Topic: Serious flaws in Bitcoin monetary policy (Read 7095 times)

I fully agree with this, Bitcoin is not designed to manage the daily payment network at global size.

But what would be the caracteristics of this "BTC-derivative"

It interest me, I'm thinking about exactly this part, design a payment protocol, with "good" economical qualities.

I have some ideas, but would like to read more on this topic, to see the options, the eonomical specifications, and eventually technicall implementation of the payment network, reward to use the system...

I am not sure I would wish to have that kind of function. Lots of reasons:

If and when bitcoin will be world money, it will have a relatively stable value, far more stable than any fiat money's value and even more stable than the value of gold during history.

The fluctuations in value and the floating interest rate (that is also a consequence of its soundness) creates important price signals to the actors in the economy: Shall I spend, save, lend or invest, and when investing, should I go for investments with a quick return, or investment that produce something useful far into the future.

The fluctuations in value will be spread among individuals relative to their current holding of money, thus introducing far less distortions into the production structure compared to the current situation.

The fluctuations in value will be partially predictable, opening a market for evening out short time fluctuations through speculative trade.

The last point is that by connecting the value (through varying the volume) to anything outside the money itself, you centralize it. Someone has to decide what the reference value is, and from time to time adjust the formula as new good types are invented and old good types fall into irrelevance. Just look into how modern mobile phones are valued compared to old, for the purpose of figuring out the consumer price indexes, to see how absurd it can be. As it is designed, bitcoin is not connected to anything, there is therefore nothing in the real world which use can be distorted by its moneyness. Bitcoin it is more pure money than anything that has been before.

That was what I was proposing in the OP and subsecvent posts.

It's easily trackable though, it just needs an API between major exchanges. If too much if it is sold, then interest rate rises, if too much of it is bought then interest rate lowers.

Now interest rate here means that coins can be burned/deleted or it would offer some kind of return like peercoin.

And the opposite would be to just increase the monetary base.

It would be a longshot, but it can be programmed I think if enough dedicated programmers would come together.

+1 odolvlobo

What you are proposing are notes.  It's like silver notes except w bitcoins

What does it mean ? Bitcoin is infinitively divisible. As long as a satoshi can buy a cup of coffee there will always be enough BTC for exchanges.
Your problem is : "what if the price of Bitcoin goes up ?"

Savers will win, spender will loose, what is the problem with that ?
"Less consumption" ? Why is it a problem ? People will always buy for eating, sleeping, housing.
"Less investment" ? Why is it a problem ? If you get rich and see that there is a need to fulfill for the market, you will still invest in a solution if you believe the potential is higher than deflation rate.
At least investments will be more profitable, which is what matter at the end of the day. (less mis allocation)

Yep, this is what excites me too.
If someone somewhere invents this BitCurrency in a way that intrinsically tracks a reliable independent measure of demand, so it auto-deflates or inflates as required, we will have a stable currency that cannot be centrally manipulated.
If this happens I'd get as much base commodity (BTC) as I could

Maybe I should refine.
While commerce can exist in a world of imposed deflation (we have to buy food at least right), a payment mechanism that is deflationary cannot compete where an inflationary one exists**.
So unless BTC creates a market where only it can operate, it has to operate in markets where inflationary fiat exists.
Unless as I say, a BitCurrency can be used for trading that uses BTC as it's base.
What would be really cool is if this BitCurrency can be hardwired to inflate in line with a reliable measure of demand. This would keep the value of this currency stable.
BTC however will grow in value, but it wont matter anymore because people would use BitCurrency rather than fiat.

**The evidence for this is logical as I mentioned at the beginning. People would save BTC and spend using something else**

The consensus here has been that commerce needs an "inflatacoin". So if you think consumer spending can exist without it you are dreaming.

Toknormal, however makes a very good point in that we shouldnt be comparing BTC with fiat, but instead with gold as a base commodity. So while BTC will always be deflationary, a BitCurrency could be put into circulation that uses BTC as it's base. But this Bitcurrency mustn't deflate with demand, which means there must be a flexible mechanism for inflation that allows the BitCurrency to remain decentralised.

Thats true, people often think of a house as asset but it's a liability first then an asset once it's paid off.  When you take on a mortgage you are technically speculating that once the house is paid off you can sell it for more than the value of loan plus interest minus the equivalent what you would have paid in rent.  However, they don't think about that when they are shopping.  It's more about if the house suits their style, the neighborhood, etc..

But a lot of the capital markets are funds that provide the capital for business.  It's just not many people use that or is in the finance industry so whenever talk about loans they think of either student loan or mortgages.

Yeah the inequality gap is a hot topic because it's getting crazy out of control.  A lot of people can feel this in their everyday life.  I think what will probably happen is that there will be some tax restructuring.  Especially on capital gains.

I think Bitcoins importance is that it's a broadast eminating from a wounded population.  Especially with the millennials.  Burdened with student loans in a thin job market.

The problem though it got appropriated by the libertarian/ anarcho capitalist crowd so some of the politics attached bit coin is contradictory. Made worse by YouTube celebs like Molyneux and Max Keiser.  These kids need a voice but it's do them more good if they rallied around less controversial people.  But the youth is attracted to controversy.

What Imfind funny is that the St Louis  Fed chairman tried to say something about banking is a protocol like Bitcoin and he got booed. (Figuratively).  That type of guy is who you want on your side.  He's extending an olive branch and he's got connections to the establishment.

Thanks for that interesting commentary.

To me, a big part of the problem is the huge disparity between ordinary people's understanding of banking / money and the reality.

For example, take the concept of interest and "loans". I think most people generally understand the word "loan" to mean the transfer of some some asset from one entity to another on a temporary basis while ownership clearly resides with the lender.

Note 1 very important aspect of this understanding: during the period of the loan, the lender's assets are *depleted* by the amount lent. So, for example if I run a car hire business with 10 cars and I lend you a car for a week, I will only have 9 cars left. It arises from this that an interest payment is reasonable to compensate the lender for the use they could otherwise have made on their asset.

Now lets look at banking. As we know, it doesn't remotely work like this. What happens instead is:

[1] - the bank creates new money levered off a capital reserve base

[2] - that new money is backed by THE BORROWER'S FUTURE ECONOMIC ACTIVITY

Note that second part. It's actually the borrower who underwrites the value of the new money by signing a pledge to work for the next 25 years of their life in order to service and repay the loan. If their ability to do that is compromised then the loan defaults and the money is extinguished.

If the vast majority of ordinary people understood this principle, the banking system would not look anything like it does today. If they understood that the bank is only a liquidity provider but it is the borrower who endows that liquidity with 'value' then they would never accept the conditions under which such liquidity is provided.

What banks do as akin to supplying the paper to the book publishing industry, yet they are remunerated as if they were the authors generating the content.

The problem is with the words "loan" and "borrowing". They are misnomers which dupe the world into accepting a highly asymmetric financial system. The proof that it's asymmetric lies in headlines such as these...http://www.theguardian.com/business/2015/jan/19/global-wealth-oxfam-inequality-davos-economic-summit-switzerland

You mean you've been brainwashed.


It's an excellent monetary policy.  We like it that way.  If you want inflatacoin, you can keep using what your govt doles out and be happy.

My opinion on Euro is that it was mainly formed formed for political motives between France & Germany.

But for the Euro members like Greece had to default because they had no money printing mechanism to deal that crisis because their debt is not denominated in their own currency.

But I think the Euro was mainly a benefit to German economy.  It's raised the buying power of the periphery countries and lowered prices of German goods.  For example, people in Greece, Sapin, etc.  took on debt to buy German cars

But I don't follow forex so I don't know much about it.

I think the trouble has more to do with rise of shadow banking and derivatives.  A central bank like Fed has power to do is raise or lower the overnight interest rates or Fed Funds rate.  And now they can do QE, but not much else.

What happens in modern banking is that created new money is created when banks create loans. The whole fractional reserve thing is incorrect.  The Bank of England already put out a paper saying this.  Banks create loans THEN they look for reserves after.  They borrow the reserves from other banks.  If they can't get it by end of day they borrow it from the Central Bank. 

But as we know there's plenty of reserves.  So it's not for lack of reserves it's lack of good borrowers.

Where does shadow banking come in?  Well, not so good borrowers, like people who lack collateral or credit rating.  They don't go to commercial banks they go to shadow banks because there's less regulation there.  In the shadow bank sector the banks can't go to the Fed and borrow reserves so they go to the repo market.  Shadow banking ( which can also occur inside a traditional commercial bank like JPM or Citi) uses tools like securitization, (CDOs, ABS, ABCP), and derivatives (CDS).  In this system all the assets are highly leveraged and that's why an external shock can topple a bank.

Shadow banking is a recent phenomenon, With dramatic growth from 2000 fueling the housing bubble.  In 2008, prior to the GFC more than 50% of money was created from within shadow banking.  The St. Louis Fed has a paper about shadow banks if you want to read more.

But essentially, regardless of the Fed, money gets created either in commercial banks or shadow banks.  But the Fed only has minimal with commercial banks by adjusting the Fed Funds rate.  The systemic comes from the interconnectedness of commercial banks to shadow banks

It's unfair to blame central banks for everything that's happens in banking because regulations come from legislature/ Congress.  The difficulty in regulating shadow banking is that by definition it's off balance sheet.  So Dodd Frank, Vockker Rule, ring fencing, etc..  All those regulations only affect commercial banks.

The whole Bitcoin 1:1 reserve ratio, blah, blah is a non sequitur because it's so left field from how the entire financial industry operates.  In a thought experiment: if Bitcoin replaced the Central Bank, and people need money they would still go borrow it somewhere.  But without a Central Bank there's no lender of last resort.  Thats the big difference.  The system would still be fragile except you don't have this entity to print money and inject liquidity in recessionary times and raise interest to suck the money out of the system in times of inflation.

Ah ! I wondered about that. I realised that stocks were soaring due to QE and not the underlying corporate growth, but I couldn't really see what the actual mechanism was that drove money into the stockmarket. (Presumable there's only 4 places to go - stocks, bonds, cash or commodities. Under ZIRP, cash has no ROI, bonds are expensive as you point out, commodities have crashed so all thats left is stocks).


Do you think the system is headed for trouble ?

I'd be interested to see what you thought of this guy's commentary. It's quite long (about an hour) but very listenable...

http://www.silverdoctors.com/jim-willie-swiss-dump-the-euro-go-long-gold/

You are correct elasticity just means the money supply can expand contract.  Most money these days come from commercial banks making loans. 

The problem is though it's easier for banks to create money than destroy it.  They can't close out the loans unless the borrower pays it back.  What they do is " deleverage". The reason for QE is mainly to inject liquidity in the reserves can continue to make loans.  However, it didn't do that at all.  That's why earlier I said QE was a failure.  If you are interested in this topic I suggest Richard Koo and his theory of balance sheet recession

What QE probably did was make bonds expensive so the funds rebalanced their portfolios towards equities, hence the bull market

I don't think you've quite understood me properly.

I'm talking about the fact that a monetary medium with a fixed or limited supply does not have any bearing on how "elastic" a financial system can be that uses that medium as a monetary base.

You don't need an economics degree to understand that - just an observation that when we were on a gold standard, people didn't have to wander around with lumps of yellow metal in their pockets just to buy a packet of cornflakes. Nor did the numerical balances in depositors accounts have to deplete so that new loans could be made to creditors.

Thats because a modern economy is complex and moves from "narrow" to "broad" money through various stages of abstraction and leverage. (http://en.wikipedia.org/wiki/Money_supply). The same thing would (and does) apply in  crypto-based economy.


We've maybe got our terminology 'transatlanticfied' here. In my country we'd call that "loan security" and the principle I described is indeed exactly how banks loan out money.

What you've understood as "collateral" is simply a condition of the mortgage agreement that minimises the lending risk. The "house" does not form part of the bank's capital reserves (though having it as loan security may enhance the leverage available on those reserves). I agree that the loan manifests itself as an asset and that such 'assets' can, to various extents, contribute to the bank's capital reserve, but none of that has anything to do with the basic principle of whether a limited supply monetary medium can serve as part of "M0" in an elastic financial system. There still has to be a progression from base to credit money (or "narrow" to "broad" money as the M0...M(x) would express it).

In the modern fiat system, this 'hierarchy' became somewhat obscured because, as you pointed out in your answer, the types and grades of asset that qualify as 'capital reserve' have diversified so much that the definition of what constitutes "base money" is much more obscure.

Nonetheless, the principle is still very much there, just with a more fancy name. It's now known as "Tier 1 Capital"...http://blog.usbasel3.com/slr-basel3-leverage-comparison/

(P.S. A 1975 Fender Strat valued at around $400 in 1975, $800 in 1990, $1500 in 2000. Today you'll be lucky if you can pick up just the neck for that price, so probably better or as good as most triple A bonds   )
 

I think Bitcoin Foundation should do like Xapo, launch a few asic miners into space, and make a permanent mining pool that mines from the orbit, so that it can't be raided by swat teams.

Also it would be nice if it would have few metals in it, to make it undetectable by military missiles so that they can't take it out.

This way we would have a permanent mining base in the orbit that cannot be taken out so that even if miners on earth give up , still there would be enough mining capacity in the orbital miners that would sustain the network.

Oh and also they would use solar energy from solar panels so that they would be self sustainable


Hehe, ratings are actually done by measuring the volatility of the assets and the trend's direction.Guitars are pretty deflationary because there's always a new version that comes along so it would actually have a very low rating 

You actually complicate the things very much, that is not how banks loan out money, the collateral varies from credit to credit to compensate for the risk.

For a house mortgage the collateral is the house itself and perhaps some downpayment, if needed. For a short term loan like credit cards there are usually no collaterals, but if you dont pay them they will confiscate your wealth from any source available, and if you dont have any they`ll put you in jail and make you do forced labour to pay it off, or atleast in my country is that.

The credit instrument is issued from the loan itself, so that the bank can sell some of its loans to ease its balance sheet and get immediate cash. A credit sold is actually an asset because it generates income to whomever buys it, because of the interests.

Bitcoin's supply cant be grown because its hardcoded to be limited, you still can have a fractional reserve model here, but only if you take loans from others, you can't put money out of thin air.

This is actually what I was saying, that 1:1 leverage is the correct, and you can only get more if you prove your competence, a.k.a get a loan from someone who is willing to give one to you and not just print it yourself.

This is a very fair system we have here, but still the problem was not the fractional reserve that i tackled in post #1, it was the lack of liquidity which arises when people hoard money, this is what causes crashes, so a QE mechanism is imperative if we want stable prices, there is just no way around this.

1)Of course I emphasize again, I never said that CB should be the one doing it, it should be decentralized.

2)And QE should not be used to inflate bubbles, and support fractional reserve with leverage > 1:1.

If these 2 criterias are met, then QE is legitimate, otherwise it's just a scam tool.

I just discovered this thread and wanted to remark on the original point re. elasticity and inflationary/deflationary currencies.

First of all, you've kind of skipped over a very important point which lies at the heart of all this, and that is the concept of "base money". With me not being an economist, I define the concept of "base money" intuitively as being the "last asset in a chain of trust".

For example, lets say your a plumber and you do a plumbing job for me in exchange for my 1975 Fender Blond Stratocaster (it was a luxury bathroom  ). At the end of the job, I don't actually give you the strat because your too busy to take it away for now, so you get a signed certificate stating you own it. We've now created a derivative - the certificate - which is backed by the base money of the deal: the strat.

Later, you find yourself in debt to the bank, and the bank (regarding '75 Strat's and my signature as AAA ranked assets) accepts the certificate to pay off the debt.

Now the bank goes to the FSA and gets them to endorse '75 strat' ownership certificates as approved reserve capital, so I can use it to sell mortgages levered off that capital according to the reserve ratio, thereby creating new credit money backed by the future economic activity of its respective mortgage holders.

So here we've created an elastic economy with liquidity which varies according to demand, all from a fixed supply base money system (namely 1 1975 Fender Stratocaster).

I realise it's a fractional reserve credit money system as far as the last step goes, but the principle would be the same, for example, in full reserve gold standard. The only difference is the value of the underlying collateral (i.e. the gold price) would increase as liquidity increased.

This is what would happen in a Bitcoin economy.

Bitcoin is *base money*. It is not backed by anything which is why it's such a powerful monetary medium and store of value. I don't think many people who have thought about this seriously think that in an advanced crypto-economy we would be using base money on a day to day basis. (We do today when we buy a packet of cornflakes with a fiat note, but most of the economy revolves around credit money).

A more realistic scenario for crypto-economy is that as its value grows, it serves as a base for a derivatives market which begins to deliver liquidity into various sectors of the economy. It can still be a full reserve derivative, but liquidity can grow and as it does so the value of the underlying cryptocurrency collateral will grow.

There is already a working model of this type of derivitive - Bitshares and its associated "Bit Assets". This provides an elastic monetary model whereby a limited supply base collateral is used to back an unlimited supply pegged asset which is borrowed into existence just like fiat. The only difference is that it's more than full reserve (200% collateral is required I think to create BitUSD) and margin calls are automatically generated by the blockchain when ratios fall below minimum.

Just a last note on the fiat economy - what serves as base money in the fiat economy ?

I like to look at this in very fundamental terms. Fiat is either backed by past economic activity (or "wealth") or future economic activity. When the world was on the gold standard or Bretton Woods system, gold served as base money. There was nothing backing gold (in the sense that there was nothing to exchange it for - it was the last man standing in the trust chain, equivalent to the Fender Strat above).

Gold was limited supply with an element of annual inflation, just as bitcoin is. Despite that we had an elastic financial system. Banks made loans and the value of the collateral went up to compensate so that there was always enough gold to represent the currency that it backed.

While we were on the gold standard base money could be regarded as being "past wealth". i.e. wealth already created.

AFTER the gold standard, however, base money became more ambiguous. But essentially it involved governments issuing bonds. The bonds then get sold to the commercial banking sector which levers it according to the capital reserve multiplier to create credit money.

Note the difference - here, the base money is *future wealth*. The government is selling the country's future economic activity ("debt" in other words) into the financial system instead of gold. This is where the corruptibility sets in because there is no limit on future wealth whereas there is a limit on past wealth. This brings us to where we are today, with governments inflating their base money supply on an almost permanent basis.

So the conclusion of all this for me is that there is no problem with elasticity as long as we are restricting ourselves to the specific domain of *base money* because a mature financial system has many layers and it isn't the job of the base layer to support elasticity - in fact the contrary, its job is to serve as a fixed capital base which gives integrity to the expanding / contracting liquidity supply that's circulating in the economy.

Yeah like BitPesa and other systems. I just saw a news on coindesk that they finished another new system for Kenya an it's now fully operational. So that is 1 thing with mobile phones and SMS as 1 phone tower can cover a large area.

However still the paper currency note or just the paper BTC with scratchable private key is still good as a backup plan.

Why not have both, and let people decide which one is better to use in an emergency situation.

Hashrate will be ok, there are enough miners in Iceland that are loyal, and they have very low mining cost there because the electricity is cheap due to geo-thermal energy.

Perhaps China can be a good place too if they stop the hostility, because many miners are there aswell.

And besides if the oil price remains low, then its even better, in a crash you generally have very low prices and deflation all out the board so, the mining cost will be very low.

I`m more concerned about the 51% attacks in a crisis like that, but I hope mining pools will think about that aswell.