The Bitcoin Bubble

Bitcoins are a kind of money, but with no physical substance. They were invented by an unknown group of computer programmers early in the last decade. The designers imagined them as an alternative money, free from control by government. They’re “made” by software which is highly protected, so you can’t simply just make more yourself. They are generated or “mined” at a pre-estasblished rate, but in 2140 all production of bitcoins is supposed to stop.

Originally Bitcoins were for peer to peer trading, exchanges within specific communities only. They had the classic attribute sf money, in that the supply was limited–you could not simply make your own. They were untraceable and outside government authority, but only other people who had already bought into the idea would accept them. But very quickly a speculative market in bitcoins developed, in which people found ways to exchange dollars (or Euros, or other currency). The price of bitcoins went up spectacularly, then yesterday it fell just as spectacularly. In that way, the market was like the tulip market in Holland or the collector market in Beanie babies or pokemon cards: a good valued by a very specific community of like minded people suddenly becomes the object of frenzied general speculation

aporetoThe history of money is partly a history of attempts to monopolize its production. Conquering armies typically imposed a new money form and demanded payments in that form. Rulers of all kinds sought a monopoly over the definition of money so they could manipulate it to suit their aims. If I could declare that from henceforth only the “gold aporeto” could be money I could make a very plausible claim about who was under my authority (e.g. those who used my money), and I could control the gold content of the aporeto to suit my constant needs, for example if I needed money to invade a neighboring blog. The US has a long history of alternate forms of money.

The New England settlers arrived with high expectations and many Bibles, but little money. “Money” then meant mostly “gold or silver” and there wasn’t any to be found in the local rock. The Puritans noticed the Indians using “wampum,” which were small beads made from the shells of a particular clam. The supply of these shells was limited by nature–only so many washed up on the beaches. It was further limited by the fact that making beads with stone age tools is really difficult, requiring a lot of skill and time.

The coastal Indians used wampum as art, stringing it in patterns that told stories. They used it as a store of wealth, and they used it as a trade good with inland tribes. The  Puritans declared “wampum” to be currency–so many beads equaled so many shillings–and they set the rate into law. They would use it in trade amongst themselves, and in trade with indians, but that was as far as it would go, because no one in London was taking wampum. Very quickly after that wampum production exploded. Metal tools made it much easier to make wampum, and when nature failed to produce more clams people just started making counterfeit wampum out of wood or bone. By 1661 wampum had been abandoned as money

Bitcoins are like wampum in many ways–the supply is limited by “nature,” that is, by the terms set by their original programmer. There are only so many clams being “born.” And it’s also limited by the fact that the skills required to produce them are in short supply. Partly that’s because relatively few people are computer programmers, and because the code to generate them is highly protected by encryption. Like wampum, they were originally imagined as something exchanged in a limited community.

But wampum was declared currency by the Puritan government, and its value was set by law. Bitcoins were imagined as an extra-legal form of money, outside of governmental authority.

aporeticstoreBitcoins have a lot in common with another form of money, “shinplasters.” Alexander Hamilton formally defined “a dollar” as either 371.25 grains of pure silver or 24.75 grains of pure gold in 1791 But in practice Americans found this definition restrictive, and simply printed their own money. There were at least 800 different kinds of bank note curculating by 1850, but ordinary merchants could simply print their own small denomination notes and use them as change, or to buy supplies. If you went into the aporetic store to buy a supply of analogies, you would get change back in small value “aporetos.” You could spend these among other people likely to shop at the aporetic store, but spending them outside of the realm of readers of theaporetic was highly unlikely. It’s not at all clear how much of this kind of money circulated, because it’s wasn’t a currency controlled by a central government or bank. Lots of different entities printed their own money before the Civil War–insurance companies, constructions companies, private persons. See for example “George Smith’s Money.

Like these semi-licit currencies, bitcoins only work in a  community of people willing to accept them–they have no force of law. And like shinplasters, but unlike wampum, bitcoins have no connection to government, and thereby evade government monopoly over the money supply. But bitcoins do not physically exist, except as bits on computer storage media.

Bitcoins issue from a community skeptical of government. Communities like that have a long history. The inventors of bitcoin rejected the usual cranky libertarian dodge of the gold standard in favor of an invented money of limited supply.  Sooner or later bitcoins will be counterfeited, if they haven’t been already. But for now, the idea that they are limited, and can’t be faked, is what drives the speculation in their value.

Writing in Slate, Farhad Majoo described the experience of buying $100o worth of bitcoins (note the picture–it is not real–there ar eno physical bitcoins.) It was a dodgy transaction, and his bitcoins had a value, but that value only existed among other speculators in bitcoins and those who did business –mostly secret business in controlled substances–in bitcoins.  He boasted of his much his investment had increased in value, but hours later most it had evaporated. It will probably come back.

beanieIn that sense, bitcoins are like a classic example of a collector mania. Back in the 1990s, there was a huge collector market in beanie babies. Originally marketed as toys for kids, people started buyiing them up as “investments.” For a while, rare beanie babies sold for astonishing amounts of money. Then the bubble collapsed. Beanie baby mania created an odd cognitive disjunction, where the best policy was to buy one, and then put it safely away and never touch it. This made them intensely fascinating to children and thus increased the sense that they were going to go up, up, up in value. The less evidence of wear and use it had, the more valuable, so the goal was to render it invisible to your kids, or anybody’s kids.

Bitcoins have some of that same tension between use and non-use. As Manjoo describes, their relative inaccessibility is a big part of their value. So too perhaps, is the fact that they are part of the digital playground of young people. Beanie babies called to mind soccer moms n minivans: bitcoins call to mind bearded hipsters in cafes.

As always in asset bubbles, lack of a sense of history contributes to the frenzy. This is new! It’s innovative!  Except that it’s not new, and their are interesting analogues throughout our past.




  • > And it’s also lim­ited by the fact that the skills required to pro­duce them are in short sup­ply. Partly that’s because rel­a­tively few peo­ple are com­puter pro­gram­mers, and because the code to gen­er­ate them is highly pro­tected by encryp­tion.

    That’s not factually correct; the supply is limited by the bitcoin algorithm. Regardless of how many bitcoin miners there are, or programmers writing bitcoin miners, the supply is strictly limited by the way bitcoin works.

    > Sooner or later bit­coins will be coun­ter­feited, if they haven’t been already.

    In a lot of ways, it doesn’t even actually make sense to talk about counterfeiting bitcoin. They’re very stealable, but counterfeiting a bitcoin would be exactly like counterfeiting a credit card; how would you even do that? If the merchant checks to see if it’s a valid card, they’ll know immediately. If they don’t, they’re foolish.

    The attack that’s known to be plausible is that somebody uses a great deal of computing power to fork the blockchain; this has already happened once by accident, not by malice:

    I’m not at all a bitcoin fanboy, and I hope this was useful.

    It seems to me that the value of bitcoins is fundamentally different from that of beanie babies because bitcoins are useful as a nearly-anonymous online currency transfer, a pressure which will likely keep their value from collapsing completely until the government decides to crush the market by getting serious about stopping currency transfers.

  • […] The Aporetic on the bitcoin bubble […]

  • the prob with bitcoin is stability. The number one quality of a good currency is stability. Bitcoin is completely flawed in that respect. If it becomes widely accepted its value will soar on the other hand if it flops it will be wrothless – this is the opposite of stability. Now if a currency similair to bitcoin was set up to maintain price stability then it would be of value!

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