Wouldn't this ultimately help stabilize the price of Bitcoin, in part because perhaps Bitcoin bubbles wouldn't reach such tall heights anymore, if a lot more people can bet against them?
I think besides much bigger volume and liquidity (still the main reasons for stability), this is probably one of the reasons why other currencies are so stable, because there's a lot of back and forth between traders - rather than everyone buying and buying and buying, until it comes crashing down hard.
Standard economic theory says yes. Robert Shiller, for example, has noted that one factor that led to the housing bubble in the US is that it's quite hard to short housing.
So yes, in general, an increase in the ability to short a commodity will, ceteris paribus, result in an reduction in its propensity to form bubbles. On the other hand, bitcoins are a bit weird. The obvious uses for bitcoins are basically illegal drugs and evading currency controls, both of which open bitcoin up to significant legal and regulatory risks.
The most obvious use of bitcoin is to enable peer to peer exchanges of currency without banks, that's its purpose. Setting up a website that accepts payments just became vastly easier without the need for PCI compliance or even SSL; that is huge. Digital cash. That it can be used nefariously is beside the point, so can cash.
> The most obvious use of bitcoin is to enable peer to peer exchanges of currency without banks, that's its purpose.
Well, yes. But in general, we as a society like banks. They're big, reputable entities. They're easy to sue if things go wrong, deposits are insured if they go missing, and they're subject to extensive regulation. I'm old enough to remember when ordering stuff online seeemd weird and strange; these days it's routine. And in large part that's because of standards like PCI.
> Setting up a website that accepts payments just became vastly easier without the need for PCI compliance
I know. But PCI isn't a wandering monster that ambushes parties of brave coders; it emerged to solve a very real problem, and it does a pretty good job of it. As a consumer, "look, no PCI compliance" isn't a feature, it's a nightmare. I only want to pay for something with Bitcoins if the process is easier, cheaper, and/or safer than doing so with my credit card. And right now, that's not the case; it's not enem close to the case. Paying for things with my credit card is very easy, quite cheap, and very safe. Today, in the real world, Bitcoin is none of these.
In short, you've identified what Bitcoin is good at, but what we need to do is identify what Bitcoin is better than existing payment systems at. And I don't think "startups too small or lazy to sign up for a Stripe or Paypal account" is an actual niche. Accepting Bitcoins isn't that easy.
TL;DR: You say the obvious use isn't evading currency controls, it's peer to peer exchanges of currency without banks. But evading currency controls is one of the only reasons why you'd want peer to peer exchanges of currency without banks. ;)
Of course that's not the case right now as bitcoin hasn't yet gone mainstream. If you think we as a society like banks, I don't think you see what's coming because you don't see how many people despise banks.
I'm old enough to have grown up pre-internet, so let's not play the age game, I'm no kid.
People tolerate banks, they don't generally like them, they don't like being fee'd to death, they don't generally have enough money to give two shits about FDIC insurance, and pretty much consider bankers the scum of the earth; car salesman are more popular.
Crypto currencies are better payment systems technically, they're distributed peer to peer banking for cheaper, but they aren't deployed enough to matter yet; that will change.
1. Bitcoins already underwent several corrections (last one only a few days ago). These small "crashes" later resulted in longer, more stable phases. These substantial downturns flush out most bubble activity. (Bubbles usually go up until they burst. Bitcoin is generally all over the place. Very un-bubble like. When a bubble crashes, it's pretty much done for. When Bitcoin crashes, it's two weeks of wild swings and then soften on a new baseline.)
2. Bitcoin is an erratically growing commodity / currency. If Bitcoin succeeds long-term, then it's hopelessly undervalued currently (just because of the limited supply). If not, it's not worth anything. Basically it has a high risk associated with it and no safety net or more traditional baseline measure you could work with. This inevitably results in erratic price swings no matter what you do. For instance, the current price is mostly due to China getting into the game. There are still many other countries that are not even on the playing field. No financial instrument could prepare you if the demand rises because another big interest wave comes (like India) and the price needs to find a new equilibrium a magnitude higher.
Considering that Bitcoin got a value increase of 24543% in the past 2 Years, it's course corrections are outright tame.
"When a bubble crashes, it's pretty much done for."
I don't remember the dot com crash being quite as dramatic as that - the NASDAQ peaked in March 2000 dropped down in May and regained about 50% of the losses by July before dropping and climbing to the July level again in October before really dropping.
Edit: Graphs of Bitcoin/USD remind me of the description of start-up business plans from Cryptonomicon "conveniently summarized by graphs that all seem to be exponential curves screaming heavenward". :-)
I guess my point was that rather than have Bitcoin grow 3x within a month because of some big news, then crash to 2x of its height, and then grow back "slowly" to where it was within another 1-3 months, it could just grow more smoothly to begin with, and even if there were some big news in a row, there could be a lot of people betting against it and having it grow perhaps only 50 percent overall that month, and then another 50 percent the next month, or whatever.
Other currencies are stable because they're actively managed by central banks, there's huge liquidity, and the currencies aren't inherently deflationary. Bitcoin has none of these things going for it. It's not a currency, for the most part, it's an instrument for speculators.
Other currencies are (mostly) stable because they have a stable demand. For example, demand for USD is not increasing to tenfold over a year randomly.
Bitcoin is a very young currency / commodity and needs to find some form of equilibrium first. This will be reached once all people who potentially want to use Bitcoin do. Until then, each influx of new users will require a price correction as the supply is fixed.
On top of that, other currencies have flexible supply as well. Banks create and destroy money based on demand, because bank loans are essentially newly created money (and paying back a bank loan means that the money is destroyed).
1. Money is created by normal and central banks, which are somewhat different types of organizations. Central banks can directly "print" money while banks can buy IOU's for future money (loans).
2. Now the difference that is created with the loans is indeed payed back and increases the money supply. It's not destroyed.
Here is a chart of money supply of USD [1]. As you can see, the amount of money in existence is increasing continuously. It's one of the core elements that influence inflation.
Great explanation. I would add that a written-off defaulted loan does destroy money. Hence the need for the fed to create money when the private banks destroy it.
MZM from St. Louis FRED: research.stlouisfed.org/fred2/graph/?chart_type=line&s[1][id]=MZMNS&log_scales=Left
Actually, I would say it's the other way around. A bank loan is like "anti-money": it is created at the same time as the new money, and when the money and the loan a.k.a. "anti-money" meet again, both are destroyed.
When a loan is written off, the loan is destroyed without money being destroyed at the same time. That is, writing off a loan leads to what is effectively (in hindsight) net money creation.
That actually makes a lot of sense when you think about it: Writing off a loan means that the bank gives out money without the money being paid back. Of course there's going to be a net plus of money in circulation afterwards, because the "paying back" part is missing.
I agree that central banks also create money, but I'm afraid I can't agree with how you frame the rest of your reply. Let's look at it from a balance sheet perspective.
When a bank creates a loan, it adds an asset and a liability to its balance sheet. The asset is the loan (that is, the bank's customer's promise to pay back the loan), while the liability is newly created money in the customer's bank account.
The money supply is defined as the sum of all money in existence, and this includes money in bank accounts. That is, when a loan is made, the money supply grows.
When the loan is paid back, the reverse happens and the money supply shrinks again.
And yes, the amount of money in existence is increasing continuously, but so is the amount of outstanding bank loans. In other words, the evidence you present is perfectly compatible with what I'm saying.
I'm curious as to why you (and other people) call Bitcoin a "currency"?
Even on the frontpage of http://bitcoin.org/en/ it's defined as an "innovative payment network and a new kind of money" and the word currency doesn't appear anywhere.
Do you also consider a cellphone to be a "phone" in the traditional sense. Could phones browse the web, edit documents, take photos, check email, etc. 20 years ago?
So what's the difference between 'money' and 'currency'? If you start thinking about what either of these words mean exactly, and then start researching it -- you'll discover that even economists aren't sure and there are several competing theories of what 'money' actually is.
'money' is the more complicated concept. If bitcoin is 'money', then whether it's 'currency' or not mostly just depends, I think, on whether you want the definition of currency to include digital certificates or only physical objects. Not a very interesting question, just a matter of definitions. Now, what 'money' is, that's an interesting question.
> So what's the difference between 'money' and 'currency'?
Uh-oh don't get us started on that one, that's a can of worms!
Used to be, way back in the past, "money" was "coin or bullion in your bank's vaults" and banks' receipts for "money" starting circulating -- hence, we have the separate word currency.
Nowadays, I suppose the distinction is largely lost, other than "currency" now implicating different jurisdictions -- EUR and USD are considered different "currencies" but both are considered "money" by and large.
Money is spent or lent or hoarded, currency circulates. One necessitates the other.
Whether "hard" or "soft", in all history and today both are certainly always "credit" -- a (rightly or wrongly) trusted claim to some future consumption of some future production. Whether the "money" is paper or metal or digital. If we swap a banana for an apple, a trade is completed and settled, no money was needed. But since most of apple sellers are not also banana buyers "right here and now", this purely mental value-association, regardless the medium it's recorded on, is needed and used and traded in-place with ease and the world mostly works! Money hence is always a debt for future trade settlement -- completion of exchange.. (Whether banks should create new money for all their lending is another question, whether all savings of people should be in ambiguous claims on future production is another question. Doesn't change this most fundamental nature of "money".)
I don't really buy that argument. Yes, central banks can print more money, but it's not like they can print 30 percent of the existing money within a year to compensate for the 30 percent rise in demand for the dollar. But again, I think huge volumes and the law of numbers play a big role here, because I don't think it's possible to see a 30 percent rise in dollar demand within a year anymore, while that's very possible with Bitcoin (for now).
I think besides much bigger volume and liquidity (still the main reasons for stability), this is probably one of the reasons why other currencies are so stable, because there's a lot of back and forth between traders - rather than everyone buying and buying and buying, until it comes crashing down hard.