Topic: Bitcoin Loans and Lending; The Weakness in The Bitcoin Economy - page 2. (Read 17603 times)

That doesn't work. When you spend the ten bitcoins initially, the value you get is affected by the effects of future deflation as anticipated by people now. When you have to buy back the ten bitcoins to pay off the principal at some point in the future, the value you get is affected by the anticipated effects of future deflation as perceived from that point in the future, plus the actual deflation over the time period of the loan. The two sides are neither the same nor likely to cancel out.

Suppose you borrow money for (say) two years. At the start of those two years people can only estimate deflation over the next few years rather than know for certain, and the further out they look the less accurately they can estimate. This uncertainty affects how much of the anticipated effects of deflation people are willing to take into account. In two years' time everyone will pretty much know what happened over those two years and will be in a better position to judge what will happen in the third and subsequent years, so more of the effect of deflation will be priced in.

My example is not about inflation but anyway you're wrong. The costs of inflation are paid as you said earlier by all wealth owners.
The lender only pays more than other capital holders if the inflation is unexpected. If it is expected, he could just buy himself real capital instead of lending with no inflation premium. He knows that the nominal revenues and prices of capital are going to rise, so he could buy a capital, take the yields and then sell it instead of lending his money-capital.
The money holder can "escape" from inflation by going to any other capital or even just by buying a commodity.   


Deflation can affect the nominal interest through negative inflation premium, but not as linearly as inflation does. And, of course, the nominal interest can never be below zero with everlasting money.
To simplify, yes, the lender gets from deflation as much as the hoarder does.

I think you're reasoning that whoever holds the money is paying the inflation tax and thus by loaning the money to someone else they have to pay the inflation tax. But if that were true, that would just make the money worth less today because taking the money would mean assuming the tax burden of inflation. It all cancels out however you figure it.

The cost of inflation is borne by the lender. The benefits of deflation are reaped by the lender. Otherwise, they have no effect on the mechanics of the loan except to offset the interest rate. All other things being equal, the benefit of lending over hoarding is the same.

If you hoard, you get whatever the money would do naturally. If you lend, you get whatever the money would do naturally (because you still bring that to the table in the first place) plus your share of the surplus created by the borrower being able to timeshift his consumption.

I'm assuming 5% nominal interest for both cases in my example.


In my example, the baker spends the money to buy real capital, he doesn't hold the money.


Yes, monetary inflation acts like a tax over any wealth and (if unexpected) damages in a special way to lenders.
If expected, it is just added to the nominal interest to maintain the real interest.


But with deflation, money has an advantage over other capitals. When you buy capital, you expect its yield to be at least as good as basic interest (real interest less risk premium), thus the price of given capital can be calculated at any time from the basic interest rate in the market and the revenue you obtain with that capital. Deflation decreases the revenue, devalues real capital and therefore discourages its accumulation.
With deflation more than ever, money becomes the better of the capitals.

Do you see something wrong with my example?

This is essentially what I'm saying. The deflation value is present both at the beginning and the end of the loan, so it cancels itself out.

When you have the ten bitcoins you borrowed to spend, you are also spending the value of their deflation. When you have to buy back ten bitcoins to pay back the principle, you also have to buy the value of their expected future deflation. It cancels out and has no effect on the loan.

The same is true with inflation. To the extent people are willing to part with dollars rather than hold them, your dollars are worth less today when you borrow them. But that also means they are worth less when you need to acquire them to pay them back.

I'm afraid the effect that you're hoping will cancel out the effects of deflation will mostly just cancel itself out. As a borrower you'll need to get hold of bitcoins to pay back the loan, but those bitcoins will again be worth more to the people you're trying to get them off because they're still expected to deflate, and you'll then be competing with all the people looking to get hold of those "highly desirable deflating bitcoins" to sit on. So even if you can get more for your loan because of expected future deflation, your income from which to repay it with will be less by roughly the same amount.

All other things being equal, the benefit of investing over hoarding should be currency-neutral. That is, if an inflationary currency would lose 3% due to inflation if hoarded but gains 2% due to interest, a deflationary currency should also perform roughly 5% better if loaned rather than held.

There are two fallacies that lead people to the opposite conclusion:

1) Thinking that a deflationary currency is extra valuable to hold and forgetting that this means it has greater spending value too because the person you spend it with gets to hold it if they want. The value of the deflation comes from the lender and is carried through the transaction to the end.

2) Forgetting that the cost of inflation comes from the expansion of the money supply. This expansion acts as a tax on all wealth since the newly-printed money can claim any wealth in the economy. The cost of the inflation acts as a claim against the lender's wealth and is also carried through the transaction to the end.

The benefit to the borrower is from being able to consume earlier than he could otherwise. This value is currency-neutral and it is this surplus that is split between the lender and the borrower.

Although it may decrease interest rates (negative inflation premium), deflation can never take them below zero.

I still think deflation makes borrowing to invest less desirable.
Say we have a potential secure investment that yields 5% of its value annually and interest rates are at 5%.
Our baker starts his bakery (and discounting its own wage and other costs) profits a 5% of the investment that goes to pay interest. After twenty years, the baker sells his bakery at the same price and pays back the full loan.
With stable prices, the investment covers its financial costs and therefore is economically viable.
With deflation, you also have to cover the gains of money from deflation to get the loan.
Say we have 5% annual deflation.
That same investment won't get the loan.
Producing exactly the same and selling the products at lower price each day, the baker can lower his wage to compensate deflation and will buy its supplies at a lower price, but he cannot lower the interest. Even if the loan is made in a way that the monthly payment of interest for the whole period takes deflation into account, the borrower will not be able to pay the loan after that period.
We have assumed a constant revenue of 5% and assuming there's no changes in the competition, there's no reason to expect it to go down.
But the nominal revenue has decreased. What has happened is that the capital (the bakery) has devalued. In our case to 0.95^20 = 0.358485922 % of its original price.

The business should have grown at a 5% rate too to compensate deflation. The interest paid monthly could be nominally constant in this case. Only the very best investments will get funded with deflation.

Edit: this example is also discussed here.

A few of us on another thread have calculated out a loan repayment system that may work ok in a deflationary system. Basically, your first few payment will be higher than normal, with each consecutive payment decreasing until the last payment is fairly small compared to where you started. The loan is similar to an inflationary currency loan, where although each payment is the same amount, the value decreases over time, and it manages to pay back both bank's interest and compensate for deflation. One major assumption of it though is that deflation stays constant. The deflation amount may be adjustable on the fly, but I haven't played with that yet.

You're close. But you are incorrect that borrowing takes a double whammy. Yes, of course you pay interest when you borrow. But the deflation cancels out. You benefit from the deflation on the borrowing end, because the bitcoins you borrowed are worth more to people today because they are expected to deflate. This cancels out most of the whammy on the deflation when you go to pay the money back.

To put it another way, expected deflation will make people want to hoard bitcoins so they can spend them later when they are more valuable. But they will also make people want to pry bitcoins out of other people's hands today so that they can hoard them. You will be borrowing these highly desirable deflating bitcoins that others will work very hard to get from you so they can sit on them. This partially cancels out the higher value of the bitcoins when you have to pay them back.

It cannot work that way. 10 bitcoins today includes the right to have 10 bitcoins at any point in the future one desires. So 10 bitcoins will never be valued at less than the net present value of the expected future value of those 10 bitcoins at any point in the future.

You are thinking that bitcoins have a certain market value and then they have some extra value due to deflation. But this is not true. The market value includes the deflation value. There is nothing extra to use to offset the interest rate. The value from the deflation of the borrowed coins was part of what was borrowed from the bank and must be paid back to the bank in addition to the bank's interest.

Say an ounce of gold is generally expected to be worth $3,000 next year. Regardless of the present value of an ounce of gold, if you borrow an ounce of gold from me, you are borrowing at least the right to have $3,000 next year and I would insist that you pay me back at least the value of that right plus interest.

That depends on your definition of "much". http://www.sharelynx.com/chartstemp/USHLSPOG.php

Yes. Many factors affected its value, but deflation wasn't a significant one of them.

How do you figure?

value comes from desire, and the desire changes from time to time. Some desire seldom changes and is predictable, like the desire for food and housing etc... 300 years ago no one want petroleum, now... and 300 years later no one want petroleum

You can't eat gold neither.
A symbol of value can hold value. For example an IOU, a dollar, a bitcoin or an ounce of gold.
The monetary value of gold has nothing to do with its industrial value.
There's no such thing as intrinsic value, value is always external to the object being valued, maybe how one values himself is intrinsic value, but nothing else.
If you mean that an object is valued similarly for many people then, yes, gold has been historically valued as a currency, as money, but its monetary value could drop to zero just like with fiat currencies. Because "gold is money" is like an agreement that could be canceled.

A symbol of value does not hold value.  It points to it.  The value of a sandwich, the value of a house, the value of gold....they do not change much.  You want some of the above everyday.  The 'value" of Cabbage Patch Kids or Magic the Gathering cards or comicbooks or stamps or modern currencies change all the time, and drastically, because they have no intrinsic value.  You can't eat them, you can only gloat about having them.  For a time.

Aha! I have a feeling there's a problem with one of your assumptions, and I suspect may be the process by which the value of X takes deflation into account. There's already something driving the value of X - it's the prices of goods that can be purchased for X - and I don't think that in general the value of X can be such that it both matches the prices of goods that can be purchased for X and takes deflation into account. This is quite tricky to think through, though, because that's a fairly fundamental assumption of economics and I've never been that good at it at the best of times.

(Edit: Ah, that's interesting but not it, I think. However: changes to the value of X due to anticipated future deflation affect the rate of price deflation themselves, and that may be an issue.)

You can't actually add up infinities like that. In any case, if we're not entirely certain about the future, then it's a lot simpler: over time we acquire new knowledge about future deflation, and unless there's suddenly some reason to consider it less likely this extra information will drive the value of X up over time. (Except for that one small outstanding issue...)

I think you're trying to argue this from a "wtf is this?" layman's point of view, while others are trying to argue this from a "standard business practices" point of view, and as a result, the two discussions are on completely different wavelengths.
Yes, if I was running this business, I would have deflation expectations built into my prices, just as I have inflation built into my USD prices. Currency fluctuation is just something completely different I have to deal with, having nothing to do with deflation, which is something I already deal with when dealing with USD/EUR

So, deflation has been built into the value of bitcoin as it's fluctuated from $0.00 to $30.00 and back down to...$10?

I think you're missing some appreciable percentage of your parietal lobe...

Competition is for dogs.  If you produce what you need, you need no other.  If you produce more than you need yourself, you are in business.