This is the first in a series of shorter articles looking to summarize (as best I can) my understanding of few of the core topics and ideas behind the workings of the Bitcoin driven revolution that we're currently a part of. Over the past year, and no-doubt many years to come, we've had plenty of new people joining the space and, although the revolution is still young (we really are all quite early), we often forget about entry level information, sometimes basing our articles on the assumptions that folks already know most of the basics. In this article, and others to follow, I hope to go back over some of the earlier topics and rediscover how we got to the point we're at by providing a short summary on a given topic. Today we're going to look at where it all began and try to understand "Why Bitcoin?".
To understand what problems bitcoin helps us solve and why many believe it to be a critical building block for the future, that we all want to see, we need to first list out some of the underlying problems/factors with the status quo.
- Current economic policies place extremely high weight on spending, more so than saving - When we save we are offsetting the use of our money to potentially use it in the future. In doing so we want the purchasing power of the funds to remain constant, or better still, go up. We deny ourselves immediate gratification of buying an item but in doing so are investing in our future and shifting to a long-term mindset. Current policies focus on spending which in turn lowers our mindset causing us to focus on short-term consumption rather than long-term vision.
- Since fiat money has diverged from being backed by scarce resources (i.e gold) central banks have been able to print more - As with everything, the more scarce it is the higher potential it has for value. With gold's low/constant rate of production it means that inflation of supply is extremely difficult and not cost effective to achieve. As such, unlike printing money, value for gold does not fluctuate wildly. Generally, excessive increases in supply reduce scarcity and therefore diminish value. To go back to the first point if we look at saving, where we want funds to retain value over time, if the supply was greatly increase while we save then we can see this leads to erosion of saving value. Thus the elastic supply nature of modern money further promotes/encourages to spend sooner rather than saving for later (compounding the short-term mindset).
- Currently as most governments have their own central banks and currencies, transactions across borders are subject to conversion (exchange rates) - Historically when most countries employed a gold standard the value (being backed by a universal asset) of currencies could easily be converted based on the relative underlying weight of gold. Now instead of this we need to use ever shifting exchange rates to determine the appropriate conversion for cross-border trade (in 2019 the foreign exchange industry had a turnover of $6.6Trillion!!).
- Central banks often transact internationally using reserve currencies (e.g. dollar) - The use of one nations national currently to facilitate central bank settlement poses a potential risk when considering the impact of local monetary policy on an international stage. For example if money central banks hold dollars as a reserve but then the US government decides to print a bunch more this effectively devalues the holdings of these other countries and erodes (or perhaps steals) their wealth. It also means that global trade can be very heavily impacted by the state of just a few world economies.
- International payments between central banks are facilitated through a third (neutral) party and, as such, take time to verify - As the current system involves a third party (i.e The Bank of International Settlement) it is time consuming, potentially costly and dependent on trust in the neutrality of the third party and, if this settlement were to use gold then it brings security and logistical concerns.
Given what we know about the current struggles of traditional monetary policy now let's look at how why Bitcoin provides potential solutions to this.
- Programmed productions, scarcity and non-inflatability - There are a finite supply of BTC (21M) and a set release rate of these over time (via the mining process). Even if anyone tried to increase the supply by use of additional resources the rate at which BTC is mined will not change and all that will happen is that the network gets stronger. Similarly, if someone tries to change the underlying code, leading to a fork in the network the bulk of the network are incentivized (by not diluting their own stored value) to maintain the original version and as such the updates will be rejected by the network. As a saving instrument this means that BTC is much more likely to hold/increase its value over time rather than the inflated fiat system.
- Distributed (decentralized) network - As the network is distributed all around the world on thousands of nodes, individual entities can join and leave the network without diminishing its capacity to function. Furthermore, being neither controlled by nor subject to the political whims of any individual nation this makes BTC a truly borderless asset. The network neither prevents nor promotes participation, it just is, this is important because, while it is consider revolutionary, the changes BTC brings are market acceptance driven revolution and therefore passive/peaceful in nature.
- Automated and mathematically infallible settlement - Using the distributed ledger technology (Blockchain) the network as a whole are able to check and validate the the correctness of transactions within a matter of minutes without the need for any third (neutral) party. In terms of international settlement this is quite a game changer. Firstly, the processes is considerably more cost effective than the traditional approach being able to transfer millions/billions of dollars of value between any two parties anywhere in the world without the need to rely on any third party at a fraction of the cost. Secondly, unlike gold (arguably BTC's older sibling) there are no logistical constrains with holding of your own funds and moving them around further reducing the reliance on third parties and security risks associated with transportation.
- 1 BTC = 1 BTC - When considering BTC as a means for mediating cross-border frictionless trade it is important to consider that the value of 1 BTC remains constant irrespective of where you are in the world. This completely bypasses the need for additional conversion/cost with exchange rates and (if global currencies were to be backed by BTC) would make this whole process considerably easier throughout (much like it was back in the days of the gold standard).
- BTC encourages long-term holding which changes our global mindset to be more forward thinking - Due to the inability for additional BTC to be created the relative proportion of the network as a whole for 1 BTC remains constant (e.g. 1 BTC = 1/21,000,000th of Bitcoin). This lends itself to becoming a stable inflation-resistant means of transferring funds into the future (via saving or inheritance). In itself this leads to a behavioral shift (what we often term Hodling) which puts a focus on the future, turning our hands to developing/creating things with a long-term goal in mind. Yes, this in turn reduces spending, but also leads us to be more thoughtful about what we are spending on giving rise to higher quality/durable/sustainable spending patterns. In my mind this is actually one of the most important functions of BTC as a monetary medium, it allows us to think not of the now, but of the far from now, which is exactly what we need to be doing given the state of the current climate.
While I understand that this doesn't fully cover all of the facets of the importance of Bitcoin and what it means for the future of our global economies I hope it does give you some food for thought and a desire to learn/understand more. I'll be the first to admit that I am neither an economist nor a Bitcoin expert, like you I am just an individual who perhaps started out with BTC from a point of protecting/working toward my future and has since then been consuming more information to see just how deep the rabbit hole goes.
Hope you enjoyed the article, good luck y'all!
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