Achieving stable prices through a reference currency

[jtimon]

After reading some proposals for currencies backed by bitcoins and such, I need to explain the way I think stable prices should be achieved.
Maybe I should have reply to ano of those threads instead of starting a new one.
A reference currency could be backed by nothing and hold by nobody. It would be defined (not backed) by a basket of commodities and services in a way similar to the Terra Reference Currency.
You just need a place to look at the prices of commodities and services relative to bitcoins.
There's no limit in the number of commodities in the basket because you don't need to store them to bakc the  

For example, you could define 100 reference units as:

5 barrels of oil
1 oz of gold
100 hours of labor (you would need an index for the medium wage per hour)
...

Merchants could set prices in the reference currency but charge in bitcoins.
You could have a bitcoin client that displays all balances in reference units instead of bitcoins.
If the price of bitcoin increases, your reference unit balance will increase too.
You could have contracts denominated in the reference unit but to be payed in bitcoins.
If a loan is denominated in RC and to be paid in BTC, the lender would have to take into account the deflation (or increase in bitcoin value) when calculating the interest rate to ask.

There's no need to issue or back the currency, it would be just for contracts and prices.

Right now, I think most merchant calculate their prices in USD and then "translate" them to BTC. But as we all know, USDs (although less volatile than BTCs now) aren't a stable measure of value at all.
Even if merchants show their prices in BTC, they could set the prices in RC and adjust automatically their webs using a BTC/RC index.

This way we can achieve stable prices without messing with the money supply.

EDIT: Now I propose referenceCoin, you don't need to issue it, just provide its btc price inside another chain using the same voting system is being thought for stablecoin.

This is a good idea, but how is the infomation about exchange rates fed into the blockchain. You need I thinlk two items of third party data: the current USD exchange rate and the exchange rate between current USD and whatever commodity you are pegging value to. Presumably, humans need to supply this data. How do you incentivize the humans to supply honest data?

If you want a distributed currency pegged to ANYTHING, this is one of the biggest technological problems to solve. However, consider this: there are also attack vectors on bitcoin that involve fraudulent timestamps. Bitcoin uses a distributed timestamp protocol, where nodes reject timestamps that differ significantly from what they think the time is. I believe the same logic can be extended to exchange rates. If somebody lies about the exchange rate, other nodes will reject that block. Consequently, I consider the problem of distributed exchange rates a (mostly) solved problem.

Referencecoins aren't created, they just have a defined price that is function of the exchange rates.
Since you can't pay the miners, you need to put it inside another chain that sustains it. Probably DerivativeChain that also needs them.

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[ene]

So instead of the prices of things I buy going up and down, my own bank balance goes up and down? Isn't that even more difficult than dealing with prices? C'mon.

Also, http://forum.bitcoin.org/index.php?topic=9923.0 and other threads have the same incredibly stupid idea.

[jtimon]

So instead of the prices of things I buy going up and down, my own bank balance goes up and down? Isn't that even more difficult than dealing with prices? C'mon.

Also, http://forum.bitcoin.org/index.php?topic=9923.0 and other threads have the same incredibly stupid idea.

That thread talks about actually issuing and backing a currency, not the same thing.
Maybe modifying the bitcoin client is a stupid idea, but signing contracts denominated in a volatile currency is not a better one.
I think a reference currency could be very useful.
A reference currency could help international business to save a lot of money in derivatives, for example.

Anyway, the main point of this thread is to convince people that there's no need for backing and issuing for having an indexed "currency".

[Dobrodav]

Well, i am was running, drunk and happy, with idea like that, just yesterday.

     There is a some obstacles, - process of making solid and reliable RC (I am reffer to it like to CU - Conventional Unit) is not simple by itself . Oh, its a realy hard project.
     That RC can be (and of course, there will be attempts to do it), object of standart statistyics manipulations,  we have too many examples of that practise.
     Why it would happen ? Lets imagine: Peaple will tend to compare other money to RC and will find out that inflation is not so low, like authoritys told them - authorities will try to manipulate RC value.

  So, i am think it is good idea, usebale not only to bitcoin community, but to all of    any currency holders. But i cant even imagine, how to make that project reliable, solid, well maintened, and resistant to manipulations attempts.

  For now, it seems, we are doomed to rely on other currencies when pricing our goods.

[Bashtee]

the current problem is the price stability of bitcoin. you can't start a shop by accepting a currency that pendels between $10 and $20 in one week, because a couple of news magazines release an article about it. as a result, the community has to built up a consensus how much a bitcoin is worth and express it with a currency that also seems to be stable. i suggest to use euro with an average inflation rate around 2% per year, as the dollar is too unstable at the moment (1€ = 1,462$; ), another option would be the chinese yuan.

so, what is the next step? ensure that the bitcoin value remains stable over a certain time, aiming to decrease the deflation rate to an acceptble level. lets say that 1 bitcoin is eqvalent to 15 € (almost 22$), how high should the deflation rate be? not more than 5% per week, I'd say. why? unlike euro and dollar bitcoin still has to be "produced" and people want to see reason why they should use bitcoin or mine them. 2,92% per week - in the first 10 weeks - seems to be a reasonable amount. after those 10 weeks a bitcoin is worth 20 € per coin. after that we decrease the deflation rate to 2,26% per week, leading, again, to a raise by 5€. The deflation rate over 40 weeks is around 180%, but falls with the nex 40 weeks to 50% and after that again. just an example how it could be.

By agreeing that a bitcoin gains a maximum of 5€ in worth after 10 weeks, we agree to a stable deflation rate and a calcuable worth of bitcoin.

sounds nice, but how do we achieve this? democracy. start a poll, spread the word, agree to a fixed amount to start with, agree to an acceptble growth rate, make a website with the current exchange rate according to the deflation rate most of the people agreed to, start your business with bitcoin as an accepted payment.

i read something about having a bank for bitcoins. i have to disagree, we simply need people who are willing to pay real money for bitcoins, and as it happens the best way to do so is sell them on a market, just like now.

brb, paying for my 5970 to farm bitcoins.

[AntiVigilante]

This way we can achieve stable prices without messing with the money supply.

Pricing in GPU cards?

[jtimon]

@Bashtee

I don't think that "fixing a price through democracy" is even possible

@Dobrodav

As you say, is a difficult project and governments won't like these index currencies, but they won't like bitcoin neither.
Instead of a basket of commodities and services (for simplicity) we could, for example take the value of the USD today and calculate the relative value to the USD using shadow stats inflation index. The unit will be defined as USD in may 2011.

I'm sure many merchants price in dollars and then automatically (or manually) calculate the price in BTC with mt gox, but this way you're avoiding bitcoin's deflation in exchange for USD's inflation. The automatic tools they use to do that could take into account a measure of inflation. And we all know that governments aren't good at reporting inflation.

The point is, many people argue that bitcoin cannot be money because it does not perform the "measure of value"  function. I claim it doesn't need to. We can separate that function from money and measure value using a non existent but well defined "currency". Maybe Unit is more accurate. Reference Unit. Of course, different indexes can compete to be the Reference Unit.

@AntiVigilante

GPUs are more inflationary than USD (for now). It doesn't help.

[AntiVigilante]

As you say, is a difficult project and governments won't like these index currencies, but they won't like bitcoin neither.
Instead of a basket of commodities and services (for simplicity) we could, for example take the value of the USD today and calculate the relative value to the USD using shadow stats inflation index. The unit will be defined as USD in may 2011.

I'm sure many merchants price in dollars and then automatically (or manually) calculate the price in BTC with mt gox, but this way you're avoiding bitcoin's deflation in exchange for USD's inflation. The automatic tools they use to do that could take into account a measure of inflation. And we all know that governments aren't good at reporting inflation.

The point is, many people argue that bitcoin cannot be money because it does not perform the "measure of value"  function. I claim it doesn't need to. We can separate that function from money and measure value using a non existent but well defined "currency". Maybe Unit is more accurate. Reference Unit. Of course, different indexes can compete to be the Reference Unit.

@AntiVigilante

GPUs are more inflationary than USD (for now). It doesn't help.

Newegg prices skyrocketing?

There is a solution for this: Peg $5 - $15 dollar items in BTC, Peg $40 - $100 items in MtGox exchange. In between, depending on volume.

[malditonuke]

Bitcoin will stabilize as it becomes more liquid.

If you really want to help smooth price movements, provide a service that makes it easier to swap (i.e. currency exchange).

[jtimon]

@AntiVigilante

GPUs are more inflationary than USD (for now). It doesn't help.

Newegg prices skyrocketing?

There is a solution for this: Peg $5 - $15 dollar items in BTC, Peg $40 - $100 items in MtGox exchange. In between, depending on volume.

Sorry, I don't understand.

Bitcoin will stabilize as it becomes more liquid.

If you really want to help smooth price movements, provide a service that makes it easier to swap (i.e. currency exchange).

I don't want to make the price of bitcoin more stable (probably that's just impossible in this grow phase) but making easier for merchants to price in bitcoins (and for all to measure value).

[ene]

sounds nice, but how do we achieve this? democracy. start a poll, spread the word, agree to a fixed amount to start with, agree to an acceptble growth rate, make a website with the current exchange rate according to the deflation rate most of the people agreed to, start your business with bitcoin as an accepted payment.

Hi Bashtee, you can't fix a price just by spreading the word that it's fixed. Suppose the BTC is officially valued at 5 USD/BTC. If I have BTC and somebody wants to buy them at 6 USD/BTC, I will sell them at that price even if the official price is supposed to be 5 USD/BTC. And so will everybody else so it will be impossible to buy them at the official 5 USD/BTC.

Similarly if I have BTC but I really need dollars, and nobody will give me 5 USD/BTC, then I will accept selling them for 4 USD/BTC. So will everybody else so it will be impossible to sell them and get the official 5 USD/BTC.

Similarly if I want to buy BTC and everybody is selling their BTC for 4 USD/BTC, then I won't want to pay the full 5 USD/BTC because I don't know that I'll be able to make that money back by selling the BTC back. So I will pay closed to 4 USD/BTC.

There is a way of doing this though and it's described here: https://secure.wikimedia.org/wikipedia/en/wiki/Currency_peg but it requires somebody to have a lot of money (both USD and BTC) and to be willing to spend it for that purpose.

[AntiVigilante]

[qoute]
There is a solution for this: Peg $5 - $15 dollar items in BTC, Peg $40 - $100 items in MtGox exchange. In between, depending on volume.

Sorry, I don't understand.

[/quote]

Sell and buy the low priced items with BTC in mind.
Sell and buy the high priced items with BTC in mind.

Peg the inbetween items according to sales volume.

[BubbleBoy]

You can't have stable prices without "messing with the money supply". When the currency's economy grows or money velocity decreases someone needs to print currency, earn seigniorage and buy assets. When the currency loses value the same person needs to sell the acquired assets and defend the currency.

It' either that, or this horrible volatile currency 'backed' by a speculative bubble, that no sane merchant would touch.

[AntiVigilante]

You can't have stable prices without "messing with the money supply". When the currency's economy grows or money velocity decreases someone needs to print currency, earn seigniorage and buy assets. When the currency loses value the same person needs to sell the acquired assets and defend the currency.

It' either that, or this horrible volatile currency 'backed' by a speculative bubble, that no sane merchant would touch.

what exactly are you selling?

[BubbleBoy]

In Bitcoin's case, nothing. The proceeds of seigniorage were destroyed by solving incredibly hard, yet useless problems. A central bank could sell the forex, gold or corporate bonds it acquired during monetary expansion, and seize up any excess liquidity on the market. I can't quite imagine the distributed counterpart.

[jtimon]

You can't have stable prices without "messing with the money supply". When the currency's economy grows or money velocity decreases someone needs to print currency, earn seigniorage and buy assets. When the currency loses value the same person needs to sell the acquired assets and defend the currency.

It' either that, or this horrible volatile currency 'backed' by a speculative bubble, that no sane merchant would touch.

How people trade before central banks existed then? Who used to print gold and buy assets with it?
Is either central banks or a currency that merchants won't touch? Are you serious?
I don't see many merchants accepting bitcoins and worried about BTCs rising too much. Their complains are related to the hoarding encouraging deflation, all sane merchants accept it. It's just that few people want to pay with bitcoins.

In some sense, every currency is a bubble, since its value depends on beliefs. I just see the current faith in USD more fragile than the faith in bitcoin. USD has an army behind it. Gold has the history. BTC has a 21 million limit and a lot of digital conveniences. I think we will have a bubble, but that hasn't happened yet. What some people don't seem to understand is that although bitcoin has a 21 million credit limit, other block chain crypto-currencies will be created before bitcoin becomes "the world currency". Less secure at first but cheaper too (and with cheaper fees). It could have another technical or economical improvements too.
Anyway, there's a RALLY thread if you want to talk about the "bitcoin bubble", boy.

[jtimon]

In Bitcoin's case, nothing. The proceeds of seigniorage were destroyed by solving incredibly hard, yet useless problems. A central bank could sell the forex, gold or corporate bonds it acquired during monetary expansion, and seize up any excess liquidity on the market. I can't quite imagine the distributed counterpart.

Not useless problems, it's security. Maybe you think tipping your secret number when getting money from an ATM is a waste of your time too.

[BubbleBoy]

> How people trade before central banks existed then?

Using barter, gift economics, precious metals and stones.

> Who used to print gold and buy assets with it?

Gold has a relatively uniform geographic distribution, and throughout the human history the available supply matched the economic growth pretty nicely, if only slightly deflationary. It has the same problems as Bitcoin in that the value of one monetary unit is bounded by the work required to produce it, which in turn leads society to resource expenditures to extract gold out of the ground, only to store it in some other underground vault. Since easy available resources are depleted, the current method of gold extraction consists of chopping a mountain known to contain trace amounts of gold (grams/ton) and transforming in it a lake of toxic cyanide mud. This is the basis of calling gold a "barbaric relic" and the same is true for modern proof-of-work proposals which if widely adopted would lead to similar ecological disasters.
There is a better way.

> Is either central banks or a currency that merchants won't touch?

You should brush up on those reading comprehension skills, I've never said that. The current blockchain is technically and economically flawed, but as you agree nothing precludes a better implementation. This is the basis of my interest in Bitcoin, not the desire to enrage an endless barrage of libertarians, closet economists, conspiracy theorists and other assorted crackpots.

> Not useless problems, it's security.

That's how the mantra goes, but it's false. The amount of work used for bitcoin mining has no relation to the security needs of the system (it could be to small leading to vulnerability, much or too large, effectively wasting the excess). Miners only care about is bitcoins and the resulting security of the network is well correlated with the block bonus and the price of BTC. See the recent thread about how mining for a fee is unsustainable in the absence of unionisation of the miners.
It's also conceptually possible to create a bitcoin-like system that achieves the same level of security wasting much less energy. No, I don't have the source.

[AntiVigilante]

You should brush up on those reading comprehension skills, I've never said that. The current blockchain is technically and economically flawed, but as you agree nothing precludes a better implementation. This is the basis of my interest in Bitcoin, not the desire to enrage an endless barrage of libertarians, closet economists, conspiracy theorists and other assorted crackpots.

Structurally flawed it may be but 'economically flawed' is a tautology.

My foot hurts when I do this!

Then don't do that.

> Not useless problems, it's security.

That's how the mantra goes, but it's false. The amount of work used for bitcoin mining has no relation to the security needs of the system.

Flat out lying. The security of the system is determined by the amount of time required to fake a block and take advantage of it while still producing blocks to be traded. It's a feedback mechanism that happens to have economic benefits as well.

(it could be to small leading to vulnerability, much or too large, effectively wasting the excess).

It would take ten times as long to collect the computing power that's been engaged using "purpose oriented" activities. You'd have a hard time convincing the media to cover it. You wouldn't get enough people who wanted to solve your "useful problem" because it would be stuck in a nobody wants because nobody knows about it because nobody wants it loop.

The lottery bypasses all the useless navel gazing.

the resulting security of the network is well correlated with the block bonus and the price of BTC.

Correlations are a dime a dozen. Where's the meat? Show how tab A fits in slot B.

See the recent thread about how mining for a fee is unsustainable in the absence of unionisation of the miners.

I'm about to prove that one wrong.

It's also conceptually possible to create a bitcoin-like system that achieves the same level of security wasting much less energy. No, I don't have the source.

Go for it, Geronimo!

[xtapol]

There's an easy answer to the problem of price stability from a business perspective - futures contracts. Hedge away your risk like businesses do when dealing with any other volatile price. The lack of a good futures exchange is a major sticking point in the viability of Bitcoin for business.