Tulip Bulbs

Bitcoins and Tulip Bulbs…

Someone asked me the other day, what I thought about bitcoins as a possible investment.  I chuckled, and responded with only two words, “tulip bulbs”.

While the real financial impact of “Tulip Mania” in mid-seventeenth century Holland is subject to widespread debate; it is undeniable that it was one of the most foolhardy examples of speculative excess in economic history. While the Tulip Mania may not have been the sole cause of the depression that followed, many Dutch lost substantial sums, and lives were altered forever.

One can hold a bitcoin, look at bitcoin, but can it really be used to produce anything, other than what it is? Just like one could plant a tulip bulb in 1637 and get a beautiful flower in the spring.  That is, if the bulb itself does not die.

As an “investment” or store of value, bitcoin is a very poor one.  A bitcoin has no intrinsic value; it owns nothing productive, and it cannot be used to produce anything anyone needs.

Commodities such timber, coal, oil, gas, palladium, copper, and silver are used to produce goods and services that a modern society demands to produce wealth producing goods and services.  Food such as beef and chicken has value because it sustains a workforce so it may continue to “exchange” labor for goods and services in order to become even more productive and further improve quality of life.

Financial “investments” such as stocks, bonds, and real estate represent underlying asset values and cash flow generated from those assets.

As a “currency”, or “medium of exchange”, bitcoin’s attributes are as poor as they are as an “investment”.   Some countries have outlawed it as a currency, and most individuals, governments, and businesses do not accept it as legal tender.  As “currency” it cannot be used to buy very much at all.

Over the course of its existence, the value of bitcoin has fluctuated wildly.  “Currency” is desirable to hold and in demand only if it represents a relatively stable medium of exchange. The bitcoins you use to pay for something today could be double the price by tomorrow or, conversely, the bitcoins you accepted today for goods and services could be worth half as much by tomorrow.

The determinate for supply of bitcoins is completely unexplained.  The price setting mechanism in the economy for any good, service, investment, or currency is demand and supply.  While we know the historical demand for bitcoins, the determinant of supply today and in the future, is not at all transparent.  What is the value going to be tomorrow, or three years from now?  Can we make any valid economic analysis on which to project a value for Bitcoin in the future?  I challenge anyone to tell me how bitcoin’s supply is determined, and importantly, who determines and controls it.  Who is the “Wizard of Oz” behind the bitcoin curtain?

Bitcoin is totally unacceptable as a “currency”, since it is not backed by the “full faith and credit” of a sovereign government, and the productive resources within its borders.  The US dollar is backed by the value of the resources within its borders (land, timber, gold, oil, etc.), the productivity, creativity, and know how of its labor, the capital within its borders, and the taxation authority of its government.  The value of “currency” ebbs and flows based on trends in trade and government deficits, labor productivity, the value of national public and private resources and other economic factors.

The reason the US dollar remains the reserve currency for the world is its relative stability as a store of value and, it is widely accepted medium of exchange backed by our resource rich nation, our highly productive people, our strong and relatively free market economy, and our democratic form of government.

I hope I have sufficiently touched on the weaknesses of bitcoins as either an “investment” or a “currency” to convince you of the high likelihood that bitcoins are the “Tulip Bulb” of the 21st century.  On one day alone, November 25th, 2013, over 656,000 bitcoins were issued for $531,360,000.

Someone, or some group is getting very, very rich indeed.

Paul A. Balboni
January 24, 2013

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