The monetary systems of nations operate on two types of balance sheet expansion:
- National, where the government spends into the economy expanding a national balance sheet
- (The sum of) banks’ balance sheet expansions, where bank loans create deposits
The asset side of both of the above are traded around as “money”.
The national government creates the numeraire for the system (the “Dollar” in the US, the “Pound” in the UK etc.) and in addition to spending directly in to the economy in that numeraire, the government allows a public/private system (publicly regulated private banking system) to operate with the same numeraire. This creates a single system for the public but in fact arises from two separate but linked balance sheet expansions.
But why do the tokens from either of these balance sheet expansions have and maintain value?
The government maintains the value of its balance sheet tokens by demanding that some of its tokens, once a year, must be paid back to the government. This guarantees that everyone in that nation will accept and value the tokens from the national balance-sheet expansion.
The tokens that arise from the public/private bank balance-sheet expansion maintain their value analogously – by the obligation to repay bank loans.
Together, the obligation to pay taxes and the obligation to repay bank loans maintain the value of a currency. Note that both of these rest on the government/legal system of a nation.
An organized, effective government with a sound legal system that does not use foreign currencies can always maintain the value of its currency. (Hyperinflations are always the result of governments and their legal systems becoming corrupted or destroyed in some way, and never the result of runaway money creation).
What does this mean for Bitcoin and other cryptocurrencies?
Bitcoin is not the result of a balance sheet expansion. There is no inherent obligation for repayment of bitcoin to any government (taxes) or to extinguish private debt (banking system). There is no in-built demand for bitcoin (or any cryptocurrency).
Bitcoin is worth zero dollars (or Yen or Pounds etc).
National currencies will always do two things 1) extinguish tax obligations and 2) extinguish private debt obligations. Even if you have neither, there are always enough people with tax and bank debts that you can be sure that your money will be voraciously sought after by merchants of all types. Unless we are in Mad Max territory, they will give you a loaf of bread for it.
Bitcoin is not part of a balance sheet. It does not inherently extinguish debt of any kind – neither a tax obligation nor a bank debt. Nor do other cryptocurrencies. Once the fad for them subsides, the realization that you can’t pay taxes or repay a debt with them will become evident and their true value of 0 will become evident.
Because they don’t understand money or balance sheets, bitcoin collectors and cryptocurrency creators don’t understand why their tokens are inherently worthless. They won’t understand why, when the fad passes, no one will be willing to take their play tokens for real goods.
The only benefit from the bitcoin fad may be a better understanding of the balance-sheet nature of national economies, and the relationship of this to the real resources of a nation. This will prove to be the real lesson from bitcoin. The sooner it is learned the sooner nations can get on with the real work of using their national balance sheets and good legal environments to improve the real economy.
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P.S. A common refrain is that yes, Bitcoin and cryptocurrencies are worthless, but Blockchain is really a big deal.
Well, not so much…
The blockchain paradox: Why distributed ledger technologies may do little to transform the economy
Ten years in, nobody has come up with a use for blockchain
As I have said before – blockchain is going to turn out to be the Wankel engine of the finance world. Interesting concept but not that useful in real life, never quite filling a real need.
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