Bitcoin’s Creation of Order without Law

Concept Of Bitcoin Like A Computer Processor On Motherboard

Modern fiat currencies depend for their value on confidence in the laws of the states that issue them. Some nations, like the United States with its established central bank, inspire substantial confidence relative to nations that may debase for their currency for political objectives. But no nation can absolutely insulate its currency from political manipulation.

That is what gives Bitcoin the opportunity to succeed as a currency. But what gives users confidence in Bitcoin? It is precisely the fact that the rules regulating its currency do not depend on the currency law of any nation state. Bitcoin provides an example of order without law or at least without currency law.

Order without law is not unknown to society. Social norms often regulate behavior without the benefit of formal law. Rules of etiquette tell people how to behave at table without causing offense. Coordination rules help people walk down the street without bumping into one another. In a major work, Robert Ellickson showed that social norms, not law, governed responsibility in a community of cattle ranchers and farmers for the damage caused by cattle straying on the range.

But while order without law is possible without software, software can improve on the enforcement of that order. The beauty of Bitcoin’s design is that its mechanism for enforcement can not only be more powerful than the informal mechanisms that enforce social norms but even more powerful in some respects than the formal mechanisms of law.

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Bitcoin: A Hedge Against Bad Government

Bitcoin began as algorithm that created a token of no intrinsic value. But in a few short years it has become a hot commodity, trading now for about 250 dollars for each coin.  Nevertheless it does not yet constitute an effective currency.  It is still too volatile to be a reliable store of value.  Moreover, while 13 million people have used Bitcoins, far fewer use it on a consistent basis.  And the total value of Bitcoin is about 3 billion dollars—a fraction of the worth of many companies.

But Bitcoin has room to grow and become a currency. Of greatest aid to Bitcoin is the failure of governments. Already, Bitcoin is a household word in Argentina, where the government maintains an official exchange rate at substantial variance with real exchange rates. Bitcoin allows people to evade these controls by making their purchases via Bitcoin. If economic crisis leads other nations, like Brazil and Russia, to take such illiberal action, which is all too possible, Bitcoin will ride higher and begin to look more like a currency. And even after the crises subside, Bitcoin may well remain in use in such nations because of a distributed trust that does not depend on government and its relatively low transaction costs.

More generally, the less stable are national currencies, the more currency controls are imposed by government, the more inefficient are regulations of payment systems, the more attractive Bitcoin becomes. In short, Bitcoin  thrives as a  hedge against bad governance of one kind or another.

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Bitcoin: A Technology of Law, A Technology of Liberty?

A currency has three important functions. It provides a medium for exchange, a measure for the cost of goods, and a store of value. It is one of the most important technologies ever invented and like all technologies might be improved. It is also a matter of intense public concern, because the power over money brings with it immense political power.

The computational revolution is bidding to transform our relation to money by replacing fiat money with a digital currency. Fiat money consists of token issued by the government, like the dollar. Its success depends on trust in the government to maintain the currency as a stable store of value. But governments face political temptations to debase the currency for political ends. Just ask people in Argentina how well the peso has operated as a store of value. Even the dollar has dramatically fallen in value, as in the inflation of the 1970s. Moreover, fiat currencies of today often impose substantial transactions costs in the process of exchange. Banks make substantial profits from these transactions.

Thus, a stable currency outside of the control of the state without substantial transaction costs might well both make the economy more efficient and limit the power of government. It could be a wonder of the modern world. That is the potential promise of a digital currency—a form of money that is created and exchanged in cyberspace. The most famous such currency is Bitcoin and Nathaniel Popper has written a superb book, Digital Gold, chronicling its birth and wild rise. In the next post, I will review the book, which has a cast of characters to rival the most improbable of picaresque novels.

But first a short and necessarily simplified summary of the complex mechanics of Bitcoin:

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