Bitcoin, Its Alternatives and Future of Money

Huge buzz about the Bitcoin rally lately among internet sites and mainstream media. There are many interesting discussion of what it is and how it is going (or not going) to change the world. Here is my take.

3 Factors Making A Currency Functional

First you need the currency to be accountable. Accountable means the currency does not depreciate in value suddenly and has reasonable security over the long run. Well, at least in the beginning you have to lure people to believe it is, just like the US dollar and Euro. After all, one function of money is storage of value.

Bitcoin has accountability built-in by its mathematical construct to be limited in its existence due to the escalating of difficulties in mining the currency. There is also peer controlled and distributed recognition that no single entity can drop the value of the currency suddenly. In this sense, it is way more accountable than any government issued currencies.

Second a currency has to be easily transferrable with reasonable security from being stolen or forged. Another function of money is a means for transactions. That’s why gold in its physic form is not a very good currency because it is difficult to carry and can be stolen or robbed easily. It is also the reason why government issued bank notes and coins are accepted readily because they have reasonable security measures and they are really convenient. Just imagine a place where the computer network is down or the card processing machine is not working you should understand what I mean.

Bitcoin is easily transferrable and has very good security measures built-in. In this aspect it is comparable to government issued currencies with the added advantage of not being robbed by the banks and governments as we have seen lately how robbery can happen in a grand scale with Cyprus government and banks. There is no reason to believe that governments would stop the looting with Cyprus so Bitcoin is again not a poor choice comparing to government issued currencies.

Third a currency has to be widely accepted among communities. A currency is of no use or limited use when it is not accepted by parties that you want to trade with. For example, small pieces of gold bars can be used for transactions everywhere because people recognize the value and know that it is very likely they can convert the gold bar they just accepted from a trade into other goods and services.

Another good example is the well known fact that cigars are often used in prisons as a currency because prisoners cannot hold onto money in the prisons. Thus to exchange for goods and services there need to be a universally accepted means of value transfer. Cigar emerged as the best choice in many prisons and probably will continue to do so as long as there is no changes to the policies how these prisons operate.

Bitcoin is not doing well in the area of wide acceptance. The problem is two-fold. 

On one hand, anyone who want to use Bitcoin will have to install wallet software which is a huge obstacle for people who are not receptive towards technologies. After the software issue is taken care of, there is also the problem of converting money you already have into Bitcoin so that you can pay for things in Bitcoin. That doubles the trouble anyone have to go through for making a payment for some goods and services. Hence it discourages people from choosing to use Bitcoin in the first place.

On the other hand, there are not that many vendors offering goods and services in Bitcoin because they cannot use Bitcoin themselves unless they can easily convert it back into the more common currencies. Accepting Bitcoin run the risk of not getting any money at the end if the value of Bitcoin crashes to nothing. Unlike minted real coins that may one day turns into antique artifact, Bitcoin does not exist physically so it is not really possible to hoard it.

In short, it is a problem of chicken and egg.

Virtual Currencies Have Many Enemies

Any increase in acceptance of Bitcoin will likely induce governments to try their best to crush Bitcoin as it is becomes a competing currency. Part of the value of any currency is its premium as a convenience for transactions. If Bitcoin gains acceptance, the value of the existing currencies will drop.

In many countries, there are laws in place to forbid anyone within the country to mint their own currencies. First, it is not necessary a bad thing because there are bad people who scam others with this ancient scamming trick. In fact, it happened so many times in the past, in various forms from coupon for gold, to funny money notes. Should governments decided that Bitcoin is a competing currency, it will be regulated or even confiscated based on obscure interpretation of law.

There Is A Price For Anonymous Identity

Just like any other assets, Bitcoin is a target for criminals.

Due to the design of Bitcoin having anonymous identity in mind, it makes it difficult for normal people to protect themselves from theft or robbery. For example, criminals can put you at gun point to force you to give up your Bitcoin easily. They can also hack your computer to get to your Bitcoin wallet to steal the money. There is no public record that the money you have in Bitcoin belongs to you. You cannot prove that you transferred the Bitcoin to another entity unwillingly. Worst of all, you cannot track down where the money has gone to.

It is a very sticky issue for law enforcement going forward should Bitcoin becomes popular. Remember that cyber crimes have always been a tough problem to deal with due to the fact that it can be done by anyone residing in places far away from your computer or your country. A connected computer on the internet with your Bitcoin wallet readily available for looting is a very sexy idea for all criminals.

In this aspect, Bitcoin and its alternatives are very similar to Swiss bank accounts protected by encrypted passcode. Anyone who has the code will be able to withdraw money from the account. Thus you cannot stop others from trying to take that from you because it is much more difficult to protect.

The anonymous feature of Bitcoin is also its bane as normal people would probably prefer safety of their assets over anonymity. As long as the ownership and transaction trail cannot be traced, Bitcoin will have very difficult time to gain popularity among normal people. It is almost a certainty that some high profile robbery will happen in the near future that rocks the Bitcoin community.

Only then we will be able to learn how authorities will handle such events.

To Propel Bitcoin To The Next Level

Ignoring the problem of anonymity, or assuming that it will be taken care of by the Bitcoin community in the near future, I can name the one thing Bitcoin needs to propel itself into mainstream usage.

What Bitcoin needs is a much easier means to carry out transactions. Not just online transactions but also credit card like transaction capabilities. To make that possible, I guess some form of venture capitals will have to invest into the concept so that Bitcoin can gain much wider acceptance.

Government intervention into the growth of Bitcoin is definitely a concern but it is very difficult to ban a currency that a country has no control over. There will always be some countries like the idea. The more suppressive the major governments trying to ban Bitcoin, the more valuable it will become.

Little do many people know, there are successful example of currency alternatives where the governments could not stop the spread of the alternative and eventually accepted the existence of the alternatives, even though unwillingly, I may add.

During past few major recessions, there are barter systems developed in many countries. These barter systems enabled the local businesses and services to survive the hardship by exchanging their goods and services at the prescribed rate of barter points. These barter systems have grown in size significantly over the past decades. Governments hate these arrangements because we are talking about lower tax dollars overall with segments of the economy hidden from the government totally. Many governments have a tight leash on these bartering organizations thus many of them are also well prepared in handling government requirements and regulations.

Bitcoin, or an alternative currency, if taking on the direction of barter points instead of actual currency replacement, it will face much weaker obstruction from the governments around the world. This could be a way out for advocates of government independent currency since there are many well organized barter organizations around the world already, as mentioned above. If someone can take the lead to unify them into a global bartering system, a very powerful alternative currency can emerge.

Risk Of Ruin

Due to the transparencies of the algorithm and mathematics behind Bitcoin, it is easy to create competing currency by anyone. No one can stop an organization from hosting their version of Bitcoin, even without modification to the algorithm except the unique signature identifying the legitimacy of the minted coins, at a cheaper initial price. To gain popularity for a new currency, it is not who started first that counts. It is also a function of which one offers the easiest means to make the currency useful as I outlined in the beginning of the article.

The moment one of the competing virtual currencies dominating the scene, the rest will crash in value quickly. Thus Bitcoin is not safe from this scenario until it has successfully resolved the wide acceptance issue. At this moment, I do not see a winner yet among all these competing alternative currencies. Bitcoin has an upper hand, not the winning hand.

Future Of Money

Going forward, not just a few years, but many years from now, when the younger generations from this era finally taking over the governments, they will demand the change to non-government controlled currencies. There is nothing any government can do as the future generations do not agree with what the current governments are doing.

Bitcoin is a new concept and it may not work out at the end. If this first generation of the concept fails to change the world as we know it, the next generation may succeed. People will find a way to break out of government control eventually.

For traders, Bitcoin may be a good arena for speculative bets. It is not, however, ready as money for the mass public yet. It is not because of the shortcomings mentioned in this article that stop Bitcoin from replacing the bad currencies minted by the governments we have now. It is because majority of the people living nowadays are still very much living in a memory bubble from before year 2000 thus the concept of physical money is still very much hardwired in their brains.

One thing for sure, if Bitcoin turns out to be the money of the future, the current price of $200 per unit Bitcoin is not even remotely close to the true value it will represent. Those people who slam Bitcoin that it is in a bubble are the same people who slammed gold for being in a bubble when gold was trading at $800. Based on the function of storage of value alone, gold, potentially Bitcoin and its alternatives, are already more useful than any fiat currencies.

And the gold bugs who refused the notion of abstract money is the future has ignored a fundamental direction in our history. Technological advancement is the driver of our economy ever since human invented the first wheel. Unlike the past, things can change drastically very quickly. Look at Internet and how it changed the world in 10 short years. Then Web 2.0 came along and in a few years time only changed how humans are connected around the world. Next big thing can happen very fast and change our outlook of the future very quickly.

In a sense, everything is moving in the direction of virtualization and decentralization. Can money avoid this eventuality?

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