Sunday, October 08, 2017

The Guardian: an unusually bright text about the deceitful cryptohype

Hours ago, The Guardian released a text by Edward Helmore (New York)
Warnings grow louder over cryptocurrency as valuations soar.
It addresses at least several of the issues surrounding the Bitcoin and its siblings that were recently discussed on this blog.

They mention that Joe Kennedy, the forefather of JFK, Ted Kennedy, and other relatives and left-wing "lions", sold his stocks in 1929 after a shoeshine boy told him it was great to buy stocks.

When even shoeshine boys talk about this "opportunity", it means that almost everyone who could have bought the stocks has already done it, so the demand is probably going to be lower in the future. I am trying to fill the holes in the argument to make it sound more complete. Needless to say, Joe Kennedy was either lucky or right – he sold at the right time. Maybe there was some luck about the decision. And maybe this luck contributed to the ability of this family to become so influential in the U.S. politics. But there's surely something sensible about the argument, too.

The Guardian discusses the pyramid-scheme or bubble-like character of the Bitcoin and other cryptocurrencies. I think that even the champions of the Bitcoin economy have understood that the pyramid scheme or the Airplane Game is an appropriate description what's going on. However, what many of them don't understand or deny is that such bubbles aren't "necessary" for progress in the payment systems – and that such bubbles have really never expanded into something that would be a widespread currency, as I discussed in Wealth can't be created out of thin air.

New currencies have to be pegged to some old ones, or something else that had a stable enough value in the past. You simply can't declare something whose value starts at zero to be a "future global currency" for you, the founder, and the early adopters to become the future trillionaires. It has never happened and it would be utterly irrational for the "later adopters" to adopt this "vision of the future" and buy the new "Bitcoin" for their dollars when the price is already insane. Instead, they will wait when the price of the Bitcoin collapses again. That's why the "proposed currencies assuming this bubble-like rise of the value" can never make the final steps of becoming really dominant.

In particular, I think it's fair to say that the price of an ounce of gold hasn't really increased much when gold became a widespread commodity to pay – or a material from which coins were minted. Gold was only used in the first transactions because the seller of products – the recipient of gold – figured out that there would be a way to buy something for the gold in the future, too. If he were offered a previously worthless "new money", he just wouldn't agree with this trade.

The article in The Guardian mentions the conflation of various concepts that are totally different. The ideas underlying the Bitcoin technology – the decentralized blockchain ledger – which I have compared to the observer dependence of the wave function in quantum mechanics – is often being conflated with the price of the Bitcoin or the altcoins, and many such totally stupid mistakes (often deliberate mistakes) are being made and promoted. The language of the promoters of various blockchain-based products is generally hysterically optimistic. And there has never been any calculation of any finite intrinsic value of the Bitcoin or anything related to it. So the Bitcoin evangelists just use all these vague arguments about the "wonderful technology" as a way to drive the Bitcoin price towards infinity. There is no (finite) number, unlike the case of Howard and Penny. ;-)

As the article in The Guardian correctly mentions, a big "argument" behind the expansion of this insanity is the idea that the governments and banks and capitalism and fiat currencies etc. have lost all the credibility so they have to be abandoned. Indeed, the sentiments of the Bitcoin evangelists resemble those of the most "ambitious" revolutionaries who have ever lived. Needless to say, I think that all these criticisms of the existing economic and monetary system is just pure crap. Fiat currencies have worked for a very long time, they keep on working despite the inflation that has accumulated, users of fiat currencies got most of the inflation losses back in the form of interest rates, but those who had more risky investments like stocks did better in the long run, of course. And banks work very well and they're really essential for the modern world – only crazy people doubt it. I don't see the slightest reason to think or empirical observation suggesting that something will be breaking about this whole system anytime soon, or a valid theoretical argument suggesting that something should ever be breaking about it.

The people who claim that there must be a tipping point when the accumulated inflation is too high, or the total money supply is too high, or the total absolute debt of the U.S. government is too high, and so on are just completely deluded – and yes, I think that this comment often applies to people who are otherwise reasonable about other things, e.g. Ron Paul. There is no "tipping point". The population has grown, the real GDP per capita has grown, inflation has grown and increased the number by an extra factor, and all these processes explain why countries' debt may be in trillions of dollars today. But there's no finite number where "things would break down". Only some ratios – like the debt-to-GDP ratio – may be considered reasonable measures of risks or unsustainability of something. The absolute numbers in the U.S. dollars are just astronomical numbers (that should be renamed "economic numbers" as Feynman has pointed out because they're comparable to the U.S. debt) but mathematics doesn't break down once an astronomical number is reached. There's a scaling/Weyl, noncompact \(U(1)\) i.e. \(\RR^+\) gauge symmetry (see e.g. Maldacena's popular/economics paper) that makes the absolute values of the prices and debts irrelevant.

That article in The Guardian mentions various efforts to ban ICOs (selling of new types of altcoins for real money to the markets), the cryptocurrencies as a whole, classify the crypto-investments as securities, and so on. It's very likely that the excessive freedom in this sector of the finances – the Wild West – will gradually shrink as the central banks and governments start to realize that they could underestimate something – and that lots of untaxed profit is being made in this sector while they may be stupidly chasing smaller fish elsewhere. Also, they link to a four-day-old official Chinese article [automatic translation to English] which makes it very clear that the Chinese government considers almost everything related to the cryptocurrencies to be a serious crime that is gonna be stopped.

They compare the cryptocurrency bubble with the dotcom bubble around 1996 – lots of the numbers seem to agree precisely. Some people, like Patrick Byrne of Utah, are quoted as saying some amusingly positive bogus things about the cryptocurrency economy. Much of it can be seen everywhere. But I was most impressed by the comments from Angela Walch, a London-based blockchain researcher.

In particular, at the end, she says something I discussed in several previous blog posts – so I don't claim that she's really original but she's a woman and these matters are misunderstood by most men and women.

The issue is that the cryptocurrency advocates promote some "perfect society based on the code" where "no people are in control of the currency" anymore. We have heard this comment from numerous commenters on this very blog, too. Well, these ideas are absolutely irrational, as I have repeatedly explained.

First, the wealthy people will obviously have a greater capacity to buy things – and greater power to do various things. The wealth is almost the same thing as power – or as "freedom" of some less usual type (like the freedom to fly in your jet from one continent to another). They just can't possibly be disentangled. A wealthy person may store his wealth in various types of assets but in principle, they may always be sold and bought – converted from one type to another. And the ability to remember who has more wealth/power and who has less wealth/power is the very reason why the money exists – or the main "service" that the money plays for the society as a whole. To invent "new money" that no longer discriminates between the people and makes everyone equally powerful is just a logical contradiction.

Second, even the specific type of power over the "ledger" belongs to "someone". If I make the things a bit more specific, the power of some humans to revise recent transactions doesn't "disappear" – the power structures in the human society aren't and can't be sent to the dumping ground of the history. They're just "moved to other places" and/or replaced by "new power structures" that play the very same role.

I first dedicated many paragraphs to this point in my five reasons for the government to ban the Bitcoin, the point "3 of 5". Someone big could gain the majority of the mining GPU power. This is not a science-fiction scenario because China can do it within weeks. Chinese miners are already controlling 65% of the Bitcoin mining, China's government considers their work criminal, and it may nationalize their hardware. If the government continues to mine, it may become the "dominant miner" that Satoshi Nakamoto describes in his original paper in the abstract and at several other places:
As long as a majority of CPU power is controlled by nodes that are not cooperating to attack the network, they'll generate the longest chain and outpace attackers. [From the Nakamoto's abstract]
Well, when China or someone else controls a majority of the nodes weighted by the mining power – a majority of the mining – all hell breaks lose. This majority miner simply can unconfirm already confirmed transactions, among lots of other things. After the nationalization, the Chinese government can really take control of the whole Bitcoin network and everything in it.

Some Bitcoin evangelists clearly don't understand this rudimentary point and I had to ban some of them because of this very reason – and because of the stubbornness with which they bragged about their immense stupidity. But the point really is trivial. Imagine that all the Bitcoin mining nodes are located in a building of the Chinese government. Then it should be easy for you to see that if you ask the "Bitcoin network" whether some payment has taken place and whether someone still owns a coin, the "Bitcoin network" can give you any answer that the Chinese government finds convenient. You may have a backup copy of the blockchain and see that someone has edited some transactions from the last week but your knowledge will be irrelevant. The Chinese government will be able to supplement its claim – perhaps a fraudulent claim – by a longer blockchain than what you can produce. Because they have a longer blockchain than you, all the evidence as evaluated by the Bitcoin algorithms will imply that you are trying to dishonestly edit the ledger while the Chinese government is the honest side!

That will be the outcome even if the Chinese government really edited some one-week-old transactions.

Now, this qualitative conclusion will still hold as long as the Chinese government holds over 50% of the GPU mining power. It will still be able to beat the "rest of the world" when it comes to the length of the Blockchain that it may calculate. It they had just 50.1%, it would take a long time to calculate the missing blocks. But 65% is safely above 50% so some O(1) week of the calculations by the Chinese computers may produce the "alternative history" of all the payments in the Bitcoin network from the recent week.

Effectively, the Chinese government has exactly the same physical power as the central banks that can print the new fiat money.

Also, by switching to the Bitcoin economy, the power of the commercial banks wouldn't diminish. They would just be renamed and moved elsewhere. But the Bitcoin exchanges are already making some money today. If the Bitcoin grew into a major world currency, these Bitcoin exchanges and similar companies that just make a profit from the fees and differences would be making huge profits that would be fully analogous to the profits that the commercial banks are making today, in the fiat currency economy.

So all the ideas that one can "fundamentally" transform the economy – so that no evil people with a disproportionate power can exist, and stuff like that – is just a communist-style utopia, a delusion of someone who isn't thinking logically anymore. An outcome like that is mathematically impossible. And it's great to see that Angela Walch has understood this point, too. There's so little rational or scholarly talk about this ambitious project (the Bitcoin economy) that I can't quite disprove the hypothesis that your humble correspondent and Angela Walch are the only two people in the world who have understood the point I just made. ;-)

I sincerely hope it's not the case and many intelligent TRF readers get it as well – and perhaps have "independently rediscovered" this point. Well, I really think that everyone who has gotten a PhD from economics or related disciplines – and people with quantitative science PhDs who are interested in economics – should be able to realize all such things, too.

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