than 8.1oz Ag, because with the Ag I can't directly obtain the stamp. However, I want the BTC for no reason other than to obtain the stamp in an exchange, therefore I value the stamp even more:

Vm(8.1oz Ag) < Vm(.81 BTC) < Vm(Stamp)

Now I am speculating the following, where Vs denotes the stamp vendor's valuation:

Vs(Stamp) < Vs(.8 BTC) < Vs(Phone)

The stamp vendor would, in turn, be speculating that the phone vendor could use the BTC to obtain something he wants:

Vp(Phone) < Vp(.79 BTC) < Vp(Pp)

Now let's restate the above, rearranging some terms, and adding some self-evident terms (valuing more BTC over less):

Vm(8.1oz Ag) < Vm(.81 BTC)

Vm(.8 BTC) < Vm(.81 BTC) < Vm(Stamp)

Vs(Stamp) < Vs(.79 BTC) < Vs(.8 BTC) < Vs(Phone)

Vp(Phone) < Vp(.79 BTC) < Vp(Pp)

This takes the exact form as the arbitrarily speculative base case:

V1(8.1oz Ag) < V1(.81 BTC)

V1(.8 BTC) < V1(.81 BTC) < V1(P1)

V2(P1) < V2(.79 BTC) < V2(.8 BTC) < V2(P2)

V3(P2) < V2(.79 BTC) < V3(P3)

Despite my making a choice of BTC over Ag, the incentives resulting in exchanges are fundamentally the same as the arbitrarily speculative base case. BTC is still valued only by speculating on other people's willingness to take it in exchange for desired products.

But saving 2oz Ag in transaction fees seems to be valuable, how does that not factor in? Well, just as with the base case, the perceived disutility of Ag has no impact on the perceived utility of BTC in obtaining desired products.

A further observation: the fact that using 0.8 BTC can save me 2oz Ag is based on the particular exchange rate. If the exchange rate were 1oz Ag/BTC, it would take 8 BTC for the same effect. In other words, the amount of utility in a given amount of BTC is based entirely on its exchange rates.

Transferring value via a voucher

This may seem altogether counterintuitive. Am I effectively saying that money transfer systems are not fundamentally valuable? No, a transfer system is valuable as a tool, so long as what is being transferred already has value. Let's imagine a product that does transfer value, then.

Supposing that, instead of BTC, I found a wire service where I could spend 9oz Ag for a voucher, which I will denote by v8, which I could transfer half way across the world. 9oz Ag is cheaper than 10oz Ag, so I'll take it.

Vm(9oz Ag) < Vm(10oz Ag) < Vm(Stamp)

Vm(9oz Ag) < Vm(v8) < Vm(Stamp)

Vs(Stamp) < Vs(v8) < Vs(8oz Ag) < Vs(Phone)

Similar rules thus far apply here as with BTC. However, instead of the stamp vendor speculating about a phone vendor, she speculates about the preferences of the wiring company:

Vw(8oz Ag) < Vw(v8, R)

Where R is the reputation retained by the company for honoring its voucher.

Putting this all together, my valuation of v8 is based on the speculation that the stamp vendor will speculate that the wiring company will want to maintain its reputation by honoring the v8. Such a voucher system could not be implemented using BTC because no company has control over the exchange rate. They each must themselves speculate on how other companies would treat BTC. Honoring the v8 on the other hand only takes agreement on the part of one company.

There is no need to speculate on the preferences of further people because the v8 is destroyed at the point of redemption. Unlike with BTC, there's an anchor on the exchange rate, somewhere between 8 and 9oz Ag. I could even trade the v8 in a market, where people would value it based on the utility of transferring 8oz Ag and their trust of the company to redeem it.

Conclusion

Looking at the claim of Value From Transferability, it seems that some BTC proponents see it as a currency feature of BTC, and yet believe that it is inherently useful to the point where it gives it a "shininess factor". I hope that I've shown that shininess does not follow from a currency feature, because shininess happens after the commodity stops being a currency. Alternately, they may see it as a tool to transfer existing value. And indeed, that would make BTC sustainable. I hope that I have shown, however, that only arbitrarily speculative value is transferred. Thus, this feature merely cuts down on losses incurred in transferring BTC, while BTC's value ultimately stems from arbitrary speculation.

The Fallacies at the Root of Bitcoin's Value: Part 1 - "Intrinsic Value"

I will admit that the whole Bitcoin (aka BTC) phenomenon is fascinating to me. Technologically it's astonishing. As a libertarian, politically I find it very exciting. So being a libertarian, I may be a bit of an anomaly these days in that here I am taking a position against it.

From the beginning when I heard about BTC, I thought, here's something that excites a few technologically oriented libertarians because of its subversive nature. But these must be libertarians who haven't thought that much about the economics involved. Any day now, I assumed, the opponents of fiat currency would get word of it and step in and set their brethren straight. This was, after all, a currency which, just like the Federal Reserve Note (aka FRN, aka US Dollar) is backed by nothing of what I considered actual value. This is "fiat currency", without the fiat. The only fundamental difference, I figured, is that it cannot be inflated (which I will not deny is in itself very important). Of course instead, it's taken the libertarian world (among other worlds) by storm. It started with a lot of skepticism, but most of the skeptics seem to have been won over. There remains a handful of holdouts, and today, at least vocally, we seem to be in the minority.

So I will try to make my economic case against BTC in a series of posts (it's unfortunately ballooned into something way too big for a single post). I will not go into certain economic criticism, such as the argument that it is bad for being deflationary. Other people cover that argument better than I do, and I'm not sure how I feel about it anyway. I will go into very few technical details, there are again much better sources on the Internet than myself for that.

Fiat Currency, without the Fiat

My principal argument against BTC is that it has no significant use value, and as such its value almost entirely consists of a bubble, and is bound to collapse. I say "significant" use value because I will concede that the current novelty of BTC very likely has an effect, however I suspect novelty cannot last after it is no longer novel. Beyond that, it is merely people speculating on that novelty, and (likely to a greater extent) on each other's speculation.

Of course this is nothing new, it's an argument that BTC proponents have heard all too often and for which they have prepared counterarguments. However I believe that the counterarguments are not well founded. Just about every claimed source of value of BTC fails, in my mind, to justify it. Some claimed sources, such as scarcity, are not actually a source of value (though it affects price). Some, such as value from being able (with some effort) to buy anonymously, are actually a secondary source of value which requires an existing primary source (no different than how durability of metal adds value to it). Some, such as value from being accepted by vendors, are merely a form of speculation.

If you agree with me so far, there's also the counterargument that precious metals have the same concern as BTC, that they must be in a massive bubble right now given how high they're trading over what one may presume would be their market rate purely from use value. This may be true, but I'm inclined to think that their use value gives the exchange rate a certain floor. If the Silver (aka Ag) price were to crash to near zero, some enterprising individuals would make bids for as much Ag as they could get their hands on in order to sell it to consumers, and this would very quickly revive the exchange rate. A new bubble could always reform on top of this. BTC has no such guarantee.

If this is still not a cause for concern to you as a BTC proponent, I understand. Personally, it makes me inclined to think that BTC cannot last in the long run, but I'm not able to make any stronger argument that it wouldn't. However, I would at least like you to recognize along with me how little BTC is hanging on.

I have barely touched the specific counterarguments here, I will go into all of these counterarguments in detail in future posts. However for this post, I would like to first address the important question of reasoning about value in itself.

"Intrinsic Value"

What is meant by value, exactly? Some fellow opponents of BTC will point out that BTC has no "intrinsic value". Proponents will be quick to point out that there is no such thing as "intrinsic value". Note that I did not use this term in stating my own case, because I realized that this term is too ambiguous to be worth using in this discussion. Of course the proponents are correct that all valuation is totally subjective. Nothing has "intrinsic value", in that the value of an object is the value an individual attributes to that object. From this standpoint, yes, it looks very much like Ag and BTC are on equal ground. However there is more to be said about the nature of value.

We must have a starting point when discussing value. It is difficult to give a sufficient definition of value, but fortunately we can sidestep this specific question. It suffices to attribute to value the following property: value manifests as an individual's decision to choose one action or object or set of objects over another. In economics, there is no need to describe exactly what, if anything, value actually means. There is no need to attribute a cardinal or nominal quantity to value. When it comes to one collection of commodities over another, we only need to declare that something is of greater value than another to a given individual if that individual chooses that thing over the other. As such, despite valuation being subjective by definition, its manifestation is objective. Also worth noting is that we can attribute ordinal quantity to value.

Ultimately, all decisions in an economic actor's life aim toward a state of maximum satisfaction. This satisfaction is very generally defined, and can take on many forms. But all actions have an ultimate purpose, with a logical framework (however faulty), and a set of information (however faulty) that has lead the person to believe that their satisfaction will most likely be maximized given a particular action. Thus, if a person values one collection of commodities over another, it is tantamount to saying that the person believes, given certain information and logical reasoning, that the chosen collection will lead to greater satisfaction than the other collection.

There may be fundamentally different sources of value. Some sources of value stem from an expectation of immediate gratification. Some sources of value stem from the conclusion that the object may later be exchanged for something that will give greater gratification. This is where the differences between BTC and Ag start to arise. Given what I've asserted about value, BTC demonstrably has value, because people are choosing to exchange other things for it. However I argue that certain fundamentally different sources of value apply to Ag that do not apply to BTC, and they have consequences that affect how people will value these commodities in the long term.

I will briefly note here that we can observe the consequence of valuation between different commodities by their exchange rates. Though valuation and exchange rate have an effect on one another, they are not synonymous. I will talk more about this in a later post when I discuss scarcity. Furthermore, there are factors in addition to valuation that affect exchange rate, and (more obviously) there are factors in addition to exchange rate that affect valuation. However, if the valuation of a certain commodity by everybody in the market is none, it would imply that nobody would exchange anything for that commodity, thus the commodity would have a zero exchange rate vis a vis every other commodity.

Different sources of value

The reason it's important to understand the nature of value is to highlight the fact that there are sources of value that are fundamentally different from each other in nature. Again, some sources of value of an object are due to the user deriving satisfaction directly from the object. In such cases, the valuation is unaffected by valuations that other people make on the object. Supposing an economic actor, Sally, reasons that if she makes the decision to make an exchange of coffee for Ag, she will be happier for it. Sally is making a subjective valuation, based on her own direct preferences between coffee and Ag.

Some other sources of value are based on the actor's understanding of the state of the economy. For instance, supposing an economic actor, Jim, would be directly satisfied by coffee, but he currently holds grapes. His reasoning may be that if he makes the decision to make an exchange of a certain amount of grapes for a certain amount of Ag, he can make another exchange with the Ag at a later point in time for a certain amount of coffee. Jim is also making a subjective valuation, but it is not simply based on his own preference between grapes and coffee, but also based on his speculation on the existence of somebody like Sally, who values Ag and holds coffee.

If there is a general tendency for Ag to render utility for individuals such as Sally, there should always be the potential for an exchange rate between Ag and other commodities. If there is a general tendency for individuals such as Jim, people who believe in the existence in Sallys, to exist, there will be a potential for an exchange rate, so long as Jim still believes in the existence of Sally. If Jim one day realizes he is wrong, his valuation will have to make a correction, and if this happens after he trades his grapes for Ag, he will be left disappointed.

So, when fellow opponents of BTC talk about BTC's lack of "intrinsic value", they are generally talking about the lack of valuations similar to Sally's. Yes, both Sally's and Jim's valuations are subjective, like all valuations, but only Sally fully understands her own preferences. Holders of a commodity are generally like Jim. They are hoping that Sally exists. It doesn't suffice that other Jims exist, because making a valuation based on that sort of speculation would just be betting that other bets. They don't just want to know that there are other people placing the same bet, they should be looking for assurance that they're right.

Final Comments

This is armchair economics. However, lest I try to take credit for others' ideas, I will note that a lot of my examination is informed by my casual readings into the Austrian school of economics, in that I'm analyzing the logical outcome of scenarios based on individual purposeful actions, with expected outcomes based on logical reasoning (faulty or otherwise). However one thing that still doesn't make any sense to me is Mises' regression theorem (though I haven't read deeply into it yet). What I am arguing probably flies in the face of it (even though I know some Austrian holdouts actually use this same theorem to argue against BTC). And I know that some, if not most, Austrian economists are in favor of BTC. So, all the same, don't take anything I'm saying as a fair representation of the Austrian view. (And if Robert Murphy reads this and sets me straight it would make my day.)

As I have considered the potential sources of value of BTC, I have come up with more specific classification than what I've described here. In my next post, I will talk more about them, and how they apply to commonly claimed sources of value put forth by BTC proponents. In subsequent posts, I will address specific claimed sources of value in greater detail.