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By: Julian Martinez, Bitcoin Consultant.
Bitcoin. You might have heard of it through your crazy friend or relative. Or you might have heard about it on the news when it hit an all-time high and then painfully crashed down in value. Is it just a speculative bubble? Is the value of this bubble only maintained by a deranged cult of enthusiasts? In this article, I will describe the economic reasons why I believe that Bitcoin will become the most important asset in the future.
To understand why people, think Bitcoin will increase in value, we must first understand how it relates to gold and why gold emerged as the most dominant form of money throughout history. Gold’s emergence as history’s most used money didn’t happen by accident. Many different forms of money competed against one another including silver, salt, rai stones, and even seashells. The reason gold won this competition is because of the unique qualities it possesses.
Austrian economists point to many qualities that made gold great money, but two qualities really stand out to me: gold’s ability to maintain its quality over time and its relative scarcity. Silver tarnishes over time, but gold buried for thousands of years maintains the same quality and can be sold at market value. Regarding gold’s scarcity, although new gold reserves were periodically found throughout history, relative to other competing forms of money, its supply growth was low and didn’t increase too much at any given moment in time.
These qualities made gold the ideal money, the ideal measuring stick of value, for thousands of years. When one warring nation defeated another, the defeated settled their debts in gold. Gold was valuable to everyone, including your enemies.
Before I address how Bitcoin has similar characteristics of money, I will address the following concern:
But Julian, gold is no longer important in the world economy. The world runs on dollars.
You might be surprised to know that gold was linked to dollars until 1971. The idea was that although international trade was conducted in dollars, what ultimately gave those dollars value was that you could redeem those dollars for gold at any time. Then in 1971, Richard Nixon famously declared that dollars were no longer redeemable for gold. The dollar was now only backed by the full faith and credit of the world superpower.
The origins of paper currency are fascinating. Originally, when gold was the dominant form of money, people stored their gold with goldsmiths and depositors received a receipt. Depositors could use this receipt to redeem their gold at a later time. Eventually, depositors started paying for goods and services using these receipts instead of withdrawing their gold to make payments. People started accepting these receipts as payment because they could redeem them for gold at any time as well.
Eventually, this system evolved into the paper currency system you see today.
Anyway, it has only been a little over 50 years since Richard Nixon broke the dollar’s link to gold and created fiat currency. Many people suspect that this incentivized nations to engage in the financial engineering of the economy and stock market, leading to higher inflation and greater debt.
Okay, what does this have to do with Bitcoin again?
In my opinion, Bitcoin has the same characteristics of money as gold. Number 1, it has a perfectly finite supply. It is preprogrammed to only allow a maximum of 21 million bitcoins. Its digital nature also allows it to maintain perfect quality over time.
Bitcoin also has some advantages over gold. Gold can be counterfeited and verifying the authenticity of gold requires experts and time. Bitcoin can be instantly verified by software that can be run on most laptops. You don’t need a third party to verify your bitcoin. Also, when governments paid each other in gold, they needed a military and resources to ship gold across the ocean. With bitcoin, you can send value across the globe in under an hour: no guns required. Bitcoin is internet native money.
But Julian, the world still runs on dollars and not gold, so how will Bitcoin be the asset of the future?
Now let’s pivot from economics to finance. I believe that Bitcoin will be the primary asset backing central bank, government and company balance sheets. You may have heard about fractional reserve banking. If everyone withdraws their dollars from the bank at the same time, there are not enough dollars for everyone to get repaid. This is the typical explanation, but it is an oversimplification.
Even though banks don’t have all the dollars at hand at any given time, they have other assets on their balance sheet that they can sell in order to pay everyone off. These assets include US treasury bonds and loans to businesses and people, among some other things. You may have heard of Silicon Valley Bank going insolvent last year. Assets that used to be extremely stable like US treasuries are now experiencing unexpected volatility in value due to decisions by the US government and the US central bank.
I suspect that this volatility will continue and governments, central banks, financial institutions, and companies will add more bitcoin to their balance sheet to make their balance sheets more robust. Being that the supply of this asset is not affected by the whims of governments or central banks, I believe it will ironically provide stability. Paper currency used to be backed by gold: US dollars are now mostly backed by US treasury bonds and mortgage-backed securities. I predict that as time passes, it will increasingly be backed by Bitcoin.
Yes, bitcoin price will remain volatile, but I think it will be volatile in the upward direction because of its unique characteristics that cannot be replicated by another form of money.
It is already gaining acceptance from governments, companies, and financial institutions. MicroStrategy is a company that has aggressively added bitcoin to its balance sheet. El Salvador has added a small amount of bitcoin to its balance sheet and has legalized it as a form of tender, meaning that it is tax-free and businesses must accept it as a form of payment. In addition, 11 financial institutions including Blackrock and Fidelity have launched bitcoin ETFs.
What I believe ultimately gives Bitcoin its value is its perfect scarcity and the fact that it is digitally native. No third party, no government or central bank, can manipulate Bitcoin’s supply like they can manipulate other assets. Will Bitcoin be regulated? Sure, but it can only be controlled at the edges. In addition, there are geopolitical reasons why governments will be incentivized to be bitcoin-friendly over time, but that is a whole article in and of itself.
If you haven’t drank the cool-aid yet, that’s okay. The future is never guaranteed, but a good measuring stick of success will be the amount of Bitcoin owned by companies, financial institutions, governments, and central banks over time.
I made a lot of claims in this post and didn’t go into detail for the sake of brevity, but I encouraged you to do your research.
Enjoy the Bitcoin rabbit hole.
