Bitcoin birth as the possible money of the future, is one of the most interesting developments in the world economy. Watched closely by every economic actor, it promises to disrupt the whole system and take us back to an essence of person-to-person trade. Before getting into more detail of what in entails, is worth looking at the essence of money, and how it could be transformed and spark changes long-awaited for.
Money is the blood of the system, like in the human body, and agent that allows every part of the network to communicate and exchange their surplus and deficits. Rewarding the ones taking risks and punishing them as well. It transfer seamlessly from hand to hand, and all of it while being less than a real thing, only a concept; an abstraction that allows trade to happen because we know its value lies in the trust and exchange ability with other parties.
The fact that so much of the world is powered by a concept, something that only exists in our heads; like a moral rule, or a divine entity, only to be made real by the shared belief and recognition of each of the participants in the network, has some human quality into it very much worth understanding. The more people recognizing “a concept” to be real, the more value that concept has, and by this virtues the network is bound together. In a similar way, language adoption is an example of a simple network that grows complex by virtue of more people adopting a single tongue outside of their local one, and suddenly able to reach as many localities as the language chosen can connect to. Money transcends language in its network properties, since as long as other parties are willing to share on its concept of value, and trade based on it, no longer matters if they don’t share a language or culture, the network is bound to be kept together and the participants to benefit from it.
It’s important to understand money’s property of just a shared belief — a concept — since that represents the core element that makes it useful for the majority of us. Other elements usually associated to money like central banks, exchange rates, interest rates, and complicated financial terms are just complementary concepts that add an element of almost reality to the mere abstraction of two unknown parties sharing on a concept to make trade happen. The benefits — of these parties — believing that the gold coin, paper, check, plastic card or just a digital cryptogram will be accepted by any other party in the network, justify the belief and mitigates the risk of giving away something without a clear indication of how it is going to be returned in the physical world.
If you think about it, I can tomorrow sell acres and acres of real land, machinery, industrial goods, and precious metals and translate those billions of dollars into just numbers with a lot of zeros on bank account. The promise that those numbers are worth something and they will eventually be exchangeable for real things back again, if we decide to, is what keeps you off from feeling less like Jack in the magic beans story exchanging the cow for something that at first sight didn’t have much value; but that in the end produces the magic of being exchangeable again to real things, only powered by mutual trust.
In some way, money is an invention that was bound to happen in any human group that needed to grow in size and complexity of things they traded on. For a small tribe or group sharing the same language and culture — usually less than a 150 people — family ties, promises, bartering, group shaming and contempt towards cheaters provided the checks and balances that allowed trust to form without the presence of money. But, this simple way of conducting trade was not able to reward the groups that were able to advance their methods of agriculture, animal domestication or even hunting, and produce the critical surplus needed for trade. This excess could only be exchanged with other tribes to a certain extent, the rest was lost and with it the incentive to keep improvements happening. People differ in what they think the next step of money was; I believe very early travelling merchants were the key to the next development. They probably took these excess produce and promised to compensate it for future items of value for the tribe, coming out of the travelling and from connections to other tribes dealing with the merchants. They knew the promise would be the right incentive for increases in production scale, not only in a single tribe, but now in a small nascent network of human groups connected by a “merchant network” that travelled between them and kept account of what was available and needed; additional to its role as ledger keeper of promises, debts, and surpluses that allowed some of these to be traded as well. In this development was the key to unlock group growth and provide the foundation from where to organize larger human organization units — like cities. From then on — in my view — money was only a matter of time; keeping a ledger and having a middleman willing to take the risk of promising a benefit without knowing for sure he was able to fulfill its promise, is just very close to the role that banks, governments — through central banks —, and some early shipping companies had in commerce since.
Then, in essence for money to happen some elements need to be present. A diverse network of groups or individuals with different items for trade; a middleman willing to take surpluses and deficits from the members of such a network while keeping a ledger of the transactions; and finally trust, that every trade will be legitimate and promises will be kept true — this is probably the key element, without it money cannot happen.
Like language adoption, money is a network more valuable as more people joins it; this means that instead of many forms of money (or local tongues) competing for attention, people would prefer the one currency with the largest possibilities of trade, creating a virtuous circle that would make one, or only a few currencies, really important for trade. This network effect, dependent of the size of the group, was popularized much later by pioneers in the phone and telecommunications business, but surely it was something the colonist from the British crown, and its East India Company, knew they were pursuing by expanding trade with their pound currency and widespread adoption of English as the global language of commerce.
Given money and its currencies are already firmly established, is there a place for disruption? How can the digital sphere provide the right nurturing for a new global network of payments and transactions?
After reviewing how abstract — only a concept — money really is, a digital currency like Bitcoin doesn’t look that difficult to understand anymore. The key for its creation was to get around the element of trust. Without it no money can happen, and how can you trust something that is not backed up by any government, bank, or corporation? The answer: open source software and mathematics.
I’m not an expert on bitcoins, neither own any yet — although looking into it —but I’ll try to explain what it is, and link it to the very basic concept of money.
After the internet gained widespread acceptance, it became clear that every user of the network needed a vehicle to transact digitally that was better than the traditional money. Beyond cash, new technologies made transactions easier however, still on the basis of their old currencies. It’s great that we can tap and finish a transaction with Paypass (Mastercard) or Paywave (Visa), and even that we can use PayPal to smoothly manage a digital wallet with only one username and password; Banks can transfer loads of money between clients and between other institutions fast and broadly, and in general in a lifetime, anyone would probably see money more as numbers in a computer than represented in its physical form. However, hidden in the background there are many costs, and weaknesses of a money network built for traditional commerce (coins, bills, limited communication), that has been carried over to their electronic version of today. In the old days, most agreed we needed the state, in the form of a central bank, to have a monopoly of money backing. Controlling the economy and being able to manage the monetary system was its main argument. International commerce was present when today’s main currencies were created, but the main commerce was done within large cities on near proximity, and to provide trust to foreign transactions money needed to be physical, and usually in a precious metal form. Bills were an improvement, but largely based on their precious metal backing they soon needed to be decoupled from it, to become what they are today just a promise that government guarantees the holder of the notes they value in them — the fiat money.
I guess the question is, if we didn’t have a government to provide the trust that a form of money will be convertible to goods by other parties on the network, would trade stop altogether? — And I also guess the theoretical answer is yes, but history says we usually find an alternative pretty quickly; because trade never stops.
What if we can find and item of exchange not dependent on government trust, but more on the absolute of mathematics; where every individual on the network can qualify its legitimacy and trade based on it?
And that is what Bitcoin precisely represents.
Coming back to the elements that needed to be present for money to happen, lets look at them now in the light of the Bitcoin operation rules; a diversified Network is present, actually it rides over the Internet as its infrastructure. Anybody online can transact with bitcoins, and that’s a huge network — actually there are even physical coins with its own redeemable private key inside taking Bitcoin beyond the digital realm; In the Bitcoin network the middleman is everybody that is willing to verify the transactions in its general ledger or ‘block chain’ in exchange of the possibility of solving the cryptograph problem of creating new bitcoins, and be awarded a set portion of them. More miners means is more difficult to solve the math, and more people verifying transactions are legitimate, and no one with single control of the ledger; which leads into the last element Trust that for Bitcoin is pretty special as it is based on the mathematical rules of its open source software. Everybody knows what is needed to create a Bitcoin, and everybody participates in verifying the transactions on the block chain are correct. By distributing into many parties the securitization of the system, everybody in the network trusts a little more on it, making Bitcoin a superior alternative to money as we now it today — superior as it really gives back control of money to the users, not any big bank, corporation or state subject to centrally led corruption and failure.
The Bitcoin network architecture and rules were design not only to be the new form of money, but also to reinvent it using the new-shared infrastructure that connects every person on the planet to each other via the Internet. As with everything else in the new economy, money needs to adopt the form that best adapts to a new trading environment where person to person is key, and trusts lies in the many that shared an interest in the legitimacy of every transaction rather than on a few bureaucrats or executives with supreme power but no downside exposure.
To me the key strength of the Internet is its leveling of the playing field. The fact that is a network not controlled by anyone specifically, and not able to subject to a switch off button in some crisis room, gives it the equivalency to a collective shared space where ideas, information, communication and solutions are exchanged on a day-to-day basis. I guess Bitcoin is just the natural progression of that collective that likes to trust the other people in the network, but still have to trade based on currencies centrally controlled and not subject to the scrutiny of the individuals. Downsides and criticism for Bitcoin abound, primarily now in being the perfect currency for illegal activities — and in that much superior to the former vehicle, Cash — and its projected anonymity. Like in current forms of money baddies will trade with whatever is strong, and trust-able enough to benefit from their activities, the fact that a minority of illegal actions is using it, is actually a compliment to its success. Hidden in this movement to tarnish Bitcoin public perception, are governments and financial corporations which has a lot of control to lose if money governance start to flow from their hands to the user’s. The Goodies supporting the Bitcoin network and growing its pool of transactions and public trust to the next level are certainly facing a daunting challenge in them. May the power of the people succeed in the end?
In my humble opinion, we need something like Bitcoin to be mainstream and succeed current forms of money. As with the original Internet, every one of their creators knew it could have grown big, but they would have never guessed its center stage role in today’s culture and the multitude of applications and uses it will power. With money and Bitcoin the scenario might be the same. I know that for me is right that the user controls and provide the trusts in the money we used for exchange. How much that would liberate and allow a myriad of new ways to trade in the global economy, I don’t know. But, it feels good and right to let it happen.
I finish to check my local Bitcoin exchange and start owning some of it. Nothing better than having skin in the game when supporting change.