The title of this article is not a title party. Well, maybe a little bit. A more precise title would be“Why it doesn’t make sense to use bitcoin as a medium of exchange now, but if we can make it a good store of value, then it will automatically become a medium of exchange in the future.”

Author: Fernando Ulrich | Austrian School Economist, Brazilian Cryptocurrency Expert

Translation: Carrie | Chain Hill Capital

This article is translated and reprinted by Chain Hill Capital authorized by Austrian School economist Fernando Ulrich. The following is the text of the translation:

This is the first article in this series of articles. There are five articles in this series.

It would be a mistake to focus on "paying with bitcoin" at this stage. Instead, we should encourage people to "earn bitcoin" and "accept bitcoin as payment".Both are really two sides of the same coin, so it sounds like I'm playing with words. But I think the economic and technical implications of emphasizing the former (spending bitcoins) rather than the latter (earning and receiving bitcoins) are profound and counterproductive.

The scaling controversy surrounding Bitcoin has generated a lot of related discussions, which is why I am writing this article. Since the Bitcoin Cash (BCH) hard fork, the debate has intensified. While the two factions now have separate blockchains, the crypto community on Twitter is still flooded with tweets from both sides.

Proponents of Bitcoin Cash argue that Bitcoin is electronic cash that must be used and spent. Money is defined as a generally accepted medium of exchange. Therefore, if cryptocurrencies are intended to be money, they must be used for transactions.

First, there is no doubt that the basic function of money is a medium of exchange. However, as will be discussed below, a commodity must undergo a specific evolutionary process to be used in indirect exchange. By ignoring this process, Bitcoin Cash proponents fall into the language and economic reasoning of Keynes, not Mises. They fail to understand that it is only a matter of time before Bitcoin becomes a medium of exchange.

Second, understanding Bitcoin as primarily a "commodity for payment" leads to a very different vision for protocol development. We can see this clearly from the comparison between Bitcoin Core and Bitcoin ABC. So, from a technical standpoint, Bitcoin Cash proponents don't realize that Bitcoin being a medium of exchange is just a matter of how it gets there.

This article is the first in a series on "Bitcoin as a store of value first, then a medium of exchange". In this article, we will introduce the basics of economics.

Economic Theory and Currency

Mainstream economists tend to define money broadly, or not at all. Greg Mankiw, whose economics textbook is standard in universities around the world, describes money as "a store of assets that can be readily used to conduct transactions." According to the practice of economists, he did not distinguish the order of importance or the degree of importance, but only listed the functions of money, including medium of exchange, store of value and value measure.

The Austrian economist Ludwig von Mises argued that the defining function of money is as a "medium of exchange". The other oft-mentioned functions, namely "store of value" and "measure of value" are secondary and traceable to medium of exchange.

The essence of money is to exchange things that people wish to consume. This generalization is undeniable. However, for something to become money or a generally accepted medium of exchange, it first has to go through a process of evolution.

Initially, a commodity is recognized and hoarded as a store of value for deferred exchange. It becomes a medium of exchange when other people also recognize its usefulness and wish to hoard these goods for future exchange. Once a commodity is widely accepted and used as a store of value and medium of exchange, other commodities tend to be priced according to that commodity. In other words, it ends up becoming a measure of value.

Of course, the store of value and the medium of exchange reinforce each other until the point at which the commodity becomes highly liquid (or relatively liquid), at which point the commodity becomes a measure of value. However, if a commodity has not first been recognized as a proper store of value (or has little prospect of becoming one), then it has very little chance of being accepted in exchange. This is why stores of value are prioritized over mediums of exchange in the initial stages of commodity monetization.

As the commodity becomes liquid, the dominance of each function changes. The first is the store of value, the second is the medium of exchange, and the last is the measure of value. Although the most important function of "monetary" is the medium of exchange, the unit of account is the symbolic definition of a commodity becoming currency. When a commodity is not a measure of value, but merely a store of value and a medium of exchange, we can analyze it in terms of currency and circulation (Menger's "negotiability"). Although from a scientific point of view, if a commodity is not a measure of value, it should not be called money. But colloquially, we also call it currency. The question about the ambiguity of the word currency is irrelevant to the topic of this article and we will leave it for now.

As time passes and liquidity increases, the store-of-value function may become less important to an individual's cash needs. Therefore, as the economy develops and the division of labor intensifies, the proportion of spare cash used for investment will decrease, because people can better predict their future capital inflows and outflows.

Menger and Mises did not dwell on the functions of money, nor did they attempt to put them in order. For Mises, the basic function of money is to facilitate indirect exchange, and all other functions in the theory of monetary phenomena are inseparable from the medium of exchange. Their indifference to any sequence of functions may have something to do with their background: in their time, the monetary system was already established. Gold and silver are the main commodity currencies, and paper money is the currency in circulation. Money has already emerged and is chosen by the market, so there is no longer any need to be concerned with how a brand new commodity develops and is adopted as a general medium of exchange.

But since Satoshi’s invention, economists have returned to theories about money and how it came about. If Bitcoin does become money, we are now witnessing the "birth of money", which, by the way, was the title of my first article on Bitcoin (in Portuguese).

Whether it is shells, salt, copper, gold, or credit currency (paper money), the monetization of a commodity takes a long period of time, such as decades or even centuries. If we are now at an inflection point in monetary history, it is of the utmost importance that we understand which factors are relevant and how things will play out.

Become a store of value first

Many assets that serve as long-term stores of value can become viable mediums of exchange (such as real estate). However, for a commodity aspiring to be money, the ability to be transferable in exchange enhances its usefulness as a store of value. In this sense, stores of value and mediums of exchange are more intertwined than economists realize.

In practice, when we study the phenomenon of money, there is no clear distinction between the functions of store of value and medium of exchange. It is therefore extremely important to understand the nuances of the evolution of commodities into money.

A commodity that functions as a relatively poor store of value may still serve as a medium of exchange. There have been many examples of this throughout history, and while some commodities do not perform well in terms of value preservation due to perishability or not having such a scarce supply, they did at one time be widely used as a medium of exchange.

But some commodities are, to use Menger's terminology, more "preservable" than others.

Even for commodities that have historically served as a medium of exchange but have since been abandoned, being able to retain some value, at least for as long as they are held, is a prerequisite for them to qualify as a medium of exchange. As Mises pointed out in The Theory of Money and Credit, "Menger points out that the properties of commodities suitable for hoarding and their subsequent widespread use for this purpose are the most important reasons for their increased marketability and thus their qualification as mediums of exchange. One of the important reasons". So, according to Mises (and Menger), hoarding does, among other reasons, make a commodity more likely to be a medium of exchange.

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Swiss National Bank Gold Reserves

There are several properties that increase the liquidity of goods in the market, such as transferability, divisibility, and identifiability. However, under the same conditions, people prefer commodities that can better retain their value in time and space.

Both Menger and Mises approached the emergence of money and indirect exchange in terms of barter: a medium of exchange is an intermediate commodity that brings economic individuals closer to their ultimate goal, the commodity they want. Because it solves the problem of double coincidence of needs. But this intermediate good can also be used directly for consumption. For Mises, the value of money dates back to a time when it had no monetary utility, when it was just another commodity bought for consumption purposes. This is the gist of Mises' famous regression theorem.

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75,000-year-old beads made from the shells of pea-sized snails that lived in nearby estuaries in Blombos Cave, South Africa

For Szabo, Menger's theory "is almost certainly wrong as a documentary account of the origin of money. Because money in the form of collectibles such as seashells predates low-transaction-cost commodity markets by tens of thousands of years."

Instead of arguing to the contrary, Szabo added to Menger's work by showing that some goods can exhibit the qualities required for money even if they have no useful or obvious use. Therefore, by carefully reading Menger's and Mises' works on money, Szabo's theory on the origin of money and collectibles, it can be considered that the value storage function is dominant in the initial stage of commodity monetization.

source of monetary value

Another point made by Bitcoin Cash proponents is that the currency must be used in exchange to have value, and it must be spent. According to them, the utility of a currency needs to be proven through the act of spending.

Therefore, it is necessary to conduct a more detailed examination of the source of value of money here.

The basic function of money is indeed for exchange. But why does money have value in the first place? Because it has purchasing power (PP). Where does its purchasing power come from? Money demand and supply. Its purchasing power derives from the need to hold money and the need to hold cash.

The utility of money lies in the ability to purchase goods and services, which arises from the need of individuals to hold cash. Many economists mistake hoarding of currency for "idle hoarding," as if hoarding is not the same as holding itself. As Mises puts it, "Hoarding money is nothing more than the habit of holding more reserves than other economic agents at other times or places. Hoarding money, either socially or personally, has no Idle. They serve the same need for money as any other.”

Likewise, Murray Rothbard adds in Man, Economy, and State: "The money in one's cash reserves also provides a It is fallacious to draw a distinction between the currency of the world and the currency of the "idle hoard". At the end of the day, all money is always in people's cash balances, it never moves in some mysterious "circulation"."

If money is spent immediately after receiving it in a transaction, it will have no (or hardly any) market price. As Rothbard said: "If no one wants to keep cash for longer than the immediate time, then no money will be held and currency reserves will be useless. In short, in such a world, money will is useless or nearly useless."

The cryptocurrency graveyard is full of projects that want to incentivize users to spend their tokens. Freicoin, launched in 2011, attempted to introduce a demurrage fee into its protocol to persuade users to facilitate the circulation of freicoins tokens and provide "stable long-term value" by "using tokens". In other words, hoarding is discouraged and spending is encouraged.

This project is based on the free currency (Freigeld) idea of ​​​​German economist Silvio Gesell. The project party believes that "demurrage charges force freicoins tokens to circulate at a deliberately high speed. The value of the currency Separating the roles of store and medium of exchange allows money to be mobile whenever it is needed. Our carefully set control parameters can create a price stable currency that is neither inflationary nor deflationary...Bitcoin The properties of Freicoin make it more like a precious commodity like gold or silver, which will always serve as a useful store of value. Freicoin is intended to be a medium of exchange, and the time it remains in hand only needs to cover the need for a cash flow buffer.”

About Chain Hill Capital

About Chain Hill Capital

Supported by a professional team with multicultural backgrounds, members of the core departments - Investment Research Department, Trading Department, and Risk Control Department are all from well-known universities and institutions at home and abroad. They have a solid financial background, excellent investment research capabilities, and a keen sense of the market Sensitive ability, highly awe of the market and risks. The Investment Research Department combines rigorous basic research with mathematical and statistical models to obtain investment strategies such as "Pure Alpha" and "Smart Beta", and will soon export institutional-level research reports and project due diligence reports.

Supported by a professional team with multicultural backgrounds, members of the core departments - Investment Research Department, Trading Department, and Risk Control Department are all from well-known universities and institutions at home and abroad. They have a solid financial background, excellent investment research capabilities, and a keen sense of the market Sensitive ability, highly awe of the market and risks. The Investment Research Department combines rigorous basic research with mathematical and statistical models to obtain investment strategies such as "Pure Alpha" and "Smart Beta", and will soon export institutional-level research reports and project due diligence reports.