Learning the right lessons from the online currency Bitcoinby David Birch / July 20, 2011 / Leave a comment
Published in August 2011 issue of Prospect Magazine
When a bunch of geeks messing around on the internet’s frontier get attention from the Economist and the New York Times, you have to take note. A new electronic money system called “Bitcoin” has been hailed by some as the first nail in the coffin for the world of fiat currencies managed by central banks. Others dismiss it as a Ponzi scheme.
Bitcoin is a decentralised, peer-to-peer means of exchange. You can buy a Bitcoin—which is just a string of numbers—on an online exchange; you can then send it (or a subdivision of it) to anyone else on the internet. The strings of numbers are made by complicated calculations (called “mining”) and have a built-in limit. Once all the bitcoins have been mined, no one can make any more. To give a bitcoin to me, you essentially tell everybody else that the bits now belong to me—or rather, my security key. The closest equivalent was the currency of the island of Yap in the South Pacific. The inhabitants used huge stones in place of money, but the stones themselves never went anywhere, people just remembered who they belonged to.
Around $100m is now held in Bitcoins. Why do people use it? There seem to be three main reasons: they want a cheap, irreversible means of exchange, like cash; they want an anonymous means of exchange, since no one knows who the security keys belong to; and they don’t trust governments to manage money and want to take them out of the equation. (Bitcoin’s anonymity also attracts criminals, such as money launderers or drug dealers.)
I sympathise with some of these goals, but the bundle doesn’t work. The mass market doesn’t want anonymity, it wants privacy. Neither customers nor banks want transactions that are irreversible. And while many of us would like currency management taken away from governments, that doesn’t mean an unmanaged solution will be any better. (In June, an exchange was hacked and $9m worth of Bitcoins stolen, causing their price to plummet.)…