Inflation, Fractional Reserve, and Bitcoins

[Red]

Given that I actually agree with you up to that point, how is my line of reasoning bunk? My point still stands. The supply if Bitcoins is limited: The banking system in aggregate cannot find enough Bitcoins if it loans its on demand deposits out! Why should the depositor accept quasi-bitcoins in the form of banking credit instead of the actual thing? On demand deposits simply cannot be loaned out if a banking system is to ultimately remain stable. Sure, some banks can try to do it, but then they better not call them "on demand deposits". Some might get away with it, but sooner or later, someone will find themselves between a rock and a hard place. Deposits can be loaned out, but not with a guarantee of redemption. That is simply impossible as Bitcoins cannot be created out of thin air.

So supposing that there exist bankers that take on-demand deposits of BTC and make sound-loans of BTC that pay interest in BTC. What I'm saying is no fraud or scamming by bankers. And no hedging on my part, these are fractional reserve banks. They lend out any 90% of depositor's BTC and keep 10% on hand as easy "cache".

What you are proposing (and I hear proposed by others as if it were a common case) is a run on all banks at the same time of all "on-demand" BTC deposits.

Now, one unacknowledged possibility is the "on-demand" deposits are paid with BTC from term deposits like CDs. But perhaps you considered those "on-demand" with penalty and the run includes those.

Now if "good banking" is going on and there is no BTC in-house, then all the BTC is out on BTC interest producing loan and is backed by collateral. That makes these loans nice low risk "BTC income producing properties". So at that point the banks can sell these nice low risk BTC income producing properties to other investors willing to pay BTC now in exchange for more BTC later. If there is a default the investor claims and sells the collateral.

If you unwound every loan this way, all the BTC would be returned to the depositors, and outside investors that used to have cash, would now hold sound low risk BTC income producing properties. In effect, they would be the new banks, but they would also be their only depositor. If they wanted their BTC back, they would have to sell their investment property to someone else.

If I've explained this coherently, can I consider the BTC fractional reserve banking myth "de-bunked". :-)

---

One of the best things about BTC is that it is a high velocity currency. We don't talk about that much. But because it is, it would be much faster to unwind this situation than with the lending of gold or paper. That is why banks deal with electronic currencies so much.

--

However, I still maintain that with planned monotonic deflation, BTC banking will not evolve. Deflation simply causes too much risk. (see the thread on negative interest)  There will likely be speculative high-risk/high-reward investments, but they will be done by "the bitcoin rich" rather than by average individuals pooling their money in on-demand banking.

[RHorning]

Given that I actually agree with you up to that point, how is my line of reasoning bunk? My point still stands. The supply if Bitcoins is limited: The banking system in aggregate cannot find enough Bitcoins if it loans its on demand deposits out! Why should the depositor accept quasi-bitcoins in the form of banking credit instead of the actual thing? On demand deposits simply cannot be loaned out if a banking system is to ultimately remain stable. Sure, some banks can try to do it, but then they better not call them "on demand deposits". Some might get away with it, but sooner or later, someone will find themselves between a rock and a hard place. Deposits can be loaned out, but not with a guarantee of redemption. That is simply impossible as Bitcoins cannot be created out of thin air.

I see two kinds of "deposits" into a bank:  "Investments" in the form of perhaps even a stock purchase into the bank itself, and "certificates of deposit" or some other time-based "bond" that has a defined expiration date and guaranteed rate of return.  Both could conceivably create the initial pool of money that could then be used for making loans.

The traditional "on demand" bank deposits with Bitcoins seems to be something that has all of the disadvantages of a conventional bank and none of the advantages.  Mainly, you are dealing with an extra level of bureaucracy and people telling you that you can't necessarily have access to your funds and sources of embezzlement and fraud.  Normally the advantage a bank offers is the ability to carry on transactions electronically or in a "light-weight" arrangement where you don't have to cart around a briefcase full of money (or gold).  That is something which isn't even remotely a problem with Bitcoins.

If most "depositors" in a bank were actually shareholders, it would also put an interesting twist into the relationship between the customer and the banker.  In theory this already happens with credit unions in America, but I've never seen it put into a formal relationship in terms of actual shares of the bank itself.  This is why "checks" are called "share drafts" by credit unions, as you are in theory giving away shares of the company when you purchase items from your account in that manner.... but that is more of a ruse than anything legitimate.  It would be interesting, however, if you could make corporate shares fungible as a sort of alternative currency in and of themselves with their own exchange rate.

[Bitcoiner]

Given that I actually agree with you up to that point, how is my line of reasoning bunk? My point still stands. The supply if Bitcoins is limited: The banking system in aggregate cannot find enough Bitcoins if it loans its on demand deposits out! Why should the depositor accept quasi-bitcoins in the form of banking credit instead of the actual thing? On demand deposits simply cannot be loaned out if a banking system is to ultimately remain stable. Sure, some banks can try to do it, but then they better not call them "on demand deposits". Some might get away with it, but sooner or later, someone will find themselves between a rock and a hard place. Deposits can be loaned out, but not with a guarantee of redemption. That is simply impossible as Bitcoins cannot be created out of thin air.

So supposing that there exist bankers that take on-demand deposits of BTC and make sound-loans of BTC that pay interest in BTC. What I'm saying is no fraud or scamming by bankers. And no hedging on my part, these are fractional reserve banks. They lend out any 90% of depositor's BTC and keep 10% on hand as easy "cache".

What you are proposing (and I hear proposed by others as if it were a common case) is a run on all banks at the same time of all "on-demand" BTC deposits.

No need for a full bank run; only 10% would be necessary in this case. I already went through all of this in my previous posts, though. What exactly is it that you believe is a myth or bunk? Money cannot simultaneously be lent out and kept as an on demand deposit. If one bank lent out too many BTCs and has a deposit call, then another bank has to have correspondingly greater reserves in order to lend that bank BTCs. The banking system cannot in aggregate practice fractional reserve banking to a significant degree and remain stable over time. The market will determine where that point is, but I doubt it is as high as 90%.

Now if "good banking" is going on and there is no BTC in-house, then all the BTC is out on BTC interest producing loan and is backed by collateral. That makes these loans nice low risk "BTC income producing properties". So at that point the banks can sell these nice low risk BTC income producing properties to other investors willing to pay BTC now in exchange for more BTC later. If there is a default the investor claims and sells the collateral.

Sure they can. What they can't do is simultaneously create such a paper and let the depositor withdraw the capital backing said paper! That would hollow out the bank. In order for a bank to create a paper and remain honest, what it needs to do is this:

Bank receives 100 BTCs from A. Bank gives A a paper in return, only redeemable at a future date.
Bank lends those 100 BTCs out to other people as loans.

What it cannot do is this:

Bank receives 100 BTCs from A. Bank credits A with 100 BTCs at its bank which can be withdrawn, spent, or transferred at any time.
Bank lends 90 BTCs out to other people as loans.
A withdraws his 100 BTCs <-- They no longer exist.

It cannot do this unless it sells the 90BTC of loans to another party in return for real BTCs which it can then use to back its deposits. It cannot back its deposits with paper, because the depositor does not want paper, he wants BTCs. That's what he agreed to and that's what the bank promised.

Yes, the bank can now borrow BTCs from another bank in order to pay out the depositor, but a banking system cannot do so in aggregate. Loans need to be backed by savings.

To summarize:

It is fraud to place two property claims on the same BTC. To say that the depositor owns a physical BTC at the same time as a lendee owns that same BTC, while telling the depositor that the BTC is solely and wholly his and can be withdrawn, spent, or transferred at any time, is fraud.

It is NOT fraud to give the depositor a paper which represents future BTCs and tell him that he no longer owns any physical BTCs, because he gave them up in return for the paper. It is furthermore not fraud to then lend these BTCs out, since they no longer belong to the depositor but they belong to the bank. This is otherwise known as the depositor purchasing a certificate of deposit or bond with the bank.

[Bitcoiner]

Given that I actually agree with you up to that point, how is my line of reasoning bunk? My point still stands. The supply if Bitcoins is limited: The banking system in aggregate cannot find enough Bitcoins if it loans its on demand deposits out! Why should the depositor accept quasi-bitcoins in the form of banking credit instead of the actual thing? On demand deposits simply cannot be loaned out if a banking system is to ultimately remain stable. Sure, some banks can try to do it, but then they better not call them "on demand deposits". Some might get away with it, but sooner or later, someone will find themselves between a rock and a hard place. Deposits can be loaned out, but not with a guarantee of redemption. That is simply impossible as Bitcoins cannot be created out of thin air.

I see two kinds of "deposits" into a bank:  "Investments" in the form of perhaps even a stock purchase into the bank itself, and "certificates of deposit" or some other time-based "bond" that has a defined expiration date and guaranteed rate of return.  Both could conceivably create the initial pool of money that could then be used for making loans.

The traditional "on demand" bank deposits with Bitcoins seems to be something that has all of the disadvantages of a conventional bank and none of the advantages.  Mainly, you are dealing with an extra level of bureaucracy and people telling you that you can't necessarily have access to your funds and sources of embezzlement and fraud.  Normally the advantage a bank offers is the ability to carry on transactions electronically or in a "light-weight" arrangement where you don't have to cart around a briefcase full of money (or gold).  That is something which isn't even remotely a problem with Bitcoins.

If most "depositors" in a bank were actually shareholders, it would also put an interesting twist into the relationship between the customer and the banker.  In theory this already happens with credit unions in America, but I've never seen it put into a formal relationship in terms of actual shares of the bank itself.  This is why "checks" are called "share drafts" by credit unions, as you are in theory giving away shares of the company when you purchase items from your account in that manner.... but that is more of a ruse than anything legitimate.  It would be interesting, however, if you could make corporate shares fungible as a sort of alternative currency in and of themselves with their own exchange rate.

I agree with you here, RHorning. There would be less of a case for actual on demand deposits within a Bitcoin economy. A banking system based on shares and time deposits (i.e. bonds) would be honest.

[Red]

Ah, I finally see where our disagreement lies! Call me slow!

It is fraud to place two property claims on the same BTC. To say that the depositor owns a physical BTC at the same time as a lendee owns that same BTC, while telling the depositor that the BTC is solely and wholly his and can be withdrawn, spent, or transferred at any time, is fraud.

It is NOT fraud to give the depositor a paper which represents future BTCs and tell him that he no longer owns any physical BTCs, because he gave them up in return for the paper. It is furthermore not fraud to then lend these BTCs out, since they no longer belong to the depositor but they belong to the bank. This is otherwise known as the depositor purchasing a certificate of deposit or bond with the bank.

I agree with your statements above! Woot!

But I'm making the claim that your checking, savings and CD accounts are the SECOND situation not the first. When you sign up for a bank account you sign a contract with the bank. It is a transaction just like any other. You SELL them your money, and you BUY their "paper" that promises that they will perform as stipulated. If the stipulation is "on-demand withdrawal" that means if they don't give you some of THEIR BTC when you demand it, they are in default on the contract and you can sue them.

I claim that, in no way, is the BTC you give the bank still yours after you make a deposit. The abstract "account" specified in the contract is yours and the contract binds the two of you to certain behaviors.

However, the bank does sell other services that match your FIRST situation. They call them "safe-deposit" boxes. You rent them from the bank fill them with YOUR property and the bank itself never has claim on your property.



OK, so we agree on the following. That was what I was saying in my previous post.

Bank receives 100 BTCs from A. Bank credits A with 100 BTCs at its bank which can be withdrawn, spent, or transferred at any time.
Bank lends 90 BTCs out to other people as loans.
A withdraws his 100 BTCs <-- They no longer exist.

It cannot do this unless it sells the 90BTC of loans to another party in return for real BTCs which it can then use to back its deposits. It cannot back its deposits with paper, because the depositor does not want paper, he wants BTCs. That's what he agreed to and that's what the bank promised.

Furthermore in the previous post, I claim, if you can do this efficiently you can quickly convert  "loan properties" to BTC by quickly selling them to investors on-demand. (in this case investor money means hoarded BTC)

Yes, the bank can now borrow BTCs from another bank in order to pay out the depositor, but a banking system cannot do so in aggregate. Loans need to be backed by savings.

So loans don't need to be "backed by savings" in the sense that there is BTC in a hoarded address. I needs to be backed by an asset liquid enough to be converted back to BTC on-demand. (gold would probably qualify)

[fresno]

Want to kill off Bitcoin really fast? Call it money!

Make up some catchy slogans calling it cash.

Compare it with the FRN. No, even better, claim that one Bitcoin equals xxx FRNs!

[redengin]

As for a call on over 10% of deposits, the bank can always purchase BTC on the market.  Your assumption is that the bank is limited to a single commodity in its holdings.  I can also foresee purchasing call options to hedge the impact of expected demand.  In any event, there are many ways a market can operate to service exaggerated demand.

[Anonymous]

Want to kill off Bitcoin really fast? Call it money!

Make up some catchy slogans calling it cash.

Compare it with the FRN. No, even better, claim that one Bitcoin equals xxx FRNs!

What term would be appropriate?
Would virtual tally sticks be better - A way to record transactions that is not money,currency or commodityhttp://en.wikipedia.org/wiki/Tally_stick

The split tally was a technique which became common in medieval Europe, which was constantly short of money (coins) and predominantly illiterate, in order to record bilateral exchange and debts.

lmao the government fails again.....

The most prominent and best recorded use of the split tally was in medieval England as a tool of the Exchequer  for the collection of taxes by local sheriffs (tax farmers “farming the shire”). The split tally of the Exchequer was in continuous use until 1826. In 1834, the tallies themselves were ordered to be burned in a stove in the Houses of Parliament, but the fire went out of control, setting the building afire.

Bitcoin - a distributed tally stick ?

Crypto-tally?

[fresno]

What term would be appropriate?
Would virtual tally sticks be better - A way to record transactions that is not money,currency or commodityhttp://en.wikipedia.org/wiki/Tally_stick

The split tally was a technique which became common in medieval Europe, which was constantly short of money (coins) and predominantly illiterate, in order to record bilateral exchange and debts.

lmao the government fails again.....

The most prominent and best recorded use of the split tally was in medieval England as a tool of the Exchequer  for the collection of taxes by local sheriffs (tax farmers “farming the shire”). The split tally of the Exchequer was in continuous use until 1826. In 1834, the tallies themselves were ordered to be burned in a stove in the Houses of Parliament, but the fire went out of control, setting the building afire.

Bitcoin - a distributed tally stick ?

Crypto-tally?

I offered one term, that wasn't immediately accepted. I'll lay back for a bit to see what else might work. I do know that today's commercial jargon is not appropriate, and can only get us in trouble.

[EconomyBuilder]

Well, it could have been called "network resource allocation units", "secure stamps", "reusable proofs of work" (like its competitor, RPOW), or any number of other such techno-jargon and flown under the regulatory radar for a while.   Of course, it would be rather difficult to market it is a payment system using such euphemisms.   Who's using RPOW, for example?

But ya wanted to market it as, you know, _money_, so the cat's out of the bag.   It's  called "Bitcoin" and people are using it to "pay" for things.  So it's obviously a financial system (for purposes of e.g. money laundering regulations and similar restrictions).   But because it's not a government currency it's not "money" for the UCC.  So for example in the U.S. you can't write a check for "10,000 BTCs", it won't be considered a legal negotiable instrument.   So you get almost all the financial regulation, which will regulate it as money transfer, but not the respect of the UCC, which will just treat it as an ordinary good (or possibly even a service, putting you outside the UCC and into common law)  if you write it into a contract.  (Caveat: I am not a lawyer, folks who are seriously using this stuff should consult real lawyers).

[Inedible]

Bank receives 100 BTCs from A. Bank credits A with 100 BTCs at its bank which can be withdrawn, spent, or transferred at any time.
Bank lends 90 BTCs out to other people as loans.
A withdraws his 100 BTCs <-- They no longer exist.

It cannot do this unless it sells the 90BTC of loans to another party in return for real BTCs which it can then use to back its deposits. It cannot back its deposits with paper, because the depositor does not want paper, he wants BTCs. That's what he agreed to and that's what the bank promised.

Furthermore in the previous post, I claim, if you can do this efficiently you can quickly convert  "loan properties" to BTC by quickly selling them to investors on-demand. (in this case investor money means hoarded BTC)

Yes, the bank can now borrow BTCs from another bank in order to pay out the depositor, but a banking system cannot do so in aggregate. Loans need to be backed by savings.

So loans don't need to be "backed by savings" in the sense that there is BTC in a hoarded address. I needs to be backed by an asset liquid enough to be converted back to BTC on-demand. (gold would probably qualify)

The idea sounds plausible but in real life, who would buy that asset if everyone is too busy holding onto their BTC?

For this to work well, the loan to equity value of these assets would have to be very, very small indeed. E.g. a house with a current value of BTC1,000,000 might only be enough security for a BTC300,000 loan in order to cover worse case scenarios.

Also, housing is probably very poor collateral in a nose diving economy - who's looking to buy a house? It would only be investors keen for a bargain but with enough capital to hold onto their investment until after the economy recovered.

[fresno]

But ya wanted to market it as, you know, _money_, so the cat's out of the bag.   I

Yeah. Bad choice. Now that you know we made a wrong turn, do you want to keep on going?

It's  called "Bitcoin" and people are using it to "pay" for things.  So it's obviously a financial system (for purposes of e.g. money laundering regulations and similar restrictions).   But because it's not a government currency it's not "money" for the UCC.  So for example in the U.S. you can't write a check for "10,000 BTCs", it won't be considered a legal negotiable instrument.   So you get almost all the financial regulation, which will regulate it as money transfer, but not the respect of the UCC, which will just treat it as an ordinary good (or possibly even a service, putting you outside the UCC and into common law)  if you write it into a contract.  (Caveat: I am not a lawyer, folks who are seriously using this stuff should consult real lawyers).

Slow down! You're making a big assumption there.

Bitcoin is a computer program that is run over a P2P network. Everything else you wrote is incorrect (and misguided by a few poorly-chosen words on this website). The Bitcoin units can be used to keep an economy straight, if it chooses, but that economy is entirely separate from Bitcoin.

So, saying the Bitcoin is "worth" something, say ten cents, or a shoelace, is totally incorrect. An independent trader may give you something for your Bitcoin, and vice versa, but the Bitcoin and the Bitcoin system have no involvement in that trade other than to record the movement of Bitcoins.

[chretienm]

I've seen a few claims, on these forums and elsewhere, that bitcoins, because they are limited in supply, are free from inflation, and once or twice I've seen claims that this set supply would eliminate fractional reserve bank policies.  Would anyone care to explain this to me? 

The way I see it, the supply of bitcoins is limited, yes, but its akin to the supply of, in the US, physical one-dollar bills.  The majority of the US economy, however, is not cash - it is credit, or dollars on account, both of which are backed essentially by loan collateral.  This collateral forms the basis for more loans than it is actually worth, and thus we have fractional reserve banking.  The limited supply of bitcoins will stand at 21,000,000 maximum.  However, this in no way prevents people from establishing accounts with bitcoin-equivalent units in them that do not actually exist - exactly as credit and savings accounts are done today.  These pseudo-BTC would be traded, just as loan-based pseudo-dollars are traded today, and there is no limit to their number, nor any protection against fractional reserve policies.  Am I going wrong here somewhere?  I certainly hope so, because if not....then I really don't see the advantage of BTC at all.

Sir you are correct in some ways in that the US dollars are over represented in our present fractional reserve banking in that the banks loan out much more than they have and have collateral (hopefully real and valuable collateral not collapsing housing priced collateral) but with bitcoin you can avoid all that by only dealing with real bitcoins. Accept nothing that is supposedly backed by bitcoins only deal with actual bitcoins and then you will not be taking part in a fractional reserve type system because those systems always fail especially if not backed by gold.