“It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.”
– Henry Ford
Already Henry Ford identified the problem of our banking and monetary system. Today, our monetary system is controlled by central institutions such as the EZB or Fed. They can print money, which is called “fiat money” (definition: currency that a government has declared to be legal tender, but it is not backed by a physical commodity), and also control the price of money, the interest rate. Through those control instruments, the real interest rate (which should result of demand and supply) is distorted.
On the one hand, this leads to miss-investments caused by false incentives; on the other hand, it “burns” the savings of people, due to the inflation.
This is one of the real reasons for opening the gap between rich and poor, called the “Cantillon Effect”. Imagine the process of pouring honey into a saucer. First, the honey dollops in the middle and only later it spreads out to the periphery. In much the same way, price also does not rise evenly. In regions which directly or indirectly benefit from the monetary inflation, the price level is characteristically higher. This is a transfer of assets from late money users to early money users. It makes some people prosperous, but only to extent that it makes others poorer.
The famous Austrian School economist, Ludwig von Mises, said:” A fiat money system cannot go on forever and must one day come to an end…the question is how to return to the gold standard.” Maybe the day has come.
The Austrian school economic theory basically stands for liberalism and laissez-faire-economics. They think that economic performance is better when there is limited government interference.
During the economic crisis in 2008, a white paper was posted on the internet. Written under the pseudonym “Satoshi Nakamoto,” titled “Bitcoin: A Peer-to-Peer Electronic Cash System” Basically, the idea was to create a decentralized digital currency to send payments directly from one party to another without involving a financial institution.
The current problem is, that the government uses the financial system to restrict personal autonomy, such as self-determination of the body (e.g. pornography, drugs etc.)
through the empty promises of “fiat currencies” and the inflations built on the failed Keynesian economics. Especially for cyberpunks, cypherpunks, and digital anarchists, the goal was to use cryptography to grant total personal independence from the government and other authorities.
At the initial stages, Bitcoins didn’t find acceptance because, with no government support and central authority, the digital currency is not a “legal tender.” Nobody is committed to accept it, no central institution controls the value, its entirely marked-based.
But it was highly used in a mostly unknow digital place, called the Darknet. This is a network which is hidden from search engines and can only be entered with specific software.
To enter the Darknet, a special Tor browser, such as Onion, is needed. Those Tor browsers combined with an extra proxy, enables the user to enter the Darknet fully encrypted, which means the user can’t be traced back. It is possible to buy everything there. Illegal Drugs, pornography and even assassins can be found. Obviously, it was hard to pay the chosen service or product. With Bitcoins, it was possibly to pay while staying completely anonymous.
The creation of new Bitcoins is called “mining”. To mine a new Bitcoin, a computer has to solve a math problem. After solving the problem, the “miner” grants a reward in form of Bitcoins, which increases the total volume. A maximum 21 million coins can exist.
There is no inflation, because as more coins are on the markets, the math problem gets harder to solve and thus, more resources are needed.
The process is similar to mining other commodities: it requires exertion and it slowly makes new currency available at a rate that resembles the rate which commodities like gold are mined from the ground.
There is a cycle of events during the mining of Bitcoins. When the math problem gets harder, more miners join the network. The Bitcoin creation rate increases. This decreases the average mining time, which should be around 10 minutes per block.
Mining is now getting more difficult, which decreases the rate of Bitcoin creation; so, the average mining time goes back to normal and the cycle starts again with more miners who join the network. The target value is recalculated every 2016 blocks, which is about two weeks. Proof-of-work is the method which is used to ensure that the new block was difficult (costly, time-consuming) to be made. The three major factors are hardware, energy and time.
On the long term, the success will result in deflation. Mainstream economists, say that deflation results in less investments, because the investors think, that the price will decrease more. Furthermore, it leads to unemployment.
A good example, which disproves this theory, is the hardware industry. It’s well known, that every year the technology improves and the hardware can be bought cheaper. With the mainstream theory, the hardware industry couldn’t work. That’s the reason why people also call Bitcoins the digital gold. Back in the days, when the monetary system was secured by gold, a similar effect has been observed.
It is hard to copy a physical currency (counterfeiting), because of high safety measures such as the serial number, the watermark, the paper, the paper color etc. However, a digital technology can be perfectly multiplicated infinitely. How can this be prevented? The answer is through “blockchains.”
Blockchain is a decentralized database that keeps records of digital transactions. “Blockchain is to Bitcoin, what the internet is to email. A big electronic system, on top of which you can build applications. Currency is just one.” -Sally Davies, FT Technology Reporter.
If you think of traditional databases, you probably have banks, governments & accountants in mind, but the Blockchain is a distributed ledger with a network of replicated databases, synchronized with the internet. Everybody in the network can see it. Networks can be private like an intranet, or public, like the Internet.
When someone carries out a digital transaction, the transaction will be grouped together and cryptographically protected with transactions that have happen in the last 10 minutes. It will be sent to the whole network.
Miners now try to validate the transactions by solving a complex math problem. They compete with each other, because the first miner who solves the problem and validates the transaction will get a reward in the form of Bitcoins.
The block of transactions, which is now validated, gets a timestamp and will be added to a chain in a linear, chronological order. Every new block of validated transactions will be linked to the older blocks, thus, a “Blockchain” is created.
It is impossible to change a block, because every single block before that block must be changed. And this would take an enormous amount of time and resources. This allows every member to prove who owns what at any given time. Blockchains are decentralized, open & have a cryptographical nature. People can now trust each other and do peer to peer transactions, without an intermediate obsolete.
Bitcoins are stored in so-called “Bitcoin wallets.” A private key (secret number) for every Bitcoin address secures that the coin can’t be saved anywhere. It can only be saved in the owner’s wallet.
Most of Bitcoin mining is done in China, but how can a currency which supports individual freedom fit in a state controlled country? 100 Yuan (around 12 €) is the biggest note in the Chinese monetary system, which makes it really hard to bring huge amounts of money out of the country.
Bitcoins can be stored in a more convenient way, in a USB-stick. So, the use of Bitcoins is to bypass the financial and exchange controls. Limits, such as how much foreign currency individuals and private companies can buy each year, are getting undermined.
To avoid recessions, China invested heavily in infrastructure. Huge power plants were the result. One of the key factors for Bitcoin mining is electricity. In China, electricity is substituted, which means, it is almost free. Electricity is supplied by hydro-electric facilities or with the cheapest power source, coal. Also, the work force is cheaper than in most other countries. Which is why China has become the world leader in Bitcoin mining.
More than 60% of the Bitcoin network´s collective “hashrate” is controlled by Chinese mining pools and mass mining farms take advantage of extremely cheap electricity prices.
Antpool is a Chinese based mining pool, which has mined nearly 20% of all blocks over the past year. Not only is the mining is mostly done in China also the trading volume is used to lead by China.
Chinese government regulations are highly connected to the value of Bitcoin. After each regulation, the value of Bitcoin dropped massively. That’s what makes Bitcoin so speculative. Through government intervention, the natural growth of Bitcoins is disrupted, which leads to a bubble.
The problem here, is if the government regulations increase or the bubble bursts, people will lose trust in cryptocurrencies. This could destroy this wonderful idea.
Now, the price for Bitcoins is less in China than in the US, but you can´t get your Bitcoins easily out of China. That is one reason why the value of Bitcoin is increasing so fast now. The government announced to deregulate Bitcoin.
If you buy Bitcoins in China, and the government will deregulate it, you can bring them abroad, and the gap between the Chinese Bitcoin and the US Bitcoin is your profit. But no one knows exactly when this will happen. The government always says during the next month.
There are many cryptocurrencies developed through the success of Bitcoin. One of the most interesting coins (for me) is the ZenGold Token, which had a successful ICO (Initial coin offer) a few weeks ago.
It is a smart asset system backed by physical gold based on the Metaverse blockchain. This enables investors to instantly trade gold and transfer every amount of gold anywhere and fast. Holders will be enable to use gold as a payment mechanism. History shows, that gold is the safest asset during financial disasters. The system is also based on Blockchain technology. If it is successful, other commodities, such as silver, oil, and copper, could be connected to coins making them easier to trade.
Not only will Bitcoins disrupt the whole monetary system, the Blockchain has huge impacts on the economy. Normal contracts will be displaced by smart contracts.
Basically, a smart contract helps to exchange property, shares etc. in a transparent, conflict-free way, while avoiding a separate middleman.
Smart contracts can be compared to the technology of a vending machine. Normally, someone would go to a notary or a lawyer, pay them while you are getting the documents, but, with the smart contract, you can just drop, for example, your driver’s license (or whatever you want to drop) into your account.
Rules and penalties around the agreement will also defined by the smart contract, and automatically enforce those obligations.
A good example is renting an apartment. You can pay for the rent in cryptocurrency, which is recorded in the Blockchain. The receipt you get is held in your virtual contract. The landlord gives a digital entry key which comes by a specified date. You get automatically a refund if the key doesn’t come on time. If the landlord sends the key before the agreed date, the blockchain will hold it back until the date arrives. Hundreds of people in the network will witness the process making fraud impossible. Apartment owners will also get more money. They stop wasting money to pay a middleman such as craigslist or a newspaper to advertise.
The Blockchain can also be used for any form of asset registry, such as land register.
Everyone can see if someone owns a property or not. Property becomes smart property. The idea of smart property is to connect all transactions of property in a blockchain-based model.
But not only real estate property can be registered in the blockchain. Also, Art transactions can be controlled by the blockchain. If someone wants to buy a limited artwork, the buyer can easily check if the seller is the real owner of the art (if its registered). Thus, any asset can be registered and owner title can be changed very fast.
For example, a smart contract, which automatically changes the ownership of a car title from the financing company to the individual when he or she pays the whole loan back.
The key value of smart property is to control who owns what and give access to an asset by registering it as a digital asset on the blockchain (and having access to the private key).
This key can be used, for example, to open vehicles without physical keys. Toyota has partnered with Oaken Innovations to develop an Uber alternative based on the Ethereum Blockchain. Together they’re creating a new car sharing platform. Two parties can be brought together, someone who wants to use a car and someone who has a car but doesn’t use it now.
Via the Blockchain, a smart contract between those two parties can be arranged. Furthermore, the blockchain manages the payment without a third financial intermediary and also provides a “mini” insurance. This takes the “sharing economy” to a whole new level.
Nothing is safe from the blockchain revolution, not even the government.
There is also an application developing called blockchain government. The general idea is to us the technology to provide services normally provided by nation-states in a decentralized, cheaper, and way more efficient, personalized manner.
Often the government has a one-size-fits-all “greater good” model. With blockchain governance, the model can be tailored to the needs of individuals.
Think about a world of governance services as individualized as a custom-made suit. This personalized governance service could be a resident paying for a higher-tier waste removal service that includes composting, whereas his neighbor pays for a better education.
A decentralized governance services leads to individuals choosing a government and choosing a service.
Services like an ID system based on reputation, dispute resolution, voting, national income distribution, and registration of all manner of legal documents (such as marriage) could be included.
A marriage could instantly tie the accounts of the two individuals together.
The most important points are, that everyone – worldwide – can use decentralized government services. Geographical areas won’t restrict you anymore. The big question here is: if there is a global currency like Bitcoins and global government services, do we even need a traditional state?
This step won’t be easy. The Blockchain can do many things but not everything. Technical challenges, whether a specific one or a model in general, have been identified.
Which blockchain will be used?
There are so many blockchains now that it is hard to know which system will be the best. Probably, the Bitcoin blockchain will push through, because it has the most widely deployed infrastructure. One key challenge is the latency. It takes about 10 minutes to transact a block and verify it. The competition, VISA, takes only a few seconds.
Also, the environmental impact is a huge challenge. Mining Bitcoins takes enormous amounts of energy. In China, this leads to more coal power, which damages the environment.
Other challenges are related to business models. At first glance, it might seem that Bitcoin is not related or applicable to traditional business models. But, when blockchain principles are understood, it could have an impact on almost every single industry.
Between all these challenges, the biggest barrier will the public acceptance. Especially if Bitcoin is connected to illegal activities such as buying drugs on the Dark Net.
As with all goods or services which grant more freedom, your biggest enemy is the government. Regulations could destroy any kind of cryptocurrencies in a few days.
In this paper, I’ve tried to show that the positive aspects of cryptocurrencies and blockchain systems outweigh the negative aspects.
Blockchain technology is the next big disruptor after the internet. It grants people more individual freedom from centralized government systems.
The key is natural growth. Governmental intervention, such as substitution or regulations, can destroy the whole concept. If the people lose the trust in this system once, it will be nearly impossible to build it up again.
Since the gold secured monetary system, the Bitcoin is the only currency which increases its value constantly instead of decreasing it. This shows us, the people, that we don’t need central banks or other big institutions. We need a free market for the monetary system in which we can choose our money; the best currency will prevail.
Maybe this was the first step into a real – free – society. If the big names of the Austrian School of Economics, such as Friedrich August von Hayek or Ludwig von Mises, were alive today, they would take the change and defend this remarkable innovation.
* Georg Schreiner is a German libertarian. He is studying international business at Munich Business School and will finish his bachelor’s degree in 2018.