Crypto Currency Value

Bitcoin to me is like monopoly money because there is no actual monetary value apart from what investors have created out of thin air. Could this statement be true?

One ex-student posted online about it which is an interesting theme to read and discuss with your teacher in class:

(Note: this answer is unapologetically US-centric; I know the situation in the US the best, which is not to say I know it well, and don’t want to speak for other countries. Also, I am definitely not an expert here, and I’m very happy to be corrected by experts on anything I say below.)

Nixon took the US dollar off the gold standard in 1971; since that point, whenever the US government prints dollars, it is creating money out of thin air. That’s how fiat currency works!

You can create money out of thin air too: just start printing a bunch of slips of paper that say “me bucks” on them. You can then try using them to buy stuff from other people, but probably no one will take you up on it. Why? What’s the difference between “me bucks” and USD? This is actually a surprisingly complicated question to answer.

On the gold standard, the difference between “me bucks” and USD is that the US government promises that you can convert USD into gold at a fixed price. (You might then ask why gold is valuable, which is more straightforward: you can’t print it, you have to put effort into finding it and getting it out of the ground, you can use it for stuff, and it’s not that hard to store.) Since 1971, that is not the reason US dollars have value.

So, what is the difference? A major difference is that in the US, USD is legal tender. That means it can be used to pay debts; more concretely, it means if you owe a creditor $100 and you pay them $100 in USD, they can’t sue you for not having properly paid them what you owe. Another legal difference is that you can pay your taxes in USD. “Me bucks,” and for that matter Bitcoin, have neither of these properties. (Edit: another relevant difference is that the US government has put a lot of effort into making USD hard to counterfeit. Note that Bitcoin also has this property!)

However, in practice most of the reason USD is valuable is that other people think USD is valuable. That is, mostly the reason you accept being paid by your employer in USD is because you know that if you take some of that USD to a restaurant, you can buy food; if you take some of that USD to a realtor, you can buy a house; and so forth. And in turn, mostly the reason those people think USD is valuable is because they think other people think USD is valuable. This might sound circular to you, but it’s more or less an example of a Nash equilibrium.

(People’s beliefs that USD is valuable can change for external reasons, and this also matters. If the US government started printing money for no good reason people’s confidence in the value of USD would go down accordingly, and e.g. hedge funds who trade in currency markets would want to hold less USD and more other currencies such as the Euro. Similarly, if people thought the US was going to collapse soon. So part of the belief in the value of USD is a belief in the stability of the US government.)

This kind of reasoning can also apply to Bitcoin: that is, it’s possible for Bitcoin to be valuable because other people think it’s valuable (for example, because it allows them to make certain kinds of transactions more easily than they can with USD, or because they don’t trust the stability of the US government). The difference between this and a pyramid scheme is that pyramid schemes are unstable in the long term: once people stop joining a pyramid scheme, it collapses. But if everyone believes for the rest of time that Bitcoin is valuable, that belief is stable: they’ll just continue using Bitcoin as money forever.

“Me bucks” are not valuable because they don’t have any features paper money doesn’t already have (unlike Bitcoin), and accordingly nobody believes they’re valuable, and accordingly nobody will want them, so you won’t be able to use them to buy anything. But this isn’t an inherent feature of “me bucks.” If you were a famous celebrity you might in fact be able to convince people to start using “me bucks” out of sheer force of charisma, and as long as they were hard enough to counterfeit they might in fact become a de facto currency among your fans.

Take care!

Prof. Carl Boniface

Source: Qiaochu Yuan, ex-PhD student in math wrote six years ago via Quora.

Vocabulary builder:

US-centrism = also known as American-centrism or Americentrism, is a tendency to assume the culture of the United States is more important than those of other countries or to judge foreign cultures based on American cultural standards.