Good summary. It's why an ideal currency is one which suffers from neither inflation or deflation.

Modern governments seem to want us all running around trying to avoid inflationary losses though. No wonder we often feel like we're on a treadmill.

BTW, I think the OT fails to recognise that the size of the Bitcoin economy will grow many fold in the future. I am concerned that this will cause monetary deflation, when judged per capita. If you don't believe me, consider how hyperinflation works:

1. Too much currency is printed.
2. Some people grow suspicious and decide not to hold the currency, but use something else more stable instead.
3. The same amount of currency is then spread between a dwindling number of people.
4. As there is more currency per head, this will result in further monetary inflation to those using the currency.
5. If there are still people holding the currency, go back to 2, with more people growing suspicious. Else currency has collapsed and is now worthless.

The number of people using the currency is just as key as the quantity of currency. It's not just the total amount of currency that is the issue, but also the user base (the size of the economy using the currency), which panic can swiftly erode. This is why hyperinflation can happen so suddenly and quickly.

Hyperinflation is triggered by a loss in confidence in a currency: fewer people using it, which then compounds the problem. The total amount printed may cause high inflation, but it goes hyper when people abandon the currency (so the economy using the currency shrinks).

With this in mind, consider the reverse: a growing number of people using a currency, without any additional currency being created; it logically amounts to monetary deflation, per capita. With a denationalised currency, with an economy varying in size (likely growing), this should be considered at length... I'm afraid I do worry.

EDIT: P.S. It's interesting to consider why we are here. I assume some are losing confidence in their national currencies and are looking for something better. With gold/silver at high prices and tech like the Bitcoins appearing, are the fiat life boats already being filled?

At the risk of going OT (should probably have its own thread, if it warrants consideration), natural wastage (lost coins) will place the currency in a natural state of mild deflation, if everything else is equal (ie. the size of the Bitcoin economy - the number of Bitcoin users - remained the same etc). You could destroy money through part of the transaction fee being paid into the void (ie. a portion of the fee is just destroyed, rather than being given to the processing node).

Whether these techniques would be agile enough, I don't know. In a predominantly credit based economy, interest rates are more important in the short term. The Bitcoin economy would likely be quite different though. Of course there is nothing to stop a currency being backed by commodities, and it may be more stable too. I'm just throwing some ideas out there about a commodity basket really.

If it's worth debating, we can create a thread on it.

That all sounds great! I could be a guinea pig, but I'm yet to receive/generate any coins (not for want of trying), so I'm probably not much use to you.

Re bump, that's good to hear you have an ear to gnaw over integration. My reason for liking bump for payments, is because it enables simple face to face transactions. Being able to pay one another, even strangers (if they are Bitcoin, bump users) easily is a big step forward. Take the concept further and you could imagine bumping Bitcoins at shop tills. Then you start to wonder why you need credit cards, PDQ machines, business accounts and all the other expenses which go with them.

If you have a chance, could you ask your neighbour if bump could scale up to supermarkets, with lots of tills close to one another, with many transactions occurring at the same time. Would someone trying to 'wiggle' their phone near you at the till cause problems for attempted theft (if they called themselves 'Tesco Till' or some such!)? All just ponderings for a future a fair bit away...

IMO, the value could be attributed to the way the Bitcoins are both created and distributed - it is completely decentralised and anonymous. People value fairness and their anonymity, so it should hold that Bitcoins gain value from this.

That said, it is reason to doubt adoption. Time will tell.

It's the monetary deflation I am concerned about here, not fluctuations (or deflation) in price indexes.

One way to demonstrate this is using the Quantity Theory Of Money. It has it's limitations, but over the long run, it has been proved correct time and time again. Specifically, T in the below:

M V_T = P T

http://en.wikipedia.org/wiki/Quantity_theory_of_money

"T is an index of the real value of aggregate transactions." - If the number of Bitcoin user base (essentially, the size of the Bitcoin economy) grows, this value will increase. If everything else remains the same, it means that P ("the price level.") will likely decrease. Considering that the Bitcoin user base could expand massively, this is a concern.

While there aren't many articles on this, likely because there hasn't been a situation where it occurs, I found this: http://www.economics.utoronto.ca/munro5/QUANTHR2.htm (although it is using a modified formula):


* Where credit is part of M in this case, I presume, so it will grow with demand. Bolding is mine.

As large population fluctuations, under the remit of a single, national currency are relatively rare. Famine gives us some examples, but there are arguments for prices increasing due to a decimated work force. IMO, it's probably a combination of both, but the amount of money per capita must be a consideration. As the volume of transactions in the Bitcoin economy may grow rapidly (due to the growing user base), we will have an even more extreme case on our hands.

If all prices are decreasing, just because money is becoming scarce, this isn't good deflation. This isn't because of technological advances, efficiencies and such, it is just because there is less money per capita over time.

EDIT: P.S. No worries with the arguing - as long as it remains cool and calm, it will help us arrive at the right answer, hopefully!

[One last thing: tracking a basket of commodities need not mean backing - the supply of money could just be adjusted to attempt to maintain the overall price level. While this is focusing on price inflation/deflation, it would attempt to keep the overall price level stable - to keep the currency as neutral as possible. Ultimately, it may be a better way of trying to do the same thing as above, albeit more complex. Tracking CPI/RPI is something different, as items in these indexes are changed (manipulated?) frequently.

The problem with tracking the prices of anything as that it is susceptible to changes in liquidity preferences (ie. propensity to hoard). Maybe a well 'managed' currency, in a world of competing denationalised currencies, would do well as the best (most stable) money. In our Bitcoin economy we probably should only concern ourselves with the broad strokes (ie. Quantity of Money, per capita), but future competition may go further (and attempt to create something more stable).]

Good to hear work is being done for Android - I love my HTC Desire!

BTW, have either of you guys considered integrating with Bump? It would be very cool to bump Bitcoins to other phones near by!  

The main problem with the Euro is central planning - how can you centrally plan for many different needs simultaneously? I'd argue it is impossible and you will end up with winners and losers.

This leads to another problem with fractional reserve banking. Trying to centrally plan, while there is a wibbly, wobbly layer of state backed (by deposit guarantee) credit in between makes the task all the harder. Again, I would say this is impossible to do effectively.

Out of control government borrowing doesn't help either, but is encouraged by the above. It then puts the central planners in a tough dilemma - save the foolish and punish the prudent or risk currency instability and break up.

Remove the need for central planning and need for safe storage by banks and you resolve the main problems*. This is one reason why I love the mechanism of Bitcoins - there is no central planning or clearing and they can be stored safely on your PC (or phone, or in the cloud, with extra layers of encryption etc). This stops government meddling (ie. central planning) and keeps your money out of banks unless you are willing to risk it for profit/interest.

* Governments should also borrow less, but that is a case for the individual sovereigns too. Having denationalised money would present interesting dynamics here.

I'm not going to get chance to reply properly until this evening, but just want to say a few quick things.

I'm very much pro-currency competition - I'm a huge fan of Hayek's Denationalisation of Money. If Bitcoins stay as they are, I fear they will lose out to other currencies, which will do a better job as 'money'. If you read the aforementioned, you will see that Hayek thinks that the best monies may track a basket of goods - to keep the price roughly constant. That could best target of all, but without formulating a way to measure and maintain this, keeping a rough handle on supply vs demand for a currency is the next ideal. In short, I'm all for competition, but avoiding obvious limitations would help prevent a new currency quickly becoming obsolete... if we want to see Bitcoins thrive, rather than one of its successors, then we would be wise to consider this.

As I've said before, there is nothing wrong with Bitcoins becoming a digital commodity, but I don't believe this will be the best, most stable money. There is much scope for competition to prove this too. I think we all agree that we want stable money though, right?

P.S. I am a software engineer, with a passion for economics. If I had more free time, I would consider developing some friendly competition. I have few too many plates spinning as it is though!

Bitcoiner, I'll post up a reply tomorrow (it's late here), but I've covered some of the points in the other thread. To summarise in one sentence, fluctuations will always happen in a free market, but restricting supply when demand is growing will not help matters.

As I said before, if you want Bitcoins to behave like digital commodities, that's fine. It may not make it the most stable currency though, which is surely what most people want from their ideal money.

[A bit of a tangent - BTW, this is also why a basket of commodities is often said to be better than a single commodity, as backing for money - they all fluctuate, but the hope is, overall they will be relatively stable, with some increasing in supply as demand dictates (like grain, drinking water etc). I have sympathy for that argument too, for similar reasons to the above.]

It's a simple question - do you think the value of the gold coins increase, decrease or stay the same? Once you give the forum an answer, then we can take the next step together.


How about if another 9 people joined the 11th man on the island, each without any gold. There are now 20 people, each in competition for 10 gold coins, which only the original 10 owned. What has happened to the value of the coins? There are two options and a bunch of shades of grey in between:

1. Demand for the gold coins doubles, meaning that the owners can exchange their coins for twice as much labour/stuff.
or
2. The new 10 guys will use something else instead of gold, such as silver, seashells or whatever.

In scenario 1, you have made the original 10 people very wealthy, simply because they were on the island first. In scenario 2, gold has been displaced as the only currency, with an alternative being used by the new islanders.

You may say 'and? what's your point?' The point is that you either end up with the early adopters gaining disproportionately, just for being in the right place at the right time. Alternatively, you end up with numerous currencies, which have to be exchanged to do business - it also becomes more confusing for the layman, to have lots of different monies, with different (and likely fluctuating) exchange rates.

Would it not simply be better to design a currency which ebbs and flows with the user base? This negates the need (although doesn't rule out) for lots of competing currencies. It also means that new comers to the island can at least mine their own (gold in this example) coins, to give them a more even starting point.

I don't know how many more ways I can explain the same thing, so I hope this outlines the options and outlines my point.


I'd like a system where I have to deal with as few currencies as possible. I'd like to be able to see the price of something this year and know it will be roughly (external factors, like oil/energy, famine excluded) the same price in several years from now. This would help me plan and prepare for the future. It also helps businesses do the same.

What will happen if things aren't done this way? You may end up with a bubble (ponzi style) or you may just end up with many currencies. Neither is ideal, for the reasons I outline above.

How do I plan on implementing this? Coin minting rates could adjust to the number of active nodes in the swarm - the bigger the swarm, the more coins could be minted. There may be more nuanced ways of doing this, but I'm most concerned with the theory; getting the theory wrong may doom the technology needlessly (it's great tech, IMO). If everyone agrees on a theory, then more thought can be pushed into the implementation of it.

How do you decide how much every new user should get? If each node can mint new coins at the same rate as the founder users, then the number of coins should grow as the user base does. Early adopters would still have an advantage, as they will have had more time to accumulate coins, but it gives new entrants a better chance - it has more balance. It is very much like how the current Bitcoin base is growing, but with a more dynamic approach and with no hard limit.


I'll repeat this question, as it's important: do you think Bitcoins would become popular if the supply was already fixed and no more minting could occur? I will assume you will say no (please let us know), but this will contradict your position - if you are going to fix the supply, it will have a similar (although less extreme) effect whether you do it now or in the future.

The point is, we all want monetary stability. By not increasing the supply with the user base, this will not be achieved though - that's my whole point.

If 10 people on an island have a gold coin each and only use these to trade with, what happens when an 11th person arrives on the island? Will the value of the gold coins increase, decrease or stay the same?

Consider the same example where they don't have to trade in gold. Would the 11th person try to use an alternative money?

You either take the approach that you're going to have competing, fixed quantity monies, or you try to let a single currency flex with the user base. Sure, you can have competing currencies (indeed, should). However, if you can use a money which can be flexible to the user base, it makes life easier. I'd suggest reading Hayek's Denationalisation of Money.

I've read plenty of Austrian theory, thanks, and agree with much of it. Most of the ideas are better than what we have to put up with now, but we have a chance to make a better system than using simple commodity money.

Additionally, we are starting from a point of obscurity - hardly anyone has heard of or use Bitcoins. Do you think Bitcoins would become popular if the supply was already fixed and no more minting could occur? If you limit supply prematurely in 10 years, it would have just as terminal an affect as if you did it now.

It will be a great experiment, for sure. I agree that Bitcoin will have its footnote in history too, but I think the devs hope it will turn out as more than that. I could well imagine that the Bitcoin approach would be the hare, while the alternative expansionary (with user base) money would be the tortoise. We know who won in that race.

I assume you agree that the value of Bitcoins will increase, while there is limited supply and growing demand? Follow that rational through and see where it takes your path of thought.

The point is to retain the same value. With a limited supply, but growing demand, each coin is going to be worth more. Companies, and individuals, want to know that 1 Bitcoin will be worth roughly* the same now as in many years to come. This makes business and personal planning easier.

If the global population was steady and everybody used Bitcoins, having a steady supply makes sense. This isn't where we are though - we have a growing Bitcoin user base, which needs more Bitcoins to match this.

* Don't mistake this to be some CPI, price index type tracking (like central banks have attempted over the last decades) - this is just about total coin and user quantities. The reason price index tracking is flawed, is that it is trying to measure the near impossible, because peoples' propensity to spend or save changes all the time. However, it is simple to consider why price stability is important (future planning) and it also follows that more Bitcoin users fighting for a constant Bitcoin supply is going to affect the price (think supply/demand).


In keeping 1 Bitcoin worth roughly the same 1, 5 or 10 years later, to help future planning (and therefore, business/savings/security etc) as mentioned above. If you have a growing Bitcoin user base, but a fixed Bitcoin supply, 1 Bitcoin will be worth more YoY. The holder of the Bitcoin would be made more wealthy from doing nothing. This isn't a great basis for a vibrant economy.

The real kicker? The only way demand will grow in the above scenario, will be if the newcomer thinks that there will be someone coming in after him (or they have just assumed 'prices only go up', perhaps because 'there are only so many bitcoins out there'). Classic pyramid/bubble stuff.


B = Bitcoins
U = Bitcoin users

Inflation = B/U

In other words, the number of bitcoins should be proportionate to the number of bitcoin users.


It's why I suggested there may be an argument. I'm fairly certain that the number of Bitcoin users would be the better metric. However, the swarm would surely know how many transactions were taking place, should this be a useful metric.

[/quote]

Just think it through. I'm sure there are papers on this, but it's just a logical chain of thought - new users competing for existing coins will create additional demand, per coin. Either new users simply won't bother to use Bitcoins or they'll buy in, hoping the price will continue to rise... until one day it doesn't and the value crashes.

If you want Bitcoins to be the best money, then the supply needs to flex with the user base (demand). If you just want them to become a digital commodity, then expect there to be swings in demand and value, which would make it less preferable as money.

I just read this thread - quite a long one there.

I agree with Suggester. I also believe that a competitor to Bitcoin which works in a way he/she describes will be the better currency in the long run. While I agree that competition will run its course and this will become obvious, it would be a shame for Bitcoin - it does so much right and in a clever way, that it would be a shame to see it lose out in the longer run; the team deserve much credit, IMO.

One of his first posts made the point worth repeating: keeping the system as it is, is like a ponzi scheme. As we all know, these have a habit of not lasting the test of time.

You get more wealthy for doing nothing, just for being one of the first users of Bitcoin. The more people join, the less they gain from this, until there are few new entrants. It's like a pyramid scheme in that sense - you're being rewarded for doing nothing.

Sure, the currency can be easily divided. Sure, people can use alternatives (Hayek, Denationalisation of Money - good read), but I don't think that helps the Bitcoin to become the best money and will prompt its replacement.

BTW, as the Bitcoin supply will grow for decades according to the current plan, this isn't at odds with my POV. I just don't think that it should stop growing if the user base is still growing; that would be counter productive. I also thing the rate of this growth could be optimised better, rather than being arbitrary.

EDIT: P.S. It's nothing to do with keeping a price index like CPI steady (like the central banks try to do). That's something quite different and I would agree that it's flawed and probably an impossible task too (as most Austrians would agree).

The point is, the bitcoin user base isn't fixed - the number of coins need to grow with the user base. If it doesn't then you are increasing the value of the coins already held by existing users. Therefore, the more popular bitcoins become, the more valuable each coin will get.

There could be a good argument for increasing the rate, along with the number of participants, forever.

If every generating node maintains the same constant rate of minting per CPU cycle (ie. more powerful CPU => more minting), then the coin base will grow along with the node base - which is the user base, which gives us a handle on coin demand. This has been touched on a few times on this forum, but I sense resistance to this.

The reason for doing the above, is not to create an inflationary environment, but to keep the number of coins relative to the user base. Failing to do this, will put deflationary pressure on the currency; remember, increasing the demand (number of Bitcoin users) for the currency, is the same as decreasing the quantity (of coins in a fixed Bitcoin user base). If you want to retain a steady, neutral, value of Bitcoins, then this needs to be considered.

Therefore a constant rate relative to the user base would be ideal. The faster the rate of adoption, the more coins should be created.   The reverse could be handled by natural wastage (lost coins), although this could be 'sticky' in the extremes (although destroying a proportion of the transaction fee would speed this up).

I'm sure an algorithm could be formulated to achieve the above, with the constant rate not being so high as to be inflationary - the target would be to keep the number of coins proportionate to the user base, thus creating 0% inflation*.

* I know this seems counter intuitive, but in a currency with a non-fixed (hopefully growing) user base, it becomes very important.

[NOTE: There may be an argument for the minting rate to track 'GDP' or some such - perhaps based on the number and value of transactions taking place? If people are economically active enough to have their node minting coins, maybe the user base may be sufficient/better in creating stability. This is probably another debate in itself, but the above point needs to be agreed on first.]

Hi Scepticus - I'm sure the forum will value your input on this stuff!

After a bout of agreement with you yesterday over on HPC, I find myself agreeing with you hear again; Bitcoins value comes in the way it is distributed, rather than the magic numbers themselves. I suppose the distinction may be lost on many, but it is one of the reasons why I'm hopeful it will find some success.

I do think that the quantity of coins should grow with the level of participation. I read on these forums that the limit isn't expected to be hit for decades, but the coins should become gradually more scarce in the run up to this point.

I think this process of coin quantity growth should probably have more time spent on it. At this point, the value of the currency is probably judged more by external factors (whether people believe in it, decide to use it etc), but if it does become popular, this will need looking at. While the number of participants are growing, the number of coins should grow with it - easily done by allowing continued, distributed, coin minting. The reverse is more tricky, although natural wastage (lost wallets/coins) would see the Bitcoin supply decreasing naturally. Other alternatives would be syphoning off a small proportion of the transaction fee and destroying it.

I could see there is a moral conflict presenting itself over 'destroyed' coins, but IMO, the currency would serve as money better if it could give and take a bit over time.

haha! Indeed - well put!

Haven't there been articles on slashdot, ronpaul.com and other places? I've found quite a few links on Googling.