Think about holding currencies (which is the same as holding cash) in the same way as you would think about holding any other assets. How would you have done in these investments?
Of the roughly 750 currencies that have existed since 1700, only about 20% remain, and of those that remain all have been devalued. In 1850 the world’s major currencies wouldn’t look anything like the ones today. While the dollar, pound, and Swiss franc existed back then, most others were different and have since died. In 1850 in what is now Germany, you would have used the gulden or the thaler. There was no yen, so in Japan you might have used a koban or the ryo instead. In Italy you would have used one or more of the six possible currencies. You would have used different currencies in Spain, China, and most other countries. Some were completely wiped out (in most cases they were in countries that had hyperinflation and/or lost wars and had large war debts) and replaced by entirely new currencies. Some were merged into currencies that replaced them (e.g., the individual European currencies were merged into the euro). And some remain in existence but were devalued, like the British pound and the US dollar.
With central banks around the world holding absolute power over the money supply, they’re able to inflate the money supply without much restriction. Currently, the only true-value behind the USD is based on the government’s ability to tax its citizens. Here’s an interview with Fed Chair Alan Greenspan with him explaining is absolute power.
Bitcoin has survived for over 10 years in the absolute fray of the world. Hackers, government bans, flash crashes, exchanges exiting, and more recently, pandemics have had an little effect on Bitcoin in the grand scheme. It has never been destroyed. The blockchain protocol of Bitcoin itself has never been broken, despite the multiple billion-dollar bounty that could be seized from ‘breaking’ Bitcoin. Many make the argument that the volatility of Bitcoin makes it useless for many things, however, I believe utility is a red-herring for now – with the stored value being the most important aspect.
Despite it being a red herring, utility attracts usage. In a way, through the eyes of the investor, this utility is merely marketing exposure. It opens an opportunity for the network to be used as a store of value. But without solid store of value properties in the network, the network won’t sustain high long term capital appreciation apart from short term euphoria fueled bubbles. This store of value mechanic has a snowball effect, in that the better Bitcoin is at storing value, the more people hoard it and crunch the supply; therefore letting the demand overcome supply and the price rising.
So what gives a network good properties for a store of value?
(2) Credibility of fixed monetary policy
(3) Liquidity / Lindy Effect / Infrastructure / Ecosystem
(4) Governance / Adaptability / Community / Game Theoretic Robustness
In layman’s terms:
(1) don’t break on me
(2) don’t cheat me in the future
(3) bring more money in
(4) look after the above
The dream scenarios for a ‘world blockchain currency’ could be illustrated below, with the blew diamonds representing major milestones. Bitcoin could survive without ever becoming a “Full Global Money” in that it could become a “Full Global Store of Value” instead, such as gold.
Bitcoin achieved digital scarcity, which is a phenomenon of our decade – something that has never been previously achieved. This scarcity is backed by encryption and mathematical proof that is ‘unforgeable’. Nick Szabo, one of the leaders in the cryptocurrency space who is often speculated as being the creator of Bitcoin illustrates this scarcity in relation to rare commodities.
“What do antiques, time, and gold have in common? They are costly, due either to their original cost or the improbability of their history, and it is difficult to spoof this costliness. [..] There are some problems involved with implementing unforgeable costliness on a computer. If such problems can be overcome, we can achieve bit gold.” — Nick Szabo
“Precious metals and collectibles have an unforgeable scarcity due to the costliness of their creation. This once provided money the value of which was largely independent of any trusted third party. [..][but] you can’t pay online with metal. Thus, it would be very nice if there were a protocol whereby unforgeable costly bits could be created online with minimal dependence on trusted third parties, and then securely stored, transferred, and assayed with similar minimal trust. Bit gold.” — Nick Szabo
Now lets discuss a model for scarcity throughout commodities, Stock to Flow.
SF = stock / flow
Stock is the size of the existing stockpiles or reserves. Flow is the yearly production. Instead of SF, people also use supply growth rate (flow/stock). Note that SF = 1 / supply growth rate.
Let’s look at some SF numbers.
Gold has the highest SF 62, it takes 62 years of production to get current gold stock. Silver is second with SF 22. This high SF makes them monetary goods.
Palladium, platinum and all other commodities have SF barely higher than 1. Existing stock is usually equal or lower than yearly production, making production a very important factor. It is almost impossible for commodities to get a higher SF, because as soon as somebody hoards them, price rises, production rises, and price falls again. It is very hard to escape this trap.
Since the recent halving in May, Bitcoin currently has a stock of 18.5m coins and a supply of 0.35m/yr = SF ~50. This places bitcoin in the monetary goods category like silver and gold. Bitcoin’s market value at current prices is $70bn.
Supply of bitcoin is fixed. New bitcoins are created in every new block. Blocks are created every 10 minutes (on average), when a miner finds the hash that satisfies the PoW required for a valid block. The first transaction in each block, called the coinbase, contains the block reward for the miner that found the block. The block reward consists of the fees that people pay for transactions in that block and the newly created coins (called subsidy). The subsidy started at 50 bitcoins, and is halved every 210,000 blocks (about 4 years). That’s why ‘halvings’ are very important for bitcoins money supply and SF. Halvings also cause the supply growth rate (in bitcoin context usually called ‘monetary inflation’) to be stepped and not smooth.
These steps can be seen at each of the halvings below.
The shift in the sentiment behind Bitcoin can be seen over time in the narratives used to describe it based on Google Trends.
Can Bitcoin reach new heights as a digital store of value parallel to gold? Theoretically based on only inflation, if the dollar lost as much value as it has since 1930; Bitcoin would be worth $100,000 on that metric alone.
Time will tell.