Paul Krugman, blogger, fiat-currency enthusiast and winner of the Nobel Prize in Economics earlier this year justified his scepticism about cryptocurrencies in the New York Times. He asked readers to give him a clear answer to the question: what is the problem cryptocurrency solves? He wrote: ‘Governments have occasionally abused the privilege of creating fiat money, but for the most part governments and central banks exercise restraint.’ He added that, unlike bitcoin, ‘fiat currencies have underlying value because men with guns say they do. And this means that their value isn’t a bubble that can collapse if people lose faith.’
Case closed, apparently. What he omitted to mention was that bitcoin has been operating successfully for almost ten years now, with no confirmed cases of fraudulent transactions. Every day, its traded volumes run to billions of dollars. In fact, bitcoin’s increasing reputation for security and the growth it is still undergoing suggests it is not about to go away. Could it be the market knows something about bitcoin and central banks that Krugman does not?
A closer look at the track record of government money offers a perspective somewhat different to that seen through Krugman’s rose-tinted spectacles.
As I write, Zimbabwe and Venezuela are undergoing the ravages of a collapse of government money, while Argentina, Iran and Turkey teeter on the brink. A quarter of a billion humans live in these failing economies — but not enough, evidently, to dissuade Krugman from endorsing government control of money so wholeheartedly.
It’s not even as if what is happening in these countries is a new phenomenon. Hyperinflation has occurred 57 times since the end of the first world war, afflicting several billions of people. In every instance, it has been the type of money whose worth is supposedly protected by men with guns that has become, well, worthless.
Indeed, hyperinﬂation is a form of economic disaster unique to government-created money. There was never an example of hyperinﬂation when economies operated a gold or silver standard. Government money is relatively cheap to produce, meaning governments in crisis are all too happy to produce it. In this way — as we have seen too often — it is possible for a society to lose all of its savings in the space of a few months, or even weeks. This is what happens when the wrong people gain control of the financial levers. Whatever alleged benefits government-managed money may have, a single episode of hyperinflation far outweighs them all.
While most countries have not experienced hyperinflation, they have almost all experienced significant currency devaluation over sustained periods. Between 1960 and 2015, for example, money supply in all countries increased by an average 32 per cent per year.
Krugman doesn’t seem to believe the value of government money needs to be justified intellectually. Instead, he believes ‘men with guns’ will suffice as an argument. The good news for him is that intellectual justifications do not ultimately matter when set against the realities of the market. The power of the state is usually sufficient to protect the economic monopolies he defends. However, the bad news is that the flow of bitcoin — which is decentralised, digital and cryptographically secured — is far harder to stop with guns.
Krugman cites the relatively high cost of bitcoin transactions as a reason the cryptocurrency cannot compete long term with fiat currencies. He seems, mistakenly, to assume bitcoin is competing with consumer payment networks like Visa or PayPal. But as I argue in my book The Bitcoin Standard, that is not what bitcoin is best suited for. Rather, bitcoin is an international settlement network, one that competes with the central bank settlement systems that are the foundation upon which networks like Visa or PayPal depend.
It must also be said that bitcoin transaction costs are relatively cheap compared with those of traditional settlement systems. And that’s not to mention that bitcoin offers international clearance within an hour, while the current banking system usually needs days, and sometimes weeks.
Certainly, there is appetite for a credible alternative to government-controlled fiat currencies. In the nine years that it has been trading, bitcoin has appreciated 700,000,000 per cent against the dollar, despite the naysayers and warnings of its impending collapse.
Perhaps the most compelling argument for bitcoin is the completely apolitical and predictable monetary policy it operates within. Bitcoin cannot be used for quantitative easing, for example. You can’t just print more of it when the whim takes you. If bitcoin’s continued growth deprives central banks of the ability to finance catastrophic wars by printing money, or if it prevents even one more tragic incidence of hyperinflation, the energy consumption required to mine it will be the best bargain humanity ever got.
Could bitcoin collapse? Of course it could. Any investor who puts a large amount of money into bitcoin must know they are taking a significant risk. But bitcoin’s price-falls these days bottom out at prices many times higher than they did only a few years ago.
Can government currencies and bonds collapse, or drop significantly in value, despite the ‘men with guns’ that protect them? The answer — after 100 years and more of hyperinflation, financial repression and sovereign default, which together have affected billions of people — is a resounding yes.
It’s no wonder so many people do not share Krugman’s enthusiasm for the last century’s experiment with government-controlled money, and herein lies the problem that bitcoin solves. Bitcoin offers anyone in the world an escape from being controlled by economists who believe they are immune to the lessons of history.
Dr Saifedean Ammous is the author of The Bitcoin Standard: The Decentralized Alternative to Central Banking (John Wiley).