It is generally acknowledged that money has two primary functions: as a medium of exchange and as a store of value. When a form of money, or currency, is able to perform the first of these functions successfully, then it is incorporated into people’s traditions and becomes an established model of behaviour. This means that most or all the members of that society are willing to accept it in exchange for desired goods and services, as well as to accept it as payment for labour performed or services rendered. This is true of all the major national currencies that exist in the world today: the U.S. dollar in the United States, the euro in the euro-zone countries, the yuan in China, the yen in Japan, the Swiss franc in Switzerland, the peso in Mexico, the dirham in Morocco, the New Zealand dollar in New Zealand, and so on. In some countries or regions, it can happen that a foreign currency, such as the U.S. dollar or euro, is accepted outside of its official monetary borders and becomes the preferred, or even official, currency of the non-issuing country.
Historically, the belief that gold and silver have some intrinsic value that, for example, paper and less valuable metals like iron or copper, or the currencies that are made from these materials, do not possess is nothing more than a superstition. In both cases, this value is due entirely to what I have called imitative value. This is shown by the fact that other animals will not bother to take, hoard, or protect these metals if they are left in the open, unprotected and unguarded. After all, gold and silver will not nourish, clothe, or protect one; and there are other metals that are better for making tools, weapons, and shelters than these precious metals. Viewed from a purely practical point of view, gold and silver have little value, and certainly less value than other, more common, and less costly metals.
I will call by the term “the monetary superstition” the belief in the inherently superior value of gold and silver, a belief that still persists to this day. This superstition is perhaps most prevalent in countries where money formerly consisted of precious metals like gold and silver. Historically, it took many centuries for societies to liberate themselves from the monetary superstition, an important step in the development of modern economies.
If one examines the histories of countries that previously used gold and silver currency, one observes a progression from gold and silver currency, to currencies that contained reduced amounts of these precious metals, to paper currency, to more or less reliable declarations of the intent to pay, such as cheques, bank drafts, and money orders, to plastic cards, and most recently to digital bank accounts.
In the key transition from gold and silver currency to paper currency, due to the prevalence at the time of the monetary superstition, it was believed necessary to back these vast and ever-growing amounts of paper currency, which were believed to have no intrinsic worth, with gold, which was believed to have a high intrinsic worth. This practice, called the gold standard, was adopted by many countries in the latter part of the nineteenth century and during parts of the twentieth century. However, there are significant problems with maintaining the gold standard, which explains why no country adheres to it today. First, this necessitated the keeping, protecting, and periodic shipping of large quantities of gold by governments around the world, an onerous cost that was a significant budgetary burden. As economies expanded, governments would have had to increase their gold reserves in rough proportion to the total amount of circulating paper currency. Second, as is also true of fixed exchange rates between two or more national currencies, sooner or later, the market price of gold – or what would be its market price if the price of gold were allowed to fluctuate freely according to market supply and demand – will deviate from the official fixed rate at which a country’s paper currency can be exchanged for gold. And the greater the difference between the market rate and the official rate, then the greater will be the loss, or the potential loss, that is incurred by the central bank or other government agency that is responsible for exchanging the nation’s paper currency for gold. Unless the government has some means of acquiring gold at lower-than-market prices, such as a government-owned gold mine that can produce gold at relatively low rates, this practice would entail a perpetual drain on the public treasury, since it would allow for the possibility that any individual could purchase a large quantity of gold at the official rate and then sell it for a profit at the higher market rate. Hence, the abandonment of the gold standard[1] was necessitated by the financial burden that it posed on governments around the world, along with the risks involved in shipping large quantities of gold bullion from one country to another in order to settle trade deficits or balance of payments.
However, there was an important discovery made during this period, a discovery that was already being made by governments that had begun to reduce the gold or silver content of their currencies, which in effect constituted legalized debasement of the currency by the government: the reduction of the gold or silver content of coins, along with the introduction of paper currency, did not lead to a reduction in people’s confidence, or their willingness to accept it in exchange for products, services, and labour. In other words, people were gradually being weaned off the monetary superstition, which had prevailed for millennia in some places.
There is another way to regard the gradual progression of modern forms of money, from gold and silver specie, to paper money, to reliable declarations to pay, to credit and other cards, and finally to digital money: with each novel means of payment, the size, and also the speed, of the economy was able to increase in a manner that it wouldn’t have been able to before. To put it another way, roughly speaking, the economy had outgrown the form of money that was most prevalent at the time. For example, in the past, when money consisted of gold and silver coins, and before a reliable system of credit was established, it was a recurring complaint that there wasn’t enough money for people to make purchases and perform other financial transactions. This is also illustrated if we were to consider what would happen if, given the size and speed of modern economies today, people were forced to perform all their monetary transactions in the reverse progression that I have listed – if they could no longer pay with digital money in their online banking accounts, or with plastic cards, or with cheques and other trusted declarations of payment, or with paper currency. Clearly, with the occasionally huge sums of money that are involved, this would pose a major drag on the operations of the global economy.
Another important historical point is that, regardless of the nature of money, there have always existed the twin dangers of fraud and theft. There has never existed a form of money that has been completely safe, reliable, or free from fraud and theft. And this observation also applies to supposedly more secure cryptocurrencies like bitcoin.
So where exactly do the recently invented cryptocurrencies fit into this progression? According to their creators, cryptocurrencies represent the next stage in the evolution of money. Given the present mania for bitcoin and other invented cryptocurrencies, there are two useful comparisons that will serve to illustrate important features of them that are being overlooked by many people: first, with local currencies, and second, with Esperanto.
An example of a local currency is the Totnes pound. For the sake of simplicity, its value is defined as being equal to the value of the British pound. The purpose of local currencies like the Totnes pound is to encourage people to purchase products and services from local providers, since, by definition, this local currency has no value outside of the limited geographical area where it is accepted by merchants and individuals. This currency is being used as it was intended, as an alternative means of payment to the British pound, and not as a means of speculation. In contrast to local currencies, however, cryptocurrencies like bitcoin are not being used presently as alternative means of payment, but almost exclusively as means of speculation.
When Esperanto was invented by L. L. Zamenhof towards the end of the nineteenth century, there existed many regional, national, and international languages that were spoken by various numbers of speakers. These languages were able to fulfill the functions that any language is supposed to fulfill, primarily as a means of communication, but also, in its written form, as a depository of knowledge, wisdom, art, traditions, stories, and a record of past events. Although it was not the intention of Esperanto’s founder to displace these already existent languages, Zamenhof believed that the simplicity and ease of learning Esperanto gave it an advantage over these other more complex, and frequently irregular, languages. However, Esperanto, which is spoken by a few million people today, has never achieved the success that its founder had hoped.
In the case of currencies, there already exist many national currencies that perform the functions that any currency is supposed to fulfill, which are to serve as a reliable, stable, and secure form of exchange and store of value. As was true of Zamenhof, who believed that his linguistic creation was superior to other languages due to its simplicity and regularity, the creator of bitcoin was spurred by the belief that he could create a decentralized currency that is superior to traditional currencies, in particular as a more secure digital or online form of payment. But the fact that bitcoin is not impervious to cybertheft and other forms of fraud has been demonstrated recently on several occasions, when significant quantities of bitcoin have been stolen by hackers.
There are several reasons for the fact that bitcoin is not being used for its intended purpose, which was as an alternative digital form of payment to the major, traditional currencies already in use. First, these currencies, and the digital methods already in existence that enable the use of these currencies for payments and other transactions between individuals and companies, are reasonably secure. Second, at least in the countries where they are accepted, these currencies are universal means of exchange, in the sense that everybody is willing to accept them in exchange for products, services, and labour – things that are not true of bitcoin and other cryptocurrencies, which can be used to purchase very few things at the present time. Third, the value of these currencies does not fluctuate in the wild and unpredictable manner in which bitcoin’s value fluctuates. This last feature of bitcoin, which is not at all a desirable characteristic in a medium of exchange like money, clearly reveals what its actual – in contrast to its intended – function is, namely, that it is presently being used almost exclusively as a commodity for speculation. And the reason why its value fluctuates so wildly is due to the fact that its value is based on the highly misleading collective pricing model of valuation. As is true with stock shares, only a tiny portion of bitcoin, or other cryptocurrencies, is actually bought and sold in each market transaction. Hence, all the other owners of the cryptocurrency are not at all justified in concluding that this most recent valuation of the currency is also the value of all the existent units of that currency, including the quantities which they own.[2]
The conclusion, then, is inescapable: just as Esperanto was not a major, or even a particularly useful, addition to the world’s languages, neither is bitcoin, along with all of its many cyber-imitators, a useful or necessary addition to the world’s currencies. In my opinion, just as Esperanto was not able to displace or even supplement the world’s already existing languages, neither will bitcoin be able to displace or supplement the world’s already existing currencies as an alternative medium of exchange. In neither case was this novel invention an important development, as perhaps the logical step towards a better, simpler, more rational, or more secure future for humanity, as their respective creators overoptimistically envisioned.
One of the dreams of free-market economists like Friedrich Hayek[3] and others is for alternative currencies to exist besides the fiat, government-issued, controlled, and regulated currencies that exist in most countries. In other words, that the government monopoly over money should no longer prevail. But like other free-market ideals or principles like deregulation, privatization, free trade, and so on, this untested idea may not provide the benefits that its espousers ardently envision. First of all, the matter of how these new currencies are issued, and their quantity increased, is important. For if they are introduced or increased by selling them in exchange for established currencies like the U.S. dollar or euro, then this clearly enables the issuer to amass large sums of money without having to do much work for it. Moreover, since it is true of all cryptocurrencies that they have little or no value as means of exchange for products or services at the present time and are almost exclusively being used as commodities for speculation, then their owners are able to exchange something that is essentially worthless for something that has considerably more value, namely the established currencies whose values don’t fluctuate in the same way. As these considerations show, the free-market belief that private issuers of money will behave more responsibly than government officials is extremely naive, if not mistaken. Secondly, the existence of numerous alternative forms of currency will beget confusion and complications. In many countries in the past, prior to the adoption of a single national currency, there existed many alternative currencies. For example, when private banks in the United States were allowed to issue their own paper currency, there existed many different, and often regionally valid and accepted, currencies. The question of the relative values of these currencies was obviously an important matter. A similar situation existed in Europe prior to the adoption of a single currency by many European countries. Although the existence of a single national currency has disadvantages and can pose problems, it is certainly not true that permitting many different currencies to circulate will improve matters or resolve these problems.
One of the functions of governments is to protect people from their own stupidity. Because human beings are prone to imitate and conform to other people’s behaviours, when a harmful trend, fad, mania, or collective delusion grips a large segment of society, then it is the responsibility of the government to prohibit or discourage these kinds of behaviours. It is nothing more than anarchist and libertarian nonsense to declare that human beings always act rationally and sensibly, and therefore they do not need the government or government laws to tell them what to do or how to behave. Of course, the perennial question is how often, to what degree, and in which matters governments should intervene and restrict or guide people’s behaviours. But clearly, as is illustrated by the present mania for cryptocurrencies, there are instances when humanity’s strong tendency to imitate can lead to collective manias that can have harmful consequences for society, and therefore the government should intervene to prevent or mitigate these consequences, lest their unchecked growth and development lead to a calamity.
[1] When the Nixon administration decided to abandon the gold standard in 1971, the official price of gold was US$35 per ounce, with other currencies being set at fixed rates to the U.S. dollar. The fact that this arbitrary price was no longer tenable was shown by the rapid rise in gold’s price in the years following the abandonment of the gold standard, from roughly $44 later in 1971, to $63 in 1972, to $106 in 1973, and to $183 in 1974. Even in the years prior to what is called the Nixon shock, the price of gold had occasionally risen above its official rate, for example, to $43 in 1968. Another option that was available to the Nixon administration was to devalue the U.S. dollar in relation to gold, but this would have necessitated the agreement of all the other countries whose currencies were pegged to the U.S. dollar, a difficult measure that was not guaranteed to succeed. Moreover, such a devaluation would have implied that the U.S. dollar had weakened significantly, which would have sent an undesirable message to economic markets, financial speculators, and politicians around the world. Another important point is that, even if the U.S. dollar had been devalued in relation to gold in 1971, given that the rate of inflation was positive, the same problem would have arisen again at some point in the future.
Whether a currency is fixed to gold or to one or more other currencies, sooner or later, it is inevitable that an imbalance in their relative values will arise; and the greater the imbalance, then the greater is the potential loss for the central bank or other government institution whose mandate is to preserve the fixed rate of exchange. It is for this reason that floating exchange rates, problematic and imperfect as they are, have been adopted by pretty nearly all countries around the world; for the various attempts to fix exchange rates, whether to gold or to another currency, have invariably led to significant and recurring institutional losses.
Although unsound government fiscal or monetary policies can certainly exacerbate the problem, those who advocate a return to the gold standard for the purpose of reining in speculation and what they regard as unsound government policies, such as continually increasing the money supply in order to stimulate demand and help economic activities to increase, fail to understand the true cause of speculative bubbles. Even during the time when money consisted primarily of gold and silver, or countries adhered to the gold standard, speculative bubbles still occurred. Examples are the South Sea Bubble and the 1929 Stock Market Crash in New York. All these speculative bubbles, as well as more recent bubbles, occurred because of the misleading model of collective pricing, whereby all the owners of a commodity, such as a company’s shares, believe that the price at which a tiny portion of that commodity was recently sold is also the price of the quantity that they own but have not sold. Certainly the rapid rate at which transactions can be completed in today’s frenetic world increases the likelihood of speculative bubbles, and the policy, which was copied by many central banks in other countries, of former U.S. Federal Reserve Chairman Alan Greenspan of lowering the U.S. Federal Bank’s interest rate to a rate only marginally above zero, whenever a market downturn or economic slowdown loomed, was not at all wise, the problem that really needs to be addressed is the massive collective delusion that arises from the model of collective pricing.
[2] Although established currencies like the euro and the U.S. dollar are also traded on foreign exchange markets according to the model of collective pricing, and there does occur a significant amount of speculation in these markets, there also occur numerous transactions for use, meaning for the purpose of purchasing a product or service that is provided by the foreign country, whose currency one therefore needs to purchase. A common example is international travel and vacations. In some cases, these transactions represent very large sums of money, a feature that tends to stabilize the exchange value of foreign currencies. In contrast, almost none of the transactions in markets for cryptocurrencies like bitcoin are transactions for use, since they cannot be used to purchase many products or services at the present time, which is why their values can fluctuate much more than the values of established currencies.
[3] Hayek’s unwavering belief in the desirability and need for alternative non-governmental currencies was largely due to his personal experience of having lived with the hyperinflation that existed during the 1920s both in his native Austria and in Germany, due to the onerous requirements of the Versailles Peace Treaty, which obliged these two countries to pay back to other countries vast sums of money over many decades, in reparation for the damage caused by World War One. Because, in his opinion, the governments of these countries had behaved highly irresponsibly by printing large sums of money in order to pay their debts and other expenses, he believed that alternative forms of currency were therefore necessary in order to prevent such monetary, financial, and societal disasters in the future.
Homo Stupidus 