To this day, Bitcoin has some good currency attributes, such as decentralization, distributed account, low transaction costs, privacy protection, limited supply, etc., and has millions of investors worldwide and more than $100 billion in market capitalization. However, most official institutions and economists do not consider it a real currency.
In February 2018, a report by the European Central Bank proposed four conclusions: 1. Bitcoin has no central issuer support, 2. Bitcoin has not been widely recognized for payment, 3. Users are not protected, 4. Bitcoin currency fluctuations are too large . They believe: "The basic characteristic of money is to have a stable value and a value-preserving function, so as to ensure that the price of the same commodity will not change too much at least in the short term. For example, in euros, this year, go to the store to buy a certain commodity. , and buy it tomorrow or buy it next year, the price will not be too different, but Bitcoin is not the case, its price tends to skyrocket and fall, and there can be a double-digit percentage increase and decrease within one day. Under the market, market goods cannot be stabilized by their anchors."
Jeffrey Dorfman, a professor of economics at the University of Georgia in the United States, said “the average daily volatility of Bitcoin prices was 2%. In contrast, the average daily exchange rate between the dollar and the euro changed is less than 1% , and the exchange rate change in one month is only 3%. More than 7 days in the last month，the value of Bitcoin fluctuated by more than 3%, which is higher than the price change of the US dollar for the whole month. People never want to put their debts Or investment in such a currency with a monthly average price fluctuation of nearly 50%."
Even those who support Bitcoin are aware of some issues. Aswanh Damodaran, a professor at New York University's Stern School of Business, is a corporate finance and valuation expert who is open to Bitcoin, but he said: "At the moment it is not a competent currency. Because of the many transactions in real life. No Bitcoin can be used. It is not a good currency choice because its exchange medium and hedging function are not perfect, and price volatility is the 'culprit' of all this."
That ECB report may represent a more popular official opinion. However, for Bitcoin without central issuer support, Bitcoin supporters may have different opinions. They would think that the decentralized distribution method is precisely an advantage of Bitcoin, which is beneficial to resist any form of currency issuance manipulation and the imposition of a coinage tax. In addition, this is indeed a problem for Bitcoin users not being protected. Hacking is a major threat to this emerging technology. However, there is reason to believe that with the continuous improvement of Bitcoin security management and the maturity of technology, this will not be a big problem in the near future. Just as hackers had invaded the banking computer system, caused billions of dollars in losses, but not many people now think that the bank's payment and settlement system is dangerous.
Well, it seems that the core issue is the issue of acceptability and currency volatility. These two problems are actually causal to each other: people are difficult to use Bitcoin as a daily payment method because of the large fluctuation of the currency value, and the reason for the large fluctuation of the currency value is that people do not regard it as a universal payment means. Regarding these two points, let's discuss them in detail below.
When Isaac Newton was the director of the British Mint, through his active activities, the UK established the first gold standard system in history. In 1717, the parliament passed a resolution to set the price of one ounces gold (purity of 0.9) in the UK at 3pound and 17 shillings and 10 pence.
In 1923, after the worst inflation in history, Germany exchanged the old mark with the land-rent mark of 1:1 trillion.
When the Bretton Woods system resumed the gold standard after the Second World War, the official price of the US dollar was set at 1/35 ounces of gold.
China Second set of RMB that was issued on March 1, 1955, and the first set of RMB was recovered. The second set of RMB and the first set of RMB was converted to 1:10000.
The euro took a long trial run before it was officially circulated. The European Monetary System (EMS), established in 1979, opened the process of European monetary integration. By establishing an stable exchange rate mechanism (ERM), the currency exchange rate between member states of the European Community is limited to an acceptable range of fluctuations for each member. The country’s currency is set with the European Currency Unit (ECU), the predecessor of the euro.Central exchange rate of each country currency to RCU fluctuates by 2.25% in the market and 6% in the UK pound. With the addition of new member states, the system has continued to expand. After some twists and turns, after 19 years of trial operation, and finally on December 31, 1998, the exchange rate between the euro and the member countries' currencies was fixed, and the unified continental currency system of the European continent was born.
Table 1 The exchange rate between the euro and the currency in the founding countries of the euro zone
Country Currency 1 Euro = Country Currency 1 Euro =
Austrian hilling ATS 13.7603 Belgian franc BEF 40.3399
Deutsche Mark DEM 1.95583 French franc FRF 6.55957
Finnish mark FIM 5.94573 Italian Lira ITL 1936.27
Dutch Shield NLG 2.20371 Portugal Escudo PTE 200.482
Spanish Peso ESP 166.386 Irish Pound IEP 0.787564
Greek Drachma GRD 340.750 Luxembourg Franc LUF 40.3399
Source: "The Birth of the Euro"
As can be seen from the history of money, the new currency is always based on the old currency. When the new currency replaces the old currency, it always uses a proportional exchange relationship, which makes it possible for people to maintain the stability of the exchange of various commodities in the most convenient way. This actually guarantees the continuity of the objective exchange value of money. From shells, copper coins, gold to banknotes, the continuity of money plays a role in anchoring.
As in The Theory of Money and Credit, Ludwig Von Mises said: "The objective exchange value of money contains historically continuous factors. The past value of money is now absorbed and transformed into the present value; the present of money value enters the future and changes with it... Unless something starts as a currency, it already has an objective exchange value based on some other use, otherwise it can't use it as a currency... This relationship of exchange value that had existed before is necessary not only for commodity currencies, but also for credit currencies and inconvertible notes."
In another place, he said, “The market’s valuation of money can only begin with the past value of money, and this relationship affects the objective exchange value of money.”
Any valuation of money requires a presupposed value, yesterday's exchange value, and yesterday's exchange value was depended on the exchange value of the day before yesterday,and so on. Therefore, it can be said that money is a historical deposit, which faces the past and connects with the present. It is this continuity that guarantees its stability most of the time ,except for periods of significant inflation and deflation caused by well-known factors.
Compared with any kind of more stable currency, the high volatility of the objective exchange value of Bitcoin is inherent, because it has not been linked to any historical currency from the beginning, and adopts free floating pricing of any legal tender, thus lacking the historical continuity of currency. In this way, for any consumer and producer, they cannot use the historical experience to establish an assessment of the exchange value of goods in Bitcoin, because they do not know the reference price of a certain commodity yesterday, which is denominated in Bitcoin, and it is impossible to estimate today’s price.
Thus, the value of Bitcoin as a currency is decoupled from people's historical experience and is only affected by future expectations, becoming a purely virtual commodity with only a certain exchange value. Even for people with an optimistic view, at most it is considered a long-term call option for a potential currency. Therefore, it is not difficult to understand if it has excessive volatility.
But as Mises said, “If the prices in the market are often violent and irregular, then the concept of objective exchange of value will not be as important as the consumer and the producer actually agree.” At present, Bitcoin is not aware of this because it was originally designed, which makes it difficult to be accepted as a real currency because of its large volatility.
However, on the other hand, if a commodity is generally accepted as an exchange medium, then it must have good stability during that period. For example, in the gold standard era, the price level remained at a relatively stable level. We can just try to make up for this shortcoming from this opposite angle, as long as we believe it is a greater human design than shells and stone discs.
Also here, we would like to emphasize another factor that leads to greater volatility in Bitcoin. For now, there are many reasons for influencing the exchange value of Bitcoin, such as government attitudes and regulatory policies, technology maturity, transaction security, speculation, etc., but fundamentally depends on the supply and demand relationship of the market. Since Bitcoin has a limited supply (up to 21 million, currently more than 17 million can be circulated), it has typical deflation characteristics. Today, "no one wants to use Bitcoin to pay for a meal." "I don't want to spend them. I want to keep them. Since Bitcoin was founded, its price has increased by about 150% every year. On the other hand, The peso in my wallet is constantly depreciating at 3%." ("Starting Point for Cryptocurrency: Deflation vs Inflation" by Ramon Tayag from 8btc.com)
This probably represents the idea of most Bitcoin holders.Because all commodities are expected to depreciate Bitcoin,that is deflation expectations, people are reluctant to consume Bitcoin and are more willing to hold it. But it is clear that if it does not cost, does not enter the commodity exchange field, how can it bear the function of a real currency? If people just trade it as a derivative of a long-term call option that may become a currency in the future, This also inevitably increases its value fluctuations. This factor, which has become a future anti-inflationary currency, is now a factor that prevents it from becoming a real currency. This is another difficulty that it must overcome before it succeeds.
As far as human history is concerned, difficulties are always overcome by hopes and methods.
First of all, we believe that as long as the commodity exchange relationship is continuously expanded and the diversity of commodity exchange is increased, the exchange value volatility of Bitcoin can be stabilized. We can prove this from the improved Fisher Equation.
Fisher's equation： MV = PT
M - the amount of money
V - the transaction velocity of money
P - price level
T - commodity trading volume
Now suppose that there are two kinds of money demand in the Bitcoin market: the demand for speculative and the demand for commodity trading. The currency amount of the two demands are
, the transaction velocity of money are
, the price levels are
, and the commodity trading volumes are
.
Then those will satisfy
(1)
We set the market's average price to be
. To facilitate the study of the demand substitution effect, we assume that the total transaction volume does not change much, then
remains aconstant.
Since the total amount of Bitcoin is basically constant for a certain period , M can be regarded as a constant,here
.
And we assume that the demand for these two currencies maintains a certain stable proportional relationship within a certain period of time.
,
where
, to represent the proportion of the demand for the two currencies, assuming that the price level P has nothing to do with a certain period of time.
Then (1) can be converted to
(2)
Both sides take derivative for P
then
Substituting (2) can be obtained
（3）
When the market has only one investment demand, the trading demand is zero, then
,
then
（4）
(3)- (4) get
（5）
And because the speculative demand flows faster, the relative price elasticity is higher than the transaction velocity.
We can get
(6)
from (5) can be obtained
It can explain that the price volatility has decreased after the increase in commodity trading.
In addition, from (3) on both sides take derivative for
,
We can get a second-order difference
(7)
From (6) and (7) we can get
(
Then dP/P is a monotonically increasing function of
, meaning that if reduction, that is, the proportion of speculative demand decreases and the proportion of trading demand increases, then the price volatility will also decrease.
Therefore, we can conclude that if more transactional demand is added, the goods G1,G2,G3,G4… are introduced to the Bitcoin exchange, and because the price elasticity of these commodity circulation rates is far lower than the rate of speculative deman,then the price volatility will largely fall until it finally falls to an acceptable level of volatility as a stable currency.
In addition, we have reason to believe that a new currency to establish a stable exchange rate for all commodities is a gradual process, which should first establish this relationship in some special commodities, and then gradually expand its exchange field.
This can be seen from Carl Menger's exposition on currency: "For the occurrence of money, habits have great significance. We only need to look at the process of turning certain commodities into money. The exchange of smaller commodities with goods with greater sales power is naturally beneficial to all economic man, but in order for this exchange to prevail, it is necessary for all economic entities to recognize such interests. This kind of interest is not be recognized by all the people in a country at the same time. Usually in the beginning, only a few economic entities recognize this kind of interest. This kind of interest is usually when these people cannot directly exchange their goods with the use of goods, or they are not sure to do it, it is produced by exchanging goods with other goods with greater sales power. This kind of interest has nothing to do with whether a certain commodity is recognized by the general public as a currency." Later he said: "The occurrence of money At the beginning, it was also because a small number of smart and capable economic entities were for their own economic interests, and they accepted products with large sales power for a long time to exchange with all other commodities. And economic success. Other people see their success before they gradually understand this kind of interest and follow them. In this way, the goods
With the most sales power is be accepted by not only many economic man and also for everyone. " (Karl· Menger's Principles of National Economics)
For Menger's point of view, we can understand that to become a commodity of money, it does not suddenly have all the exchange power, or it can be exchanged in all scopes, but always begins with the exchange of some economic man and some commodities, and then gradually It is accepted by more economic man and expanded to a wider range of commodity exchanges, just as habits are developed from little by little. Of course, this can only be some far-sighted economic man. Objectively, they will bear considerable risks.
Of course, this first requires the Bitcoin holders to manage the deflationary expectations. In other words, it is necessary to establish an inflation expectation locally to hedge the deflationary expectations. Otherwise, it is impossible to establish a long-term exchange relationship on any commodity.
Assuming that Bitcoin is in a series of commodities G1,G2,…Gn,establishing a stable circulation market, the price elasticity of the circulation velocity of these commodities is gradually decreasing. This satisfies the Fisher Equation
MV=PT （9）
The supply of Bitcoin M is basically constant, V is the average circulation velocity, P is the average price, and T is the total transaction volume of commodities.
Assuming that Bitcoin expands the circulation of a commodity Gn+1, the corresponding values change and are satisfied.
(10)
Combined with (9) and (10)
(11)
It can be seen that if the price elasticity of the circulation velocity of the commodity currency is greater than the price elasticity of the transaction volume, in other words, the change in the velocity of the currency is more sensitive to the price than the change in the volume of the transaction, the price is on the rise, and vice versa.
When a new currency begins to enter a commodity exchange field, the money supply velocity should be faster than the transaction volume change rate. At this time, the commodity price rises and the inflation expectation is generated. As the transaction is active, the transaction volume changes until it reaches a balance,then
and
.
At this time, the price change is stable. After that, if the money supply does not keep up, the change in trading volume will exceed the change in the velocity of money circulation, the price will start to fall, and the deflation expectation will be entered.
With the infinite expansion of the circulation field, until all exchangeable goods are covered, and equilibrium is achieved in all commodity areas, then for the new currency, the total social demand will tend to stabilize,
, so
, price fluctuations will tend to stabilize .
In summary, we can get the following conclusions:
1.If we not only limit our eyes to the speculative market, but establish currency exchange on some commodities and expand trading demand, it will effectively reduce the relative volatility of the Bitcoin price. The degree of volatility reduction depends on the degree of price elasticity of commodity circulation velocity relative to the price elasticity of speculative trading currency circulation velocity, and also depends on the proportion of commodity trading volume in the total transaction size.
2.In order to establish such an exchange, it is necessary to manage the deflationary expectations, locally causing short-term inflation expectations, selling Bitcoin to increase demand for commodities, and thus establishing the scale of commodity transactions.
3.After this partial inflation reaches equilibrium, it will enter the deflation stage again, but after Bitcoin continues to expand the scope and scale of commodity exchange, its deflation velocity will continue to decline.
4.From the exchange of Bitcoin exchange requirements in some commodities until the exchange of all exchangeable goods, the exchange value of Bitcoin for all commodities will stabilize and become a real currency.
As far as the current situation is concerned, Bitcoin's deflationary expectations, high speculative demand, and low transaction demand are intertwined and affect each other. It is like a dead knot, which creates a very complicated situation. The above argument opens up a new way for us to solve the problem of high volatility and acceptability of Bitcoin. What we want to emphasize is that expanding the demand for Bitcoin commodity exchange is more important than expanding its exchange value, while the former is the substantive guarantee of the latter. In this regard and how to achieve a broad exchange of goods in Bitcoin we will explore in another article.
references
[1]Ludwig von Mises, The Theory of Money and Credit, The Commercial Press,China 2015
[2]Carl Menger, Principles of National Economics, Shanghai Century Publishing Group 2013
[3]Murray Rothbard "Monetary Theory of the Austrian School"
[4]Otto Isin "The Birth of the Euro" China Financial Press 2011
[5]Milton Ferry Manna J. Schwartz, "The History of American Currency" Peking University Press, 2009
[6]David Oriel Roman Krupati "The History of Human Money" CITIC Publishing Group 2017
[7]The starting point of Ramon Tayag cryptocurrency: deflation vs inflation
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