You Cannot Understand Bitcoin Without Understanding Money

Is Bitcoin Money?

In the simplest way of thinking, Bitcoin is a way to transfer value using block chain technology. That ability to transfer value is the only observable characteristic that makes it look like money.

Money has three characteristics.

Bitcoin just one.

  1. Money is a medium of exchange and Bitcoin works for that. A medium of exchange is an import aspect of money. It is after all why money replaced barter as the normal option for settling accounts. There is no need for the person you are trading with to need what you have to offer. That is especially important if you are trading perishable goods.
  2. With money, people can compare the value of similar items. There are no clear prices in a barter system. Money is a unit of measure. Bitcoin fails on this aspect. No one knows what it is worth as a unit of measure. Much like a fisherman’s ruler.
  3. Money is a store of value. It can be held as cash or it can be invested in money denominated instruments like bonds, and term deposits. No one knows what Bitcoin will be worth in a month, so store of value seems absent. It is more appropriately a speculative asset where price and value are totally disconnected. Bubble!
    There are no Bitcoin bonds yet, although Venezuela seems to be on the verge of offering them. Not exactly a paragon of financial rectitude, so perhaps the possible value of that is overstated.

Bitcoin is a way to exchange value. Only

That is not sufficient to make Bitcoins money. If the ability to transfer value makes something money, then a cheque is money. Strangely no one is now bidding up the price of cheques. For that matter, they have never done so. Good bet they never will.

Paper money is the same idea as Bitcoin. Paper money is only money so long as people believe it is worth something. When belief stops so does value. The price of money fluctuates a little as people see one currency to be less valuable than another. Perhaps a currency is like the stock price for a country. For example, the price of a Canadian dollar has fallen from about US$1.00 to 79 cents. Does that mean the value of the Canadian economy is weaker? Given energy prices, probably.

What factor drives the price of Bitcoins up? Anyone? Anyone? 

Where does that lead?

If Bitcoin is not money then what is it?

There are new offerings periodically, so we can expect the various security commissions to require that the issuers register Bitcoins as securities of some kind or another. What will be the disclosure requirements? What will be the investor protection method? Will some exchange like COMEX provide a market?  Will there be derivatives?

I would think the threat of regulation alone would drive the bubble aspect out of Bitcoins and anyone who can predict their value then is better at predicting than I.

What should you do?

Probably nothing if you don’t own any. 

It is possible that Bitcoins will be $20,000 before they are $200, but it is not certain. It seems to me that when facts are unavailable about future value and the price is rising a lot with no change in the underlying value equation, you stand to lose more than you stand to gain.

No one likes missing out, but then, no one like losing nearly all their capital. It is a difficult comparison, but based on the human nature of valuing a loss of a given size as about twice as bad as a gain of the same size is good, the decision is coming easier.

In the present situation, consider that losing all but a fiftieth of your money is a better bet than making fifty times your money. Like most things of this kind, the fall will be sudden and large. There is no chance it will stabilize at $6,000 or any amount in the middle. There is little to explain why it is $11,000 now compared to $750 a year ago, and $13 five years ago.  What does it do now at $11,000 that it did not do at $13?

The first rule of life

You cannot get something for nothing. Until you can describe the value equation for Bitcoins at $11,000, you are better off without them. The fact that many people think it will go higher, is not evidence.

Consider Mark Twain:

Whenever you find yourself on the side of the majority, it is time to pause and reflect.

It is merely organized common sense. Be careful, and if it becomes necessary to panic, panic first.

Don Shaughnessy arranges life insurance for people who understand the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario. 

In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.

Please be in touch if I can help you.  866-285-7772

One Comment on “You Cannot Understand Bitcoin Without Understanding Money

  1. I have been inundated with request for information about this subject and I could not provide as my understanding and knowledge are limited.This will help
    Thank you

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