Why gold is different from Bitcoins

I have a new piece out in the National Interest, explaining why gold, unlike Bitcoins, will remain valuable for many years to come. In essence, gold has an intrinsic value derived from its industrial and decorative uses, and this value is enhanced by the demand for gold as a store of value, and by the belief (mistaken in my opinion, and certainly not an option I would favor) that gold-backed currencies may be restored.

By contrast, in my view, this piece by Robert Murphy misses the crucial distinction. Monetary demand can enhance intrinsic value, but it can’t make an intrinsically worthless asset valuable. He also fails to state the crucial point about fiat money. The “fiat” comes from the fact that a state can demand taxes can declare (“fiat”) that its money is acceptable in payment of those obligations. Hence, as long as the state can enforce its demands, its money has real value.

35 thoughts on “Why gold is different from Bitcoins

  1. Money is a record keeping device for imperfect and sometimes dishonest memories of past exchanges. Evil is the root of all money.

    Stephen Williamson blogged on this using a parable by Joseph Ostroy:

    George and Martha agree to eat dinner at one or the other’s home each Saturday night.

    They want to share the burden of the cooking equally, but they have very bad memories, and can never remember who last cooked dinner.

    However, they have a stone and they have good enough memories that they each can remember where the stone is stored in their respective homes.

    On Saturday night, each looks in that spot.
    • If the stone is there, they take it over to the other person’s house and eat dinner.
    • If the stone is not there, they cook dinner and wait for the other to show up.

    The person who brought the stone leaves it behind, and the other stores it. anything that cannot be easily forged could serve as the stone. a bitcoin?

    p.s. This money parable explains Keynesian macroeconomics as Williamson explains:

    George grows peanuts, Martha grows cranberries. George eats only cranberries, and Martha eats only peanuts.

    These are weird peanuts and cranberries which sprout every morning and have to be picked or they rot.

    Each evening, George and Martha meet at Martha’s house, drink beer, and play cards. They get quite drunk, which is what it takes for them to settle down and negotiate the price at which they will trade in the morning. George’s peanuts must be harvested before Martha’s cranberries each morning.

    On a typical day, George gets out of bed, harvests his peanuts, and goes to Martha’s house. When George arrives, Martha harvests her cranberries, and they trade peanuts for cranberries at the price they negotiated the night before.

    However, there are days when George wakes up, and it’s not a day when he is so enthusiastic about eating his cranberries.

    The price of cranberries is too high, so he rolls over in bed and goes back to sleep. Martha wakes up, and George has not arrived. Martha knows what has happened.

    She could call George on the phone and renegotiate the price, but she can’t bear to do it, and goes back to bed. The situation is bleak.

    Both George and Martha express a desire to work, but there is no demand.

    However, there is a government, which is monitoring the situation.
    • The government agent gets George out of bed, and puts them to work digging holes.
    • In exchange for the hole-digging, George is given some bonds which are claims to tomorrow’s peanuts.

    The government plans to tax George in peanuts on the next day, in order to deliver the payoff to the bondholder.

    However, George does not see through this. His circumstances are now changed. He goes to Martha’s, trades bonds and cranberries for peanuts, and everyone is happy.

  2. Gold had qualities which made it useful as money in earlier times. It was difficult to find thus in essence being hedges against inflation. It was also malleable, durable and did not corrode or tarnish under ordinary conditions. So, in addition to its other intrinsic uses it had an intrinsic “aptness” or “adaptability” for money use. This also deserves mentioning. Gold has a set of tangible qualities.

    Bitcoins are intangible and very likely evanescent. They are a clever confidence trick and an egregious waste of electricity and computer time to “mine”. They do appear to have some use as an exchange medium especially for illegal goods. But as JQ points out, they may be all too traceable.My son has experimented with trading in bitcoins or more accurately in bits of a bitcoin as his investment is well under $100. I suggested he be aware that it was a total gamble and to hazard no more than he was prepared to lose if it all went bad. He seemed to be well aware of these facts.

    It appears globally that some investors has up to $10 million in bitcoins. If they are billionaires then it is just pin money. But some mugs are likely to get hurt when it crashes (again).

  3. On this topic I have lots of interest but more questions than answers.

    Surely gold isn’t the only thing that could have served its role in world finance . Lots of people like it and lots always have -how that historical process started for gold and not one of the other options I’m not sure .Maybe its intrinsic value had something to do with that.

    Power needs a store (or stores) of value .If those with power like it – it has value . If those likely to have power in the future like it -it has value .The same goes for bitcoins . As JQ said golds value above intrinsic comes from the fact we guess those in future power will choose to fall back on it if they have to . At this point I don’t see the intrinsic value as a particularly important part of the story ,and so I think bitcoins main problem is only that established power doesn’t like them .

  4. @sunshine

    Well, of course silver has served a similar role as commodity money at various times. There have been and are many types of commodity money.

    “Commodity money is money whose value comes from a commodity of which it is made. Commodity money consists of objects that have value in themselves as well as value in their use as money.[1]

    Examples of commodities that have been used as mediums of exchange include gold, silver, copper, peppercorns, large stones (such as Rai stones), decorated belts, shells, alcohol, cigarettes, cannabis, candy, and barley. These items were sometimes used in a metric of perceived value in conjunction to one another, in various commodity valuation or price system economies.” – Wikipedia.

    In contrast to commodity money there is both representative money and fiat money. The old bank notes which promised they could be exchanged for a set amount of gold were representative money. Modern money unbacked by any commodity exchange promise is usually fiat money; money created by government fiat. Fiat – 1. An arbitrary order or decree. 2. Authorization or sanction: government fiat. [Medieval Latin, from Latin, let it be done, third person sing.]

    What kind of money is the bitcoin? It’s an interesting question. It’s not commodity money, nor representative money, nor fiat money. My cyncial lay definition would be that it is hucksters’ money.

  5. “It’s not commodity money, nor representative money, nor fiat money. ”

    IMO Bitcoin is fiat money, but the ‘central bank’ that creates it is a robot with very predictable programming. (as opposed to a self-interested government) The robot is furthermore left out in public so everyone can see if anyone tries to tamper with it. Thus the programming of the robot can be changed but only if the onlookers (a large majority of the people who use bitcoins) permit it.

  6. Murphy was the Austrian School economist (whatever that means) who saw a double digit inflation in 2009. How is that going?

    Tapen

  7. @bitnoob
    To repeat, “fiat” means that somebody with power to enforce their will says that the currency is good for payment of debts. That’s why dollar notes are fiat money and bitcoin is not.

  8. @Jim Rose

    Given the love of mainstream politicians on both sides for deities – the ‘Invisible Hand’ (Tony Abbot’s love), Economics being grounded in Laws as immutable as the Law of Gravity (Peter Phelps NSW MLC) and all the rest (plenty of Labor people there too) – this excellent parable raises the interesting question of when and how the sky god created the economics system and in what order.

    Just how it came to be is not a trivial question because the bible makes clear Adam’s and Eve’s first decision point that we know about was to get into debt following a bad commodity trade. Clearly economics is the basis of the world.

    Based on my little Golden book of history here is a suggested sequence of events during the second week of creation after s/he had rested, smartphones and Sunday trading not having been invented:

    0. Prelude – God creates a paradise without money. But then man exercises free will and mightily annoys God with the first recorded commodity transaction. (What is this problem God has with apples? Come to think of it Eve was the first trader so its her fault and at the least there should be a life like nude 30s bronze grotesque outside the Chicago commodities exchange in recognition).

    Anyway God still blames Adam being head of the family and rib donor and hence responsible for succumbing to the cheap ploy of ‘sex sells’ (subsequently brought to its zenith by the advertising industry whose successes suggest there really is no such thing as free will).

    Now what man hadn’t realised was that paradise, lost or not, came at price – eternal debt. And Adam had inadvertently become the first debtor. God having learnt his contract negotiation skills from Groucho Marx and ignorance of the Law being no excuse.

    Adam was a bit puzzled at this point. “What is this debt crap? I cant see, feel, eat or have sex with it?” For a second God was taken aback by Adam’s incisive logic.

    But God still wanted payment, so he made up a cock and bull story as he went along – his property rights having been infringed.

    ‘What are they’ said Adam perplexed? You control everything and me nothing – what is this nonsense? Stumped again God dithered “In the 1700s one of the chosen people’s prophets will explain it all so don’t waste my time. You need to get to work.”

    Adam persisted with another retort – “you own everything including me, so how in hell am I supposed to pay and with what”.

    God was stymied. Adam didn’t even have clothes where he could hold a wallet. Hell was one option. But he already had plenty of damned angels down there singing Old Man River and he was getting bored of the sycophants/toadies upstairs with all their suckholing. Their obsequiousness stretched even his ego.

    But being jealous and vengeful he just had to do something really nasty petulant and petty.

    “Right he said – you like exchanging apples for sex…?” (thought bubble – “ok that gives me an idea:”)

    And so it went – Adam being in debt, God got him to do all the heavy lifting in the second week of creation:

    On the first day Adam invented pebbles as money because if he built a big pile of them he might be able to reach heaven via a low carbon stairway – inspiring Rolf Harris’s wobbleboard classic millennia later.

    On the second day he invented trigonometry and realised it was going to take more work than he could managed. So he created the military theocratic city state with workers obtained from the extras pool in central casting – just like in Age of Empires. Eve meanwhile had broken through the glass ceiling and was organizing food gathering and babies. This all needed an accounting system and so we got cuneiform writing and gold.

    On the third day the boss descendants of Adam realized God with his servitude and indebtedness bull was onto a good idea and so created slavery and feudalism.

    On the fourth day Adam’s Dutch descendants invented the tulip – a nearly pointlessly worthless commodity and markets were born. Their cousins British realized it was even possible to speculate on a commodity in the South Seas that didn’t actually exist. Being mindful of the outdated concept of fraud they also initiated reinvention of the language. They further realized that the Chinese had come up with a great idea in the form paper money of no intrinsic value but couldn’t admit this otherwise they would have to pay royalities. So they cast this paper money as IOUs to the Bank of England.

    On the fifth day enlightenment scholars having become bored with gaining insights into the real glorious universe returned to the time honoured occupation of scholars – the creation of nonsense out of nothing furthered by inventive theories of theories such as empiricism and arithmetic gobbledegook. Not wanting to be blamed and slammed in a stock and pillory when things went awry the also combined that timeless non-name John Smith with the name of the first debtor Adam to create a demi-god/devil academic, Adam Smith. Who like all prophets before was then reinterpreted after their ‘death’ in ways designed to profit the reinterpretee. And thus Economics was invented.

    On the sixth day a happy concurrence of a powerful overly indebted nation lacking sufficient gold and pebbles, and its invention of the microchip to guide world destroying nuclear missiles yielded computer software and hardware, magnifying the opportunities for fraud, sorry wealth creation, exponentially. Modern high finance capitalism emerged as a kind of memeplex.

    Finally on the seventh day (days of rest being clearly unproductive and obsolete) God intervened again and created the Bitcoin. So now you know where it came from and why we can pin down its origin. Its the old invisible hand in their again tickling the puppetry strings.

    Meanwhile the LETS hippies try to create a real human exchange system. Poor deluded fools.

  9. I have trouble believing this. If the govt of a single country, say Aust, started taxing any bitcoins you earned, in bitcoins, at rates similar to PAYG, would this be enough to stabalise its value? Would it prevent the “inevitable” drop to zero of bitcoins? What if bitcion earning were just taxed at 1%?
    Seem to me this would make bitcoins very similar to fiat currency, except that most would be in circulation outside Aust, but that there is still nothing to peg them to the A$.

  10. @Martink

    You’ve misunderstood me. If the Australian government stated that it would accept bitcoins in payment of tax obligations (say for income tax) at a rate of (say) 1 Bitcoin per $A, that would stabilize the value of Bitcoins at $1A.

    Levying a tax on bitcoin income, to be paid in $A, would have no such effect, even if the process specified an exchange rate to be used in calculating the tax liability.

  11. John Quiggin :
    Levying a tax on bitcoin income, to be paid in $A, would have no such effect, even if the process specified an exchange rate to be used in calculating the tax liability.

    I meant if the govt levied a tax on bitcoin earnings to be paid in bitcoins. Once it does that I can see no difference to a fiat currency, but my point is that doing so still wouldn’t in any way peg it to a currency. (Would it behave the same as if the govt supported 2 independent Australian currencies?). I can’t see fixed type taxes, such as rates, being enough to make a distinction here, and in the long term they’re not really fixed.

  12. @Martink

    As long as the tax demand was large in relation to the supply of bitcoins, that would ensure a permanent demand for them. But no automatic peg to $A. If the two systems were totally separate, it would be like two different countries.

  13. Quote: “fiat” means that somebody with power to enforce their will says that the currency is good for payment of debts.

    This idea is losing ‘currency’ in nation states where corporatism rules. For example, try to pay for the toll with notes and coins, issued by the Australian monetary authority on one of the many ‘private-public’ road services in Sydney and you will find it is the toll road operating company who has the power. These toll road operators have their own monetary system. They demand the road user buys their money, called ‘e-tags’ (each company has its own) with other corporations money, namely banks. That is, the toll operating company demands the user supplies a bank account number or a credit card number. In either case, a bank earns a bit of A$s (a shaving). There two types of e-tags, continuous and visitors. In the former case, the operator takes the liberty (take it or leave it) to charge the user’s bank account a fixed amount as soon as the user’s toll account reaches a pre-specified lower limit (cheap credit for the toll road operator). The visitor’s e-tag requires a prior application. Cancellation is a job left to the consumer. Its quite clear who has the power.

    The system is hilarious. If a resident from, say Hornsby visits an old friend in say Coogee twice a year and another one in, say Westmead twice a year, then this individual has to provide more information to private corporations than a visitor from New Zealand. If this corporatized pseudo-fiat money system continuous to grow then barter may become more efficient in the future.

    As is the case with the proverbial Wall Street bankers, the toll road operators count in A$. The power of these corporations has been evidenced in the GFC.

    I am not writing in defence of bitcoins. However, using a national currency unit as unit of account does not necessarily identify where the power lies.

    Bitcoins belong to the belief structure of ‘free markets’ (no government). When put to the test on this blog-site the belief in ‘free markets’ has not been upheld by a regular Libertarian commenter. All of a sudden, a line in the sand had to be drawn – for the benefit of corporate power?

  14. @Ernestine Gross

    The RBA site is interesting in this regard;

    “… although transactions are to be in Australian currency unless otherwise agreed or specified, and Australian currency has legal tender status, Australian banknotes and coins do not necessarily have to be used in transactions and refusal to accept payment in legal tender banknotes and coins is not unlawful.

    It appears that a provider of goods or services is at liberty to set the commercial terms upon which payment will take place before the ‘contract’ for supply of the goods or services is entered into. For example, some vending machines, parking meters and road toll collection points indicate by signs that they will not accept low denomination coins. Some road toll collection points indicate that they will not accept any cash at all. If a provider of goods or services specifies other means of payment prior to the contract, then there is usually no obligation for legal tender to be accepted as payment.”

    Bear in mind the RBA is not advocating this state of affairs, merely describing it. It is the RBA’s opinion or view of the relevant law(s) made by government and their effects on the transaction scenarios described. I think it is important to note that the transactions must be in Australian currency. This is not the same as saying they must be made in notes or coins.

    Is it not going a bridge too far to claim the corporations are operating their own monetary system? Do credit and debit systems operated in Australian currency constitute a new monetary systems? Or do they merely constitute credit and debit systems operated in Australian currency?

    Having said all that, I would decry corporate abuses in this arena as much as Ernestine. The issue is not yet a matter of currency sovereignty. It is a matter of political consciousness and political will. Laws can easily be made to give BOOT systems, tollway systems etc. the boot. Laws can easily be made to control corporations and to fund roads (or better still mass transit) a more logical and efficient ways.

    For my own part, I make a point of avoiding tollways. I never use them advertantly (note that last word). It’s against my ideology. Of course, this is probably a lot easier to do in Brisbane than in Sydney. It’s also easier when one is a lazy, retired slob who has decided to be semi-poor rather than work for corporations or the government they have bought and suborned.

  15. @Ikonoclast

    Yes, I am familiar with the RBA condition you have quoted.

    But note, the RBA condition does not say a vendor can insist on the right to initiate transactions on a buyer’s account with a financial institution. But this is what the toll road operators demand. For example, suppose a ‘foreigner’ to a Sydney toll road company from say Hornsby (northern suburb of metropolitan Sydney) happens to get onto a toll road and then calls the toll company to inquire about the amount owed. The toll company insists the ‘foreigner’ (to their system) provides a credit card or account number to which they will charge an amount they can’t tell the road user at the time of the transaction. People who have continuous tags have an essentially impossible task to check on the price of the so-called road service.

    Yes, you are right, in Sydney it is becoming very difficult to avoid toll roads. Furthermore, they are owned by several companies, each one of them with their own ‘monetary system’. (Implication for those who complain about a decline in productivity – or no increase: People are busy doing a lot of unpaid work for corporations.)

    Surely it is easier to avoid Bitcoins.

  16. @Ernestine Gross
    I don’t think John Quiggin’s explanation is equivalent to saying that governments have all the power, only describing some of their power (and its effects).

    Yes, toll road operators do have power over what happens in the world. For that matter, so do you and I. For the purposes of the point John Quiggin was making, or so it seems to me, the relevant observations is yours that the toll road operators account in Australian dollars, and if you ask why they do that, instead of creating their own alternative, I think you are led back to John Quiggin’s explanation.

  17. @Ernestine Gross

    This is a case (or a set of cases) where our governments are simply being too weak to protect citizens (in their consumer role) by legislating citizen and consumer protections and legislating against corporation “rights”. If our representative democracy was functional this disgraceful and supine obeisance to corporate “rights” would not occur.

    In the first instance, we should simply do way with tollways and nationalise all roads, motorways, bridges etc. All it takes is government with guts and the poeples’ interests at heart. Failing that, they could legislate that all tollways must provide on 50% of lanes booths for payment in notes and coin. If the corporations complain then it should be put to them very aggressively “Do you want to be nationalised without payment compensation and/or have your directors put in jail? We can write the legislation for all that to happen if you like.”

    Failing action by our p***weak, bought and suborned governments, citizens could organise mass civil disobedience. How about every non-tagged car in Sydney go for a Sunday drive over all the main tollways and then every driver can flat out refuse to pay? Let the corporations and state govt put that in their pipe and smoke it. Ultimately, the people, as citizens and workers, have all the power if only they have the consciousness and the guts to stand up to corporate power.

  18. @J-D

    I did not suggest Prof Q assumes or maintains that governments have “all the power”. Prof Q relates ‘power’ to ‘fiat money’. Moreover, I signalled that this specific power relationship is a well known (except perhaps to the author to whom JQ replies). I said this idea is losing ‘currency’. It is being weakend by corporate power bestowed by national governments,

    While it is the case that toll road operators in Sydney (and possibly elsewhere) use the A$ as their unit of account for their financial accounting purposes, it is not the case that they accept it as means of payment for the provision of road services. They accept only e-tag money. One A$ of e-tag money is worth less than one A$ in a bank account or in your pocket because e-tag payments are made in advance and e-tag money has an expiration date.

    No, I certainly don’t have the same power as a corporate toll road operator. I can’t speak for you.

    Gold is a physical commodity. By contrast bitcoins, e-tags, frequent flyer points, bank accounts (including those of monetary authorities), shares, derivatives, IOYs are contemporary examples of financial contracts (real numbers), denominated in various currency units, with exchange rates (real numbers) among themselves and with quantities of physical commodities (real numbers).

    I’d like to illustrate the difference in ‘value’ between gold and financial contracts in a different way. Suppose a hacker gets into the bitcoin accounting system and sets all values to zero. The hypothetical hacker completely destroys ‘value’. By contrast, suppose a hypothetical person steals a gold bar. The gold bar persists in existing, only the ownership has changed.

    Incidentally, while Robert Murphy talks about encryption technologies and public keys, I put my trust in pure mathematicians who understand why hackers are successful.

    .

  19. @Ernestine Gross

    Your key sentence is “It (fiat currency) is being weakend by corporate power bestowed by national governments.”

    The key phrase is “corporate power bestowed by national governments.”

    To be simplisitic, the crux of the matter is for citizens to stop their governments from bestowing power on corporations. This is simple in principle. The problem faced is the lack of public consciouness, not of the primary problems necessarily, but lack of consciousness of what ties the problems together.

    So long as people see rising energy and utility costs, rising medical costs, declining funding of tertiary education, rising power of tollway operators, rising power of bosses, rising wealth share of income, declining wage share of income and so on as separate rather than connected problems, then they won’t see the solutions. The proximal problem is declining citizen and representative power and rising oligarch and corporate power. Beneath that lies the problem of capitalism itself. The final underlying problem is capitalism; the power of concentrated capital over workers and citizens. Until we fix the base, none of the superstructure can be fundamentally reformed.

  20. @Ikonoclast

    And your ‘key’ term is citizens. (JQ has written a post on why the term ‘community’ is used these days instead of society – a related point. One can have Coles-communities, Woolies-communities ……… bitcoin communities …….. – the corporation is the basic unit of analysis instead of an individual who lives under shared institutional arrangements within a society).

    You, among others refer to capitalism being the underlying problem. To me ‘capitalism’ is just a word which may be used or not to refer to a whole set of problems. I prefer an analytical approach to being against (or for) something I don’t even know what it means.

  21. as a related (kinda) money moving-from-one-place-to-another kind of thing.

    i read about a man who was kidnapped in northeast africa and their rels in Oz (after much house selling and being generally jerked around) managed to get the money to the kidnappers and their loved one back in one piece.
    they paid an agent in Sydney(i think ) and the money was delivered in cash (in a backpack) via the money moving traditions of the culture involved.
    how could that be?

  22. @ Jim Rose

    That second analogy is one of the most silly things I have ever read. Two people choose not to work and the government pays them at make-work jobs, therefore Keynesian economics doesn’t work! The sheer gall of such a terrible analogy! Despite its inane nature I have seen you use it on at least two occasions now and I cringe badly inside each time.

    What is it about right-whingers and their awful, dumbed-down parables?

  23. @Ernestine Gross
    John Quiggin wasn’t merely relating fiat money to ‘power-in-general’, he was relating it to a particular kind of power that governments have and corporate toll-road operators don’t. Governments can impose taxes on whatever they like, and enforce them; corporate toll-road operators don’t. Governments have some kinds of power; corporate toll-road operators have some kind of power; you have some kinds of power, and so do I. But they aren’t all the same kinds of power, and more specifically, they aren’t all the kinds of power on which fiat money depends for its existence.

    Australian dollars in the form of advance deposits, earnest money, or escrow payments are still Australian dollars. Australian dollars in bank accounts are also still Australian dollars. If the Australian dollar somehow suddenly lost all it value, all those forms of it would lose all their value as well: there is nothing independent of the value of the Australian dollar that gives any of those forms of it independent value of their own, and that includes Australian dollars deposited in e-tag accounts.

  24. Will :
    @ Jim Rose
    That second analogy is one of the most silly things I have ever read. Two people choose not to work and the government pays them at make-work jobs, therefore Keynesian economics doesn’t work! The sheer gall of such a terrible analogy! Despite its inane nature I have seen you use it on at least two occasions now and I cringe badly inside each time.
    What is it about right-whingers and their awful, dumbed-down parables?

    Williamson also recounted how Krugman used a similar parable for real business cycle theory:

    Real business cycle theory says that economic fluctuations are the result of technological shocks, amplified by intertemporal labor substitution.

    My version: think of a farmer who faces sunny and rainy days.

    On rainy days his labor won’t be as productive as on sunny days; this effect on his output is amplified by his rational decision to stay in bed on rainy days and work extra hard when the sun shines. I think this gets at the essence of the concept; it also makes you wonder, is this really, really what you think happens in recessions?

    the Keynesian parable has animal spirts, sticky prices, coordination failures and fiscal myopia and a fiscal multiplier. what is missing?

  25. Some people think the US federal reserve has used its buying power to secretly cause crashes in the value of bitcoin because they want to scare people off it .

    There is a very widespread consensus that gold is the best last resort for parking money .I think what gives gold its value is simply that the consensus exists and is firmly entrenched -not whether there is a small more or less rational part of the belief itself . A shared vision and cooperative faith give gold most of its value ,bitcoin too. Golds intrinsic value may be a disadvantage sometimes as it is heavy and hard to run away with.

    Physical fiat money must have some commodity money/intrinsic value as paper can be burnt for warmth etc. Presumably there is some small amount of electricity which is each bitcoin , maybe that’s its intrinsic value.

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