Bitcoin Loans and Lending; The Weakness in The Bitcoin Economy

[JoelKatz]

Why would you ever want to hold an inflationary currency versus a currency that isn't? If someone has the option between using an inflationary currency or a deflationary one, why would they ever choose the inflationary one? I mean you personally.

Provided both were predictable, it wouldn't make much difference.

OK like this scenario: 40 years in the future the US dollar is still being inflated, while bitcoin is fairly stably deflating (and it is not subject to the large swings that it is having now). Would you want your paycheck in US dollar or in bitcoin?

A rational person would have no significant reason to prefer either. In both cases, adjustments to the amounts would be needed to keep the real payment constant. In both cases, the recipient could freely interconvert between currencies. In neither case would keeping the currency as currency be likely to provide the best investment return.

[Grinder]

There are people who understand the economics behind your points, they're just (mostly) staying out of this.

As I've said, it is trivial to understand his points, but they are also oversimplified to the point of being useless for real world use. If you think they are enough to make a valid argument you are a victim of the Dunning-Kruger effect.

[Synaptic]

This is based on a misunderstanding of what predictable deflation does in a market. In fact, predictable deflation is already priced into the current price of a bitcoin. If a bitcoin is expected to be worth $25 next year, it cannot possibly be worth $10 right now because all the people who would rather have $25 next year than $10 now would bid the price up.

HAHAHAHA...

This, now this is a special kind of stupid. I literally laughed quite audibly.

[dan_a]

This is based on a misunderstanding of what predictable deflation does in a market. In fact, predictable deflation is already priced into the current price of a bitcoin. If a bitcoin is expected to be worth $25 next year, it cannot possibly be worth $10 right now because all the people who would rather have $25 next year than $10 now would bid the price up.

HAHAHAHA...

This, now this is a special kind of stupid. I literally laughed quite audibly.

Why?  (That is, why is it stupid?  I assume that you laughed quite audibly because you thought it was funny)

I can't find any hole in that logic.

[anu]

The only way i'd see loans or credit working is if you just get the loan in your national currency and exchange the money as needed and spend the bitcoin right at the moment.

Thoughts?

Well, currently there are no Bitcoin loans available, anyway. And I expext that to be the case as long as fiat money remains dominant. Who in his right mind would take a loan in a currency that can increase it's value tenfold over night? Once Bitcoin is widely adopted and 1 BTC is a Kilo of Gold this will change. A smooth 5% Deflation a year caused by growth of the Bitcoin economy will not prevent short term loans just as a OD interest of nearly 20% doesn't prevent people from using OD.

I am wondering about large, long term loans like mortgages, though. At 5% Deflation, everyone would delay buying a house because sitting on your saved bitcoins and paying rent is more rational. If there are no buyer because Bitcoin mortgages are too expensive, house prices must deflate much faster than the rest of the market.

So if Bitcoin really starts to displace fiat money, it's time to sell the house and buy it back when Bitcoin is the only game in town.

-Anu

[Synaptic]

This is based on a misunderstanding of what predictable deflation does in a market. In fact, predictable deflation is already priced into the current price of a bitcoin. If a bitcoin is expected to be worth $25 next year, it cannot possibly be worth $10 right now because all the people who would rather have $25 next year than $10 now would bid the price up.

HAHAHAHA...

This, now this is a special kind of stupid. I literally laughed quite audibly.

Why?  (That is, why is it stupid?  I assume that you laughed quite audibly because you thought it was funny)

I can't find any hole in that logic.

LOL...it just never stops here.

[dan_a]

Why?  (That is, why is it stupid?  I assume that you laughed quite audibly because you thought it was funny)

I can't find any hole in that logic.

LOL...it just never stops here.

Yes, I get that you're far smarter than I am - but please enlighten me.  Where is the hole in JoelKatz's logic?

[Synaptic]

Why?  (That is, why is it stupid?  I assume that you laughed quite audibly because you thought it was funny)

I can't find any hole in that logic.

LOL...it just never stops here.

Yes, I get that you're far smarter than I am - but please enlighten me.  Where is the hole in JoelKatz's logic?

Other than being false?

[dan_a]

Yes, I get that you're far smarter than I am - but please enlighten me.  Where is the hole in JoelKatz's logic?

Other than being false?

Which bit is false?  If something is going to be worth $X in the forseable future then it makes sense to pay nearly $X for it now.  The difference comes from the risk of it not being worth $X when you think it will and the value to you of having $X in your hand now.

[anu]

I love it when bitcoiners finally look directly into the mirror and a brief moment of terror washes over their faces when they realize what they've done.  It's always much too brief, and then they look away and try to find re-assurance in the echo chamber.

You almost realized that promoting bitcoins as a currency doesn't make any sense at all.  You were soooo close.

Yes, if Bitcoin takes over, there will be major shifts in the ways we use cash. For instance long term bonds become verboten expensive. Bad news for the real estate market.

Good news for the victims of future wars. If long term bonds are incredibly expensive, wars will get incredibly expensive.

-Anu

[makomk]

They do cancel each other out. If the value change is predictable, it will be bid into the price, regardless of the source of the change in value.

That doesn't work. Assume that we knew with 100% certainty that the value of each Bitcoin would increase by 5% a year due to deflation forevermore. Then the value of each bitcoin should take into account that in a years' time it'll be worth 5% more - except that the value in a years' time will also take into account the fact that it'll be worth more in 2 years' time, and so on, and so forth - and the only rational value for a Bitcoin now would be infinite. This is obviously ridiculous.

Of course, there's no such thing as 100% certainty, but this doesn't help either. Assume that we have the same consistent deflation but we're only 95% certain that the situation will be unchanged in a years' time. Then the current price will take this into account - except that, if our prediction comes true, a year later we'll be 95% certain that in another year things will stay the same, and the price then will take this increased certainty into account. The two cancel each other out, leaving us with a 5% increase in the price of Bitcoins corresponding exactly to deflation!

I hope this helps demonstrate why the expectation of future deflation is irrelevant and only changes to the expected future deflation rate can possibly have any effect.

Why do you hoard your $100 bitcoin if you know that it will be worth $120 in a year? Likely answer is so you can buy something in a year when your money is worth $120, meaning your money will have 20% buying power 1 year from now. What's to stop you from buying now if the merchant simply took the 20% deflation into account, and gave you a 20% discount on the item today?

Two things. Firstly, they probably can't: they have to pay their costs now at current-prices, not in a year's time. More importantly, what's to stop you buying in a year's time from a merchant that takes the 20% inflation into account then and saving even more money?

[Rassah]

If you educate yourself...you owe nothing, libraries are free.  The internet is free-ish.  Learning by doing has its costs, but they aren't loans as such. 

Used to believe this too. Only issue with this that I realized after formal education is that, although all that knowledge is free, knowing WHAT to learn isn't out there. You can't Google search terms and concepts you don't know the names of.
Also, knowing you're paying a lot for a class kinda helps keeping you grinding through it, instead of getting lost in endless Wikipedia links

[realnowhereman]

This is false. Deflation does not encourage hoarding. The argument that deflation encourages hoarding works just as well to argue the deflation encourages spending.

Reality does not agree with you, people are hoarding bitcoins like crazy.

Logic does not agree with you.  Bitcoins aren't deflationary* until 2031.  At present they are inflationary (more are being minted every day).

How do you reconcile that with inflationary = spend; deflationary = hoarde?  The answer is that it's more complicated than that.

(In truth bitcoins aren't deflationary at all, they will be static)

[Rassah]

That doesn't work. Assume that we knew with 100% certainty that the value of each Bitcoin would increase by 5% a year due to deflation forevermore. Then the value of each bitcoin should take into account that in a years' time it'll be worth 5% more - except that the value in a years' time will also take into account the fact that it'll be worth more in 2 years' time, and so on, and so forth - and the only rational value for a Bitcoin now would be infinite. This is obviously ridiculous.

We pretty much know for a fact that the USD is inflationary, with a long-term inflation rate of 3%. So, why isn't USD worth 0 now? (answer is because we don't calculate the value of money to infinity; only to the time we actually need to use it/invest is/repay it)

Why do you hoard your $100 bitcoin if you know that it will be worth $120 in a year? Likely answer is so you can buy something in a year when your money is worth $120, meaning your money will have 20% buying power 1 year from now. What's to stop you from buying now if the merchant simply took the 20% deflation into account, and gave you a 20% discount on the item today?

Two things. Firstly, they probably can't: they have to pay their costs now at current-prices, not in a year's time. More importantly, what's to stop you buying in a year's time from a merchant that takes the 20% inflation into account then and saving even more money?

Their costs are likely discounted as well, since if they're not, then the seller of their raw materials will also go out of business. This discounting is distributed throughout the entire economy. As for next year, the $100 IS a discount on the $120 from the following year. This is how the time value of money works. In inflationary system, money now is worth more than money next year. Businesses, investors, and everyone else who deals with finances uses http://en.wikipedia.org/wiki/Time_value_of_money formulas to calculate the worth of their money, and use that to base the price of their investments, the future price of their products, the cost of their borrowed money, etc. In a deflationary economy those calculations won't change, other than the interest rate being inverted. Only actual issue that I see is that the minimum return on investments/loan rates will have to be at least as high as the deflation rate.

[Rassah]

I tried coming up with a lending system/calculation that calculates each payment using a standard payment annuity formula, combined with a present-value modifier.

http://forum.bitcoin.org/index.php?topic=28859.0

Essentially, it makes payments decrease over time, with the first payment paying much bigger than the remaining ones (present value of a future payment is nominally larger due to expected deflation). I think I got something wrong in my formula, so help/comments are appreciated.

[JoelKatz]

They do cancel each other out. If the value change is predictable, it will be bid into the price, regardless of the source of the change in value.

That doesn't work. Assume that we knew with 100% certainty that the value of each Bitcoin would increase by 5% a year due to deflation forevermore. Then the value of each bitcoin should take into account that in a years' time it'll be worth 5% more - except that the value in a years' time will also take into account the fact that it'll be worth more in 2 years' time, and so on, and so forth - and the only rational value for a Bitcoin now would be infinite. This is obviously ridiculous.

I agree. The assumption that predictable deflation is not built into the price leads to the conclusion that the price is too low, regardless of how high it is. Therefore, the assumption is false. Predictable deflation is built into the price. That's kind of my point.

The fallacy is thinking "the price is X, plus it has some additional value because it will deflate".

[Grinder]

Logic does not agree with you.  Bitcoins aren't deflationary* until 2031.  At present they are inflationary (more are being minted every day).

You need to look up what inflation means before you try to contribute to the discussion.

[Grinder]

The fallacy is thinking "the price is X, plus it has some additional value because it will deflate".

No, the fallacy is not taking into account that that is what "everyone" is thinking. It is not possible to set up a formula to calculate what the price "should" be, which your theoretical approach requires.

[realnowhereman]

Logic does not agree with you.  Bitcoins aren't deflationary* until 2031.  At present they are inflationary (more are being minted every day).

You need to look up what inflation means before you try to contribute to the discussion.

I know well what it means.

Printing money is inflationary, since more money is divided over the same sized economy.  Prices therefore go up.

50 bitcoins are created every ten minutes.  They are therefore inflationary at present.

Bitcoins will eventually stop being created; their supply will be fixed.  They will therefore be neither inflationary or deflationary (ignoring the small quantity that will be lost down the back of virtual sofas). If however we assume a growing economy, that same fixed supply will be divided over a larger economy, which will lead to price deflation; bitcoins will then be deflationary?

So... what exactly is it you think I haven't understood?

The argument being advanced was that bitcoins are now being hoarded because they are deflationary.  That is clearly not true, since they aren't deflationary right now.

[Rassah]

The fallacy is thinking "the price is X, plus it has some additional value because it will deflate".

No, the fallacy is not taking into account that that is what "everyone" is thinking. It is not possible to set up a formula to calculate what the price "should" be, which your theoretical approach requires.

Price = Current Price(or cost) * (1 + Rate) ^ term length

If I'm selling something for $10, I know I won't get access to the money for 2 months, and the inflation rate is 3%/12 = 0.25%, my price is 10*(1+0.25%)^2 = $10.05

If I'm selling something for B$10, I know I won't get access to the money for 2 months, and the deflation rate is -3%/12 = -0.25%, my price is 10*(1-0.25%)^2 = $9.95

So, I would sell for $10.05 in inflationary USD and for $9.95 in deflationary BTC. If I don't, I'll either not cover my expenses, or will be under-priced by my competitor.