Cryptocurrencies Don’t Make Sense

By Jon Danielsson, Director of the ESRC funded Systemic Risk Centre, London School of Economics. Originally published at VoxEU

Cryptocurrencies are supposedly a new and superior form of money and investments – the way of the future. The author of this column, however, does not see the point of cryptocurrencies, finding them no better than existing fiat money or good investments.

I have been trying to understand what the point of cryptocurrencies is, without success. They may not be an immediate financial stability concern (den Haan et al. 2017), but I just don’t get them.

As far as I can tell, they are supposed to be some combination of:

  • a type of money;
  • an investment;
  • something that provides privacy and security and efficiency;
  • something else, new and magical and mystical that I am too stupid or old to understand.

Are Cryptocurrencies Money?

What do we need money for? Three things:

  • facilitating transactions;
  • a store of value;
  • lending of last resort.

Any form of money should be evaluated according to those criteria.

We have used many things throughout history as money, like seashells, cigarettes, silver and gold. These are all scarce real assets with value to their users, available in small units and easy to transact.

No country has such money anymore. Instead, what we use is fiat money, a currency without any intrinsic value. Paper printed by the government, whose quantity is amplified by the financial system. It is only valuable because the government guarantees it is.

Fiat money issued by a credible modern central bank is vastly superior to money based on real assets like gold, not least because the supply of fiat money can be adjusted to best serve the economy, rather than be dominated by the production of some natural resource. The volume of cryptocurrency cannot be adjusted in the same way.

Of course, governments are tempted to abuse fiat money and print too much, as the first creator of fiat money did, the Chinese government in the 13th century. More recently, the stagflation of the 1970s is due to the central banks being bad stewards of money.

Because the governments of the time could not be trusted, several thinkers proposed free monetary systems, such as Hayek in 1977, discussion which presages current cryptocurrency debates. Still, advances in monetary policy eventually gave us more stable money by the 1980s.

So how do cryptocurrencies stack up on the criteria for money mentioned above: as a store of value, ease of transactions and for lending of last resort?

They are vastly inferior for transactions. Transactions with cash are costless, anonymous, and immediate. Electronic transactions are very cheap and also immediate, and can be done in any amount.

Bitcoin transactions take an hour or more, with a cost of at least $25, and they are not all that anonymous. Yes, there are cryptocurrencies that promise more efficiency or privacy. But even then, while it can take a long time to find someone who accepts Bitcoin, it is much longer with the competitors. Meanwhile, the largest amounts that can be transacted by cryptocurrencies are dwarfed by those one can transact with fiat money.

And what about store of value? Neither cryptocurrencies nor fiat money have any intrinsic value. What matters is credibility – our expectation that the money will retain its value over time.

For fiat money, the central banks are committed to keeping its value stable at a decreasing rate of 2% per year. The major central banks have been quite successful at keeping their tracking error small for a long time.

Bitcoin and other cryptocurrencies are much inferior in this regard. Their value doubles or halves in a span of few days. One cannot say with any degree of certainty that one’s holdings of cryptocurrencies will hold their value over the next week, not to mention a month or year. If one holds cryptocurrencies, it is for speculative reasons, not as a store of value.

That leaves lending of last resort (LOLR), providing liquidity to financial institutions in times of crises. This has been an essential function of central banks ever since Walter Bagehot’s 1873 analysis of the 1866 crisis. LOLR was last used in 2008, and will certainly be needed again at some point in the future. There is no such facility in any of the cryptocurrencies.

If cryptocurrencies are money, they are a much inferior to existing fiat money.

Are Cryptocurrencies Investment?

Cryptocurrencies, along with fiat money, have been called Ponzi schemes. Not quite. The definition of a Ponzi scheme is an investment where existing investors are paid for by new investments. Neither cryptocurrencies nor fiat money fit the definition.

But are the cryptocurrencies an investment? It depends on what one means by investment.

The value of a stock or a bond reflects future income appropriately discounted to the present. Not so with cryptocurrencies or fiat money. They have no intrinsic value. Their value is caused by scarcity, as well as the cost of mining or government promises. However, mining is sunk cost, not a promise of future income.

The only reason cryptocurrencies retain value is because we expect other people in the future to value them the same, or more than we do now. Just like collecting stamps. The value of stamps is created by scarcity and expectations of future investors pricing them more highly than we do now.

Cryptocurrencies are not an investment in the same way as a stock or a bond. They are an investment in the same sense as stamp collections are.

However, even then, most people don’t use fiat money directly as a store of value except in small amounts. At the very least, one can keep fiat money in a bank account or government bonds that earn interest. An investment that is as safe as the government. The possibility of such near riskless lending at stable rates is absent for cryptocurrencies.

So if cryptocurrencies are an investment, they are more like stamps or lottery tickets than fiat money, stocks, or bonds.


The intrinsic value of fiat money is underpinned by the credibility of the government and the central banks tasked with controlling money.

Central banks are independent and with considerable political cover, essential to ensure the credibility of fiat money. Countries that disregard the latest developments in monetary policy, like Venezuela, do that to their cost.

Central bank independence, political cover, and reputation for competence are key. Jerome Powell, the current chair of the Federal Reserve system, is the most powerful bureaucrat in the world. General Joseph Dunford, Chairman of the Joint Chiefs of Staff, might have nuclear weapons in his arsenal, but he reports to President Trump. Jerome Powell does not.

While our faith in central banks has increased considerably since Friedrich Hayek wrote his article cited above, it could still be higher. However, I can download detailed performance statistics on fiat money dating back decades. I know the supply of money and I know the policy tools used and I can make up my own mind. Information about cryptocurrencies and other activity statistics is much harder to come by and have a much smaller history.

The value of the euro and of the dollar is underpinned by the credibility of the ECB or the Fed. With cryptocurrencies, it is the credibility of some unknown entities and processes.

I trust the central banks in developed economies much more than I trust any of the cryptocurrencies.

Privacy and Security

That leaves privacy and security.

Cash is 100% anonymous, but one is at some risk of theft. Electronic transactions are not anonymous, but are safer.

While some cryptocurrencies promise anonymity, the most popular, Bitcoin does not, unless one is really careful in hiding one’s tracks using skills that are only available to a small group of users. The reason is that transaction records on the blockchain cannot be changed or deleted and are therefore searchable.

Meanwhile, not a day passes without reports of theft from cryptocurrency investors. The best advice is to keep one’s private key on an air-gapped burner laptop.

Cash and electronic money are also subject to theft. Still, there is no need for a private key with cash transactions and keys are much less important for electronic cash transactions. There are multiple layers of security that protect us. The fiat money of non-expert users, provided they take basic precautions, is very safe.

I feel quite confident in doing online banking without resorting to an air-gapped burner laptop.

Cryptocurrencies are only safe from theft if one is expert and takes elaborate precautions. We are much more likely to be a victim of a crime with cryptocurrencies than cash or electronic money.


Cryptocurrencies are inferior to most fiat money and investments, while they do not provide privacy or security.

When I say this to advocates of cryptocurrencies they usually respond in two ways – that I don’t understand cryptocurrencies, and that they have new and wonderful qualities that I miss.

There are many things I don’t get, but I have put some effort into understanding the mechanics of cryptocurrencies. However, one can know all the mechanics, all the geeky technical details, and still not have a clue about what they mean.

Take as an example human beings. I can know all the physics and chemistry and physiology, understand how molecules and organs operate, yet still don’t know the first thing about an individual.

Its the same with cryptocurrencies. Knowing the mechanical details does not translate to understanding their economic function.

Cryptocurrencies are more like a religion or a cult, not a rational economic phenomena. They even have their own foundation myth, the elusive Satoshi Nakamoto.

I await my enlightenment.

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    1. blennylips

      I doubt the DS first imagined cryptocurrencies, but they are quick to latch onto dreams!

      You reference is June 1996. The first public splash I’m aware of came in April ’95, by Jim Bell with his essay “Assassination Politics”:

      A few months ago, I had a truly and quite literally “revolutionary” idea, and I jokingly called it “Assassination Politics”: I speculated on the question of whether an organization could be set up to legally announce that it would be awarding a cash prize to somebody who correctly “predicted” the death of one of a list of violators of rights, usually either government employees, officeholders, or appointees. It could ask for anonymous contributions from the public, and individuals would be able send those contributions using digital cash.

  1. synoia

    More recently, the stagflation of the 1970s is due to the central banks being bad stewards of money.

    Conventional wisdom. And I wish to challenge the conventional wisdom.

    The stagflation of the 70s was not caused by central banks, but by the world’s economy adapting to the threefold increase in the cost of energy, and energy is a foundation to everything humans do, and the cutback in public spending by the ending of the Vietnam War.

    If the central Bank were so incompetent in the period what was their reform?

    A sharp increase in money creation under Regan? How was that different from the period prior to Regan?

    On crypto currencies, they have all the appearance of high cost for transaction, good for the intermediaries, so I expect the Banks to jump on then when they can monopolize the Government sanctioned new exchange system, coupled with a 21st century Tulip mania.

    The loss of one’s crypto wallet, coupled with the abandoned property forfeiture laws make Crypto-Currencies particularly attractive to Banks and Government.

  2. Amfortas the Hippie

    I’ve come to see the crypto’s as a sort of Aesopian ironic allegory of Fiat Money.
    Both rely, ultimately, on Faith…although how much faith one invests in ordinary Fiat is open to interpretation(another unfortunate aspect of religion, intruding into the dismal “science”)
    All those years arguing with Randians and other “fiscal conservatives”, I’d end up alleging that Fiat was the Holy Cracker of the Temple of Moloch.
    It’s a damned Cracker!
    That dollar only has value because a sufficient number of us Believe it has value. This is evident in how that value(and that dollar) are created: I come up with a scheme(business plan), and go into the Temple and present that scheme to the Priest(loan officer). He consults the Oracle, the modern version of the Sybilline Books(credit score, etc), and decides that the Great God Moloch is pleased with my scheme…and then goes into the Inner Sanctum, performs some incantations that are esoteric and largely hidden from my profane view, and an Account is created, and filled with whatever Fiat had been decided on(including a portion for sacrifice(interest).
    Cryptocurrency is pretty much the same, except that the Priesthood is distributed, largely unknown, and without credential/initiation… and the incantations and sacrifices that produce the Crackers is even more obscure and esoteric.
    The legitimacy…trust…of the Priesthood is key, in both instances…as is the perceived efficacy of the sacrifice…will the God be pleased?
    The big difference, here, is that Crypto doesn’t have the imprimatur of the State, nor of the Market(holy, holy), and can’t be used as widely as ordinary Fiat.
    Of course, legitimacy is not an intrinsic quality of the state, or the Market(world without end), and fluctuates over time and with the effects(on our trust) of outside events.
    Ergo, the Crypto Cultists are analogous to the early Christians(largely slaves, looking for some way out, even if it’s all in their head)…infiltrating and undermining the Official Cult of the Empire.
    For a store of value, I prefer tools and my house and other such tangible things…but I’m an apostate, and am therefore biased against both Cults. Neither God seems all that real, to me.

    1. Skip Intro

      People believe the dollar has value because they believe they can use it to pay US Federal and State taxes.

      1. Higgs Boson

        People believe the dollar has value because they believe they *must* use it to pay US Federal and State taxes.

        The average workaday wage slave does not keep that fact uppermost in their minds, but at the end of the day there is no “faith” required in the value of the dollar. It’s the raw power of the state to seize your property and keep you locked up for a long time if you don’t pay up. With dollars.

        (The 1st attempt to comment disappeared into moderation limbo.)

          1. Mike Smitka

            People believe the dollar has value because it’s useful and over the past 25 years has remained most useful, as a store of value, as a means of transaction, and (though few people realize it) as something that central banks (or at least the Fed) can employ as they view appropriate. Taxes do not loom large in the minds of the overwhelming majority who use the dollar daily.

  3. dcblogger

    Thanks, I understand better. I still don’t understand, but I know more than I did. Also, why are people so excited about blockchain technology? If I understand it correctly (not saying I do) it sounds like a giant time and energy suck.

    1. Yves Smith Post author

      Since I need to turn in, I will admit to not giving you a proper unpacked but not overwhelming response.

      At a 50,000 foot level, blockchain is an extremely impressive technical accomplishment still looking for an application. As the article above argues, “currencies” are not really it.

      As Nouriel Roubini argued:

      Blockchain has “been around for 10 years, and the only application is cryptocurrencies, which is a scam,” the New York University economist added.

      1. Jon S

        But the coins are key to the blockchain. The only reason people spend the computing power, time and energy to keep the blockchain updated is because they get to mine the coins in return. If the coins have no value, then there will not be an “open, distributed” ledger. And that defeats any attempts at trust.

    2. Skip Intro

      I think of blockchain as an open, tamperproof ledger. Useful, but not, IMHO, particularly exciting. I think much apparent excitement comes from befuddled evangelists with a vested interest in crypto, or some other speculative venture which benefits from excessive hype.

    3. BillS

      As I understand it, the beauty of the blockchain is that it provides a clear, inalterable (or at least very difficult to alter) history of events through the use of cryptographic hash functions.
      1) These events could be financial transactions, title transfers, contracts, changes to documents..anything where one might want to keep track of a historical record.
      2) These events form blocks in the chain (simplest form, a linear linked list). The contents of the block are fed into a cryptographic hash function that spits out a number. Each block also contains the previous block’s hash number.
      3) The work of “mining” involves forcing part of the cryptographic hash to exhibit a certain consistent pattern, a sequence of 0’s, for example. Every time you add a block, you tack a data segment (the “nonce”) at the end of the data block where you plug in random data until you find the sequence that makes the new hash function exhibit that required consistent pattern. This is called the proof-of-work system.

      What makes the blockchain so resistant to “fudging” past entries is that fudging a past entry makes all the subsequent hash functions lose their defined pattern. It is very hard to recompute the hash functions )because the mining is hard). Bitcoin relies on the added security of redundancy in its ledger and mining process, but blockchains can also be used as single ledgers as well.

      What makes blockchains interesting is that they build an essentially inalterable transaction history where trust is built into the system and is not explicitly required of the transacting entities. Yes, you are correct. There is lots of hype. Altho’ it could prove very useful for many mundane tasks in e-government, publishing, banking, law, etc. once the hype dies down.

      1. visitor

        Let us add that “mining”, or more properly “proof of work” is just one of the technical possibilities to ensure the integrity of a blockchain. It is the preferred approach in bitcoin and other cryptocurrencies because it allows a completely decentralized operation, while other approaches require either some permanent infrastructure with privileged nodes or some central validator.

        It is quite possible that, if some forms of cryptocurrency get adopted by the banking system, they will rely upon the latter approaches rather than the decentralized “mining” method implemented by bitcoin.

        1. subgenius

          There are other decentralized possibilities. Including at least one really obvious one that is completely overlooked by the focus of current implementations. I am toying with implementing it (although I am very interested in encryption and steganography, I am allergic to cryptocurrencies)

      2. Stephen Gardner

        This is the best non-technical explanation of block chains I have heard. Thank you for posting. The more people understand the more they can reach good decisions.

  4. The Rev Kev

    I think that there is one important function left out on what we need money for and it is this. It is the ability to pay taxes with which gives it validation to the government that issues it. If you can’t use it to pay your taxes with, it probably isn’t money. It should be noted that I have read that conferences on cryptocurrencies were not taking payment for entry in bitcoin at all. Now why would that be?

  5. Tinky

    “No country has such money anymore.”

    Hoo boy. Is the author not aware of China’s significant accumulation of gold, or the fact that it is the very first asset listed in the Consolidated Financial Statement of the ECB? Etc. (Yes, I understand that he used the word “money”, but he nevertheless misses, or should I say avoids an important point.)

    “Still, advances in monetary policy eventually gave us more stable money by the 1980s.”

    Could the author have written this with a straight face? Does he imagine that the current and unprecedented abuses of money creation are somehow likely to underpin long-term stability?

    I could go on, but the main point is that I, and I imagine most readers, would find a critique of cryptocurrencies to be more compelling were it written by someone who does not, apparently, worship at the fiat alter.

      1. Tinky

        The conversation, as framed by the author, is more about money than currencies. The author himself provides these characteristics of what “money” is needed for:

        “facilitating transactions;
        a store of value;
        lending of last resort.”

        Gold can satisfy all three, and has proven vastly superior to fiat currencies as a store of value over time.

        1. paulmeli

          Gold can satisfy all three, and has proven vastly superior to fiat currencies as a store of value over time.

          I read somewhere, Barry Ritholz I think, that Treasuries have out=performed gold over the last 50 years (adjusted for inflation), as well as the S&P 500.

        2. Skip Intro

          Gold is scarce, and that scarcity makes it impractical/unsuitable for #1, ‘facilitating transactions’ since the volume of transactions in the economy is limited to the volume of gold, not to mention the challenges inherent in transferring large sums in the form of very heavy metal.

          Are you suggesting that the currency from China or the ECB can be exchanged for some face-value of gold metal? If not, what is the relevance of the form of assets listed by these central banks.

          1. Mel

            China has been buying lots of gold for the last few years. Actual gold, not futures or contracts. Some of the central Asian nations along the new silk road produce gold, so they wouldn’t feel disadvantaged if trade along the new road were denominated in some new gold currency.

              1. Wukchumni

                Most Americans aren’t aware of the multiple currencies that existed during the ‘gold standard’. Only Silver and Gold Certificates were backed by metal, not so with Federal Reserve Notes, National Currency, Legal Tender Notes, United States Notes, U.S. Treasury Notes, and a few other short lived varieties.

                1. Mike Smitka

                  I have a 1723 Japanese warehouse receipt, with a stated value of 3 momme, that I take into class as an example of “money” because that is what it was – those holding it had no interest in the putative underlying goods. My local antique shop has “bank notes” from various defunct (local) financial institutions. Good, as long as you were local, and until they weren’t…that “recent unpleasantness” thing that affected the US South.

                  Money is a social creation, extraordinarily useful, but “backed by” is a social perception because few issuers have every held 100% reserves.

                  Cf. a 2013 blog post of mine Beanie Babies for Billionaires. I add a bit of value, but also missed some things. Anyway, it’s not news that bitcoin isn’t money. And this post does a nice job of lining up the reasons why you should stay away from bitcoin, unless you’re into gambling.

        3. JustAnObserver

          Every time I hear this about gold I imagine arriving at the supermarket checkout with a little gold bar (*) and scraping a few shavings onto a a set of scales … or dumping a few of them on the scales at the car showroom. This would be the only direct way of using the stuff.

          And who, exactly, would guarantee that these scales are accurate ? How would the shelf prices be set ? Etc, etc.

          Since all this makes 0 sense then, historically, precious metal currency systems have used some kind of coin based system … which needs a mint … which needs some *public* entity/institution to guarantee its output … and there we are, back to the Hayekian nightmare of the great daemon government.

          (*) I originally wrote “god bar” . The spirit of the article must be moving within me.

          1. chwee

            I have a granduncle who lived in Hungary after WWII. An easy solution would be a gold chain, which has low actual gold quality, but enough to pass general assaying. People who wanted a loaf of bread would easily detach a link or two, as gold + copper is extremely malleable.

            It’s mainly the western European and US folks who seem to have lost institutional knowledge of how fungible gold was in reality, and why it was used as ‘money’ for thousands of years, albelt often debased by state entities towards their regime-end-of-life.

            For higher value transactions…. the jews who were smart enough to get out of Germany before the progroms started in earnest could cough up a gold coin or two at the border to facilitate their exits.

            1. Yves Smith Post author

              Sorry, this doesn’t work anywhere near as well as you suggest.

              In Vietnam, women would get gold beads as part or often all of their dowry. They would often wear them as necklaces.

              During the war, in certain parts of the country, normal commerce and the use of currency pretty much stopped.

              Those women found that their gold traded at way way way less than its monetary value if they tried using it to buy medicine or food.

      2. barefoot charley

        bob, the Swiss franc has a mountain of Swiss gold behind it, one reason why their national bank spends so many billions every year on foreign currencies and assets, in futile efforts to keep its value against them from rising.

        1. Wukchumni

          Not so…

          The Swiss sold most of their precious @ around $420 an ounce, and did much better than the UK, which sold out near the bottom.

          1. JustAnObserver

            Was this before or after questions began to be raised about the, shall we say, provenance of (some of) this gold ?

            1. Wukchumni

              Somehow the Swiss ended up with a whole lot of all that glitters after WW2, despite there being no mining activity in the country…

              How to clean it up?

              …you strike a veritable shitlode of 20 franc coins dated 1935

              See how easy that was?

        2. bob

          Even if they at one point did have a pile of gold behind it-

          How much gold? You’re gonna take the government’s word on that?

          If so, FIAT! The gov declared the value.

      3. The Rev Kev

        Didn’t Qaddafi try to set up a pan-African currency backed by his gold accumulation of about 143 tons? This was just before Libya was “freed”. The Clinton emails show that this was one of the main reasons that that country was taken down, especially by France and nobody knows what happened to all that gold.
        I think that Iraq before the war was also going to set up a currency backed by their gold and oil. Type in Iraq gold to Google and see what comes back from that story.
        And that is why you cannot have a country that does not use a fiat currency.

  6. Teddy

    I think the author slides over the privacy/anonymity features of cryptocurrency too easily. It is true cash provides these advantages too, but it’s quite inconvenient to use at a distance and most governments are moving to clamp down on its use if not abolish it outright. Meanwhile electronic payment systems offer no confidentiality at all for an average user.

    To put it another way, cryptocurrencies would make no sense in a world of unregulated cash use and unambiguous banking confidentiality. Unfortunately, most people don’t live in such a world, which gives appeal to ideas like Bitcoin no matter how dubiously implemented.

    (for disclosure: I have zero exposure to cryptocurrency markets and in fact I’m quite critical of their current state. This is not intended as a defense of Bitcoin but rather the idea of anonymous payment systems itself)

    1. saurabh

      The ledger records all transactions publicly, telling us that wallet a3d6fee42 bought LSD, “Midnight’s Children” and a ticket to the Rose Bowl. This is not anonymous, your id will eventually be guessed. Compare to cash, where each transaction is truly private and independent.

      1. Teddy

        I understand that and I agree cash is superior in face-to-face transactions. However, I believe cryptocurrencies were supposed to serve as long-distance means of payment (that is, before the ‘end-the-Fed’ technolibertarian crowd and speculators took over). Cash is quite inconvenient in such situations both due to its intrinsic properties (it can be stolen, lost or damaged in transit, for example) and due to mass surveillance legislation (just off the top of my head: currency transaction reports, civil forfeiture, general lack of issuance of high denomination notes that would at least track inflation). So I believe it’s a comparison between apples and oranges.

        For example, say I want to send you $15000. How do I do that anonymously? If I mailed you cash, I would have broken relevant laws in both of our countries of residence, it would take several days at least and risk the money being stolen, not to mention require disclosure of quite a bit of personal information both ways. Meanwhile, in theory cryptocurrencies should allow this transaction to occur in minutes while exchanging just pseudonymous addresses.

        1. bob

          that is, before the ‘end-the-Fed’ technolibertarian crowd and speculators took over

          “In late 2006, programmer Jed McCaleb (eDonkey2000, Overnet1, Ripple, Stellar) thought of building a website for users of the Magic: The Gathering Online fantasy-based card game service, to let them trade “Magic: The Gathering Online” cards like stocks.”

          In July 2010, McCaleb read about bitcoin on Slashdot,[21] and decided that the bitcoin community needed an exchange for trading bitcoin and regular currencies. On July 18, Mt. Gox launched its exchange and price quoting service deploying it on the spare domain name

          Way back when it was called Magic?

    2. Jon S

      Cash doesn’t really provide anonymity. The person across the counter at least sees your face. And probably has you on a camera recording. I’m not convinced that perfect anonymity can be accomplished in any transaction. At least one that has “convenience” attached to it.

      1. Yves Smith Post author

        There are plenty of places I use cash where I have anonymity. Start with taxis or paying for Metrocards. The MTA does not yet tie cash purchases to particular users. I don’t carry a smartphone or even a phone the overwhelming majority of the time when I go out, and I use a Faraday bag when I do. So I’m not GPS located. Cash helps me preserve my anonymity. Bitcoin would mean someone could track my local trips.

      2. Teddy

        Of course, perfect anonymity doesn’t exist. But still, there’s a huge difference between “maybe it would be possible to identify me from a camera recording and/or cellphone data and then maybe you could also extract or guess the information about what I’ve bought and how much I paid” and “my personal data and transaction info is stored in a single, easily accessed database”. Mass surveillance capability relies on the second case, unless you’re specifically a person of interest it isn’t feasible to track cash purchases to that degree. And that’s why I overwhelmingly use cash for my day to day spending.

        This is really off-topic, but I think similar thinking should apply to electronic payment systems. Sure, there is even less wiggle room to achieve confidentiality. But still, it seems more anonymous to use a pseudonymous address (as in Bitcoin) or a nickname (as in unfortunately-defunct Liberty Reserve) than your full personal data, as is now standard in bank transactions. Of course, that exposes perhaps the biggest flaw of cryptocurrency (one not limited to it), which is attempting a technological fix to a political issue.

  7. vomkammer

    With cryptocurrencies you can make a payment far away bypassing goverment-enforced restrictions.

    This property facilitates transanctions in a way that cannot be matched by cash or convential electronic transfers. Of course, cryptocurrences have many other disadvangtages that make them unsuitable for mainstream usage. But in their niche, they are superior.

    As means to store of value, they fall in the same box than gold, stamps and works of art. That means, the same mindset that buys gold may want to buy bitcoints.

    In addition, during the last decade Bitcoin had the interesting property that its supply was quasi-fixed, but its demand was growing fast with the number of users. This has probably attracted a large group of speculative investors.

  8. Afrikaan

    I don’t know why deciding if something is an investment or not is so hard.

    – If you buy it in the hope that it will pay a dividend or a yield, it’s an investment.

    – If you buy it in the hope the price will rise (or fall, for short sellers), it’s a speculation.

    By these criteria cryptocurrencies are obviously not investments

    1. visitor

      Interestingly, there is no such ambiguity in other languages. In German and French, for instance, bitcoin would be identified as “Anlage” and “placement” resp. (just like the aforementioned stamp collection, or titles in an equity fund), instead of “Investition” and “investissement”. Given the high-risk, casino-like characteristics of bitcoin, it can very well be qualified as “spekulative Anlage” and “placement spéculatif”.

  9. Jim Haygood

    Money has long been defined economically as a medium of exchange, a unit of accounting, and a store of value.

    “Lending of last resort” is a joker that Danielsson has salted into the rhetorical deck like a knockout pill into a date’s drink.

    We are not fooled.

  10. Reini Urban

    He got me at “Fiat money issued by a credible modern central bank is vastly superior to money based on real assets like gold, not least because the supply of fiat money can be adjusted to best serve the economy, rather than be dominated by the production of some natural resource. The volume of cryptocurrency cannot be adjusted in the same way.”

    First, most credible bankers would think this is a hilarious statement.
    Second, cryptocurrency made exactly this point, to be similar to gold.
    So it all comes back to, is modern banking superior to the gold standard. From the gold standard point of view “serving the economy” is only short-term, in the long-term it’s a principle for disaster.

    1. Jim Haygood

      the supply of fiat money can be adjusted to best serve the economy

      This notion is another postwar fantasy from the dawning of the age of scientific management, having nothing to do with medium of exchange (now under attack from crypto), unit of account (‘rubber ruler’ in the case of fiat), and store of value (90 percent lost since 1956).

      Haygood’s Law: economic management via currency manipulation subtracts value.

      1. OpenThePodBayDoorsHAL

        We figured out long ago that price controls and a “managed” top-down command-and-control economy were very very bad ideas.

        Curious that we all of a sudden think it’s somehow a really good approach for the most important price by far in an economy: the price of money.

        OH, no, that’s different, here hold my beer while I wait for the monetary priests to use their Ph.Ds and unbelievably complex formula to divine precisely how fast the economy needs to go right at this instant. If the smoke coming out of the chimney is white it means businesses and people are going to do lots of trade, if it comes out black, then not so much. I heard there was a shipment of live chickens supplied to the Fed building so they could slice open the gizzards, if the liver is brownish it means Ford Motors will launch a new product line, IBM is planning more layoffs, and health care premiums and taxi fares will rise.

        What a farce.

    2. Jon S

      “So it all comes back to, is modern banking superior to the gold standard.”

      I don’t know that it’s really any different. Regular people didn’t transact in gold in the 1800’s. They used bank notes, or some type of letter of credit. The bank notes were essentially bank fiat. They might have $1 million of gold in a vault somewhere, but they also had $10 million of bank notes on the street. So $9 million of that was essentially fiat. They had a 10 – 1 ratio of reserves.

      Banks do the same thing today. The Fed enforces a reserve requirement on banks, only the reserve is fiat itself. Banks still produce most of the “money” in the economy through fractional reserve lending. I’m not sure there is a difference from the man on the street perspective.

      The one value of fiat over gold though is in bank runs. If I ran to exchange my bank notes for gold in the 1800s and the bank had already traded out all of its gold, my money became completely worthless. In a fiat economy, the government can always cover those claims with more fiat.

      1. Wukchumni

        There were no Federal banknotes issued until 1861, and in it’s place were what are now known as ‘broken bank notes’ issued by private banks. All too often they were the basis for fraud. A good read on the subject is “A Nation Of Counterfeiters” by Stephen Mihm, to get you up to speed on the only currency in the USA of the era before the Civil War.

        As an aside in regards to gold, the Continental Currency debacle had so soured the country on issuing paper money, that every last gold coin issued from 1795 to 1838 actually contained more in gold value than stated face value!

  11. Grumpy Engineer

    For fiat money, the central banks are committed to keeping its value stable at a decreasing rate of 2% per year. The major central banks have been quite successful at keeping their tracking error small for a long time.

    I’m not sure I buy this. Inflation rates for the sub-set of consumer goods measured by the BLS have indeed been fairly modest, but that excludes more severe inflation seen elsewhere outside the CPI. For example:

    Housing prices
    Tuition prices
    Health insurance prices
    Stock prices

    So yes, if you go to the grocery store, things aren’t much worse. But if you want a house, an education, health insurance, and some shares of stock to provide dividend income for retirement, they’ve all gotten significantly more expensive. The money to support those higher prices came from somewhere.

    I think that’s part of the emotional appeal of the crypto-currencies. They can’t be over-injected into the economy to help drive non-CPI inflation and asset bubbles. [Unfortunately, they’ve ceased being used as currencies and have effectively become asset bubbles themselves.]

    On the whole, though, I agree with Danielsson’s main conclusion: Crypto-currencies don’t make sense. The finite supply practically begs for severe deflation, and the extreme time and energy requirements for transactions make them unsuitable for routine purchases. Which is the primary purpose of money.

    1. JustAnObserver

      No individual crypto-currency can be over-injected. By design.

      Which is, of course, why there are now so many of them. If you can’t afford a Bitcoin or 3 then just buy into the latest Initial Coin Offering and your future is assured as it takes off into the financial wild blue yonder.

      1. subgenius

        Instantiated mining systems for bitcoin run by the top 3-5 players are actually powerful enough to bring down a majority of the other currencies, if the operators were so motivated. An aspect of the proof of work concept was to make this close to impossible, but the sheer quantity of hardware involved in the mining of the major currencies is enough to dominate the hardware dedicated to the lesser currencies. I expect this to occur at some point, either as a dominance move by big players, or by hackers taking control of a large mine…just because it can be.

          1. subgenius

            I meant cryptocurrencies…there is (as I understand it) an idea that the proof of work model has inbuilt measures to ensure the various mining ops can’t dominate the system, but that the amount of bubble around d bitcoin and etherium has led to such a huge amount of processing power being set up in mines that the majority of the lesser coins would be overwhelmed if the aforementioned mines decided to go on a rampage.

            I will see if I can make time to dig out some material on it. I am not into the crypto scene, but I keep an eye on technology, particularly in general cryptography (rather than currencies) and machine learning fields.

    2. Jim Haygood

      The finite supply practically begs for severe deflation

      Absent a preceding bubble, a finite supply shouldn’t produce a ‘severe deflation.’ Ideally a finite supply needs to be augmented for population growth to preclude periodic mild deflations. But even population growth is slowing.

      Accepting for argument’s sake that crypto-currencies don’t make sense, does this chart of the central bank assets backing fiat currencies (as a percentage of GDP) make sense either?

      1. Grumpy Engineer

        I’ve argued before on this blog that a well-managed fiat currency is the best way to supply an economy with money. Unfortunately, I have never seen a well-managed fiat currency. Your link is ample evidence of the latest mismanagement.

        Indeed, the world’s various central banks have imposed ultra-low interest rates, QE, bond buying, and even stock buying in a futile attempt to improve the economy, but all it’s really done is help fund leveraged buyouts (monopoly formation), stock buybacks, hoarding of real-estate assets, and wildly frothy financial markets that have come to dominate the economy. Income inequality has gone through the roof, while Jane and Joe Average have been left far behind. Heck, I would blame most of today’s lead article ( on currency mismanagement by the central banks.

        So yes, I fully understand the desire for a currency that intrinsically cannot be abused in this manner. But fixed-quantity crypto-currencies aren’t it. At 20 minutes and 350 kWh per transaction, Bitcoin is far too costly to use for routine transactions. And the fixed quantity is definitely a problem, especially since crypto-coins are lost every day to attrition (lost passwords, crashed hard drives, and being tagged as “stolen: do not use”). At 2 million Bitcoins, there are enough for every US citizen to have an average of 0.0070 BC. If it were to be used worldwide as a reserve currency, there is enough for only 0.0002 BC per person. The temptation to hoard Bitcoin is too strong. Deflation would be inevitable.

  12. Rand Wrobel

    I’ll make a few points here that have not been made yet:
    1) Unpack “cryptocurrency”. There are a variety of flavors of these, so making blanket statements generalizes what is now a diverse arena. A) There are tokens which are intended to be simply holders of value/investment, like Bitcoin and Ether. Their value is directly tied to their macrosocial credibility- to the market and what people see as a good investment. B) There are numerous questionable token projects, ranging from outright scams to well-meaning but futile white papers. C) There are serious, well-staffed, well-backed, strong track-record projects (ex. Telegram TON). The technology and strategy of the industry are leap-frogging themselves.
    2) Virtually all token offers (ICO’s) have flaunted US SEC regulations, and/or exclude US investors because of this. Other countries have restricted ICOs, but regulators do see this as the future, and the moves are intended to bring these instruments into line, not kill the industry. The industry is moving to procedures that line up with SEC regulations and legitimize itself (tZero, for example).
    3) Blockchain tech is revolutionary in its security and transparency. Many industries are seeing the advantages of that and moving to it, what has been called “Web 3.0”. Provenance (proving of the history of things), such as for diamonds, and even identity and reputation strongly benefit from such clarity. We are seeing tech to securely put real-world data onto blockchains. As well, token economics allow those investing in a token/network to benefit from mutual work improving the distributed economy, and baking in governance. There is great potential for new forms of economy and business based on distributed autonomous organizations.
    4) What we are seeing to date is *speculation* based on the anticipation of all of this. As with the dot-com boom, people, esp. crypto-billionaires, are taking high risks in order to get a stake in the next big thing. This is the tip of the iceberg. Do not assume the future of tokens will look like its past. You may not see a reason for tokens, they may not line up with your definition of money, but make no mistake – they will be a major part of the future of economic activity. Whether they reinforce the (inequitable) status quo, or usher in a new era of horizontal, distributed, equitable participation in the engines of wealth, remains to be seen.

    1. Mike Smitka

      I don’t care a damn about the provenance of the dollar in my pocket, as long as the people at the local coffee shop smile when I drop it in the tip jar. (Oh, and a dollar coin is much the better, it adds a nice “klang”.) I (and the staff at the coffee shop) don’t need blockchain certification for that.

      Is blockchain certification going to add value to the art on my wall? Many museums wish they could remain ignorant of the ownership history of what’s on theirs! I care not at all as long as I like to look at what’s on mine. (I didn’t buy it with resale in mind, though I admit I am biased toward things I buy directly from the artist/craftsman.)

      So …. do we guarantee provenance, or do we focus on anonymity? I don’t see blockchain overcoming that tension.

  13. ChrisPacific

    Cryptocurrencies permit transactions between untrusted parties without the need to involve a third party as authority to validate the transaction. Blockchain is the same thing but for a broader definition of transaction. So it might be a contract, for example, or agreement on a particular state of affairs.

    The OP did a good job of explaining why they are vastly inferior to other payment systems in most scenarios, so the question becomes how often you need the particular qualities described above.

    To date I have most often seen them in use by:
    1. Conspiracy theorist/tin foil hat anarchist types who believe that authorities of any kind are inherently untrustworthy and the government is spying on everything we do for nefarious ends
    2. Criminals or other illegal or extra-legal actors who have a need to trade securely
    3. Transactions between certifying authorities at the highest tier, who are forced to rely on peer to peer authority because there is nobody ‘above’ them to certify transactions (Ripple is an example of this).

    Generally people in category #1 use them for ideological reasons and people in category #2 and #3 for practical ones.

    I don’t believe they are worthless, as the author apparently does. However I do think that the cases where they actually make sense compared to regular currency is limited to a very small and highly specialized number of niche examples. I think of them as similar to microwaves, which do one thing much better than anything else in your kitchen (namely reheating food quickly) and are generally inferior for everything else. They will find their place, but they aren’t going to take over the world as their advocates believe (when microwaves first came out they were going to spell the end of conventional ovens).

  14. rd

    Many financial products don’t make sense. For example, why was an ETP betting that VIX, the volatility index, would decline in value the biggest, hottest financial news story last week and blew up lots of investors?

    This was an ETP with no inherent value betting on the inverse of a volatility measure that has no inherent value other than as a measurement. Yet it appeared to be a major player swinging hundreds of billions of equity values.

    I believe it was Josh Brown at The Reformed Broker who stated that he had known traders who would bet on which fruit fly would get to a bowl of fruit first. Many financial products are designed for this type of speculation.

    1. Jim Haygood

      More exactly, inverse VIX funds exploit the persistent extreme contango of the VIX futures curve, rather than betting on an outright decline. VIX contango (higher prices the more distant the expiration from today) is inherent since risk of a market shock increases as the term lengthens.

      When the VIX futures curve suddenly and pathologically inverts, riders hanging on to the roof rack get thrown off the bus into the abyss.

      According to a complaint filed with the SEC a couple of days ago, VIX can be easily manipulated with small, strategic transactions in far out of the money S&P index futures. If this allegation is true, a rigged market may have contributed to blowing up inverse VIX funds such as XIV.

      The risk profile of inverse VIX funds resembles that faced by options sellers, who often collect steady income for years owing to time decay, only to be periodically wiped out in extreme market movements.

      It was ever thus, and ever shall be.

    2. Yves Smith Post author

      The product specifically was an ETN.

      Anyone who buys ETNs is asking to have their head handed to then. No one, and I mean no one, should ever buy an ETN. I assume these guys thought it was OK because they were using them for short term speculative activities.

    1. H. Alexander Ivey

      Actually the link is a good, clear description of what money is (spoiler alert: it is a measure of value), and what money is based on: fiat money is based on the power of the backing government, commodity based money, like gold coin or bitcoin, is based on a commodity. So which form of money you prefer depends on which basis you prefer: a government or a commodity.

  15. Robert

    TL;DR Ripple (XRP) has real use case and BTC bashing doesn’t do any credit to your normally excellent articles.

    You mention “efficiency” once in laying out your criteria but I find efficiency addressed only once, literally, and quite briefly, later in the article. Perhaps if you were to direct your quest for enlightenment toward investigating Distributed Ledger Protocol (DLP) you’d find more credible use cases.

    So here comes the pitch. ACH transactions are incredibly slow. In an age where huge amounts of data are transfered seamlessly, even streamed, lossless, and securely around the globe whilst meeting other critical criteria such as repudiation and integrity en route it makes no sense that banks operate on tech 40+ years old. What if a cryptocurrencies (CC) could settle transactions in seconds? What if a CC could handle fiat transfers across borders? What if it could exchange BETWEEN fiat currencies, across borders, AND avoid the opaque exchange rate settlement process(s) often taking 2 or 3 days to adjust for fluctuations in both currencies?

    These are all valid problems though I’ll admit, in the US, particularly on a consumer level, this isn’t a huge issue. If you live in the Eurozone however, your story may be very different. Hell, if you send money to family overseas from the US, you are too familiar with the snail pace processing, fees, and irritating limitations of these types of transactions.

    At the moment, Ripple is capable of solving all these problems. Now, it must be noted there aren’t many CC advocates that comment here. That’s largely to blame for the comment sections amounting to nothing but BTC bashing (congrats on your low-hanging fruit). In fact, only one person has mentioned Ripple so far here. Unlike BTC, Ripple aims integrate with banks and to free up the reported 27 Trillion dollars in Nostro/Vostro (bank’s accounts at other banks).

    I own XRP and am obviously partial but I am actually sold on it as a solid use case. In essence, I think it flies in the face of everything you and most people have said about CCs. Real banks are starting to take notice. Some have changed their tune quite drastically in recent weeks (Chase for one). Moreover, the SEC weighed recently in and soft green-lighted the technology as a whole (pending regulation as a Security and KYC/AML practices).

    Financial Institutions and Governments already have a much more advanced position on this than the average person and, apparently, the people run and frequent this site. In this instance, I think NakedCapitalism has served only to amplify popular opinion which simply is not what the powers that be are discussing at all. If it’s worth writing an article on, than I think you should look into what they are saying rather than confirming what people already believe leaving out the goings-on of the players that matter.

    Lastly, many ground breaking technologies aren’t well received initially. I don’t know why people with no skin in the CC game are so adamant about making bold statements about it’s eminent demise. Such statements are fun to rally behind but they very well might serve to compromise reputations later on.

    1. OpenThePodBayDoorsHAL

      Kind sir, be careful with your analysis of Ripple.
      Its adoption requires banks to provide liquidity, since it is a network of credit instruments (bank gateways) that “represent” balance sheet commitments by banks for selected bank currencies (USD etc).
      Oops: banks globally get 40% of their revenues from payments and 20% from forex. This is why there is no bank liquidity whatsoever on Ripple, after 6 years of trying: they have no interest in seeing that 60% go to 1 or 2%. Which is what Ripple’s pathfinding algorithm can do.
      Result: you can’t use it.
      As for their “native” crypto asset XRP, their latest pitch to banks doesn’t even include it (since no bank wanted to touch it anyway). So absent any demand for it whatsoever you’re left hoping that the Ripple company doesn’t just dump it. Which they can do with a few computer strokes.

      1. Robert

        My comment is mostly directed at justifying CC or at least the tech behind DLP as a very valid use case. Adopting blockchain in banks will happen though, you’d argue it will happen when the banks decide it will I’m guessing.

        I’m sure I could understand the whole process better but I’d argue with what knowledge that I do have that you’ve lumped all banks together under one unified heading. While customers foot the bill mostly for forex and payments (not sure which specific payments you mean), smaller and mid-sized banks also pay a significant portion of those bills. Cutting costs and capturing big bank customers with better tech allows them to be more competitive, offering better services, and possibly upgrade to mid-sized and large banks respectively. At the very least, your brief analysis treats banks as a unified front with a singular goal/fear. This is obviously not true.

        As to banks being the sole providers of liquidity, that idea has been addressed and at least theoretically defeated. The incentives are there for financial institutions and retailers who’d gain XRP at or below retail value as they’d have a hand in how it’s released. As a native currency, they’d get paid in XRP and cash out when it’s to their advantage. They’d reap all the benefits of cross-currency liquidity. There’s a lot more to be said on this subject which I’m not qualified to speak on honestly.

        XCurrent has gained a lot more ground than full XRP adoption but XCurrent still represents blockchain application which supports my claim that the technology itself has real merit. You’re observations are, I think, exaggerated but also some what defeatist. There are banks and then there are banks. Portraying them as a unified and unassailable unit is paramount to giving up hope on anything this blog has ever sought to achieve.

  16. Dan F.

    This does not seem a well-informed post. The risks of storing and using cash are serious – this is why banks and safes exist. Carrying around $500 is risky – this is why credit and debit cards exist. Electronic currency is inherently far safer and far less susceptible to theft than is cash, whatever anecdotal reports there might be of massive cryptocurrency robberies.

    An obvious advantage of the anonymity afforded by some cryptocurrencies is the ability to avoid paying taxes and other similar regulatory regimes. This is a major motivation for using cryptocurrencies, particularly as more and more governments move to limit the use of cash and to tightly control “normal” electronic banking. A few big movers of currency are far more important in this regard than ordinary consumers. The off the books economy is enormous. Consider also the many countries where the indigenous currency is not terribly safe and there have to be used foreign currencies such as dollars or euros. A cryptocurrency can be an attractive alternative in such an environment.

    Also this consideration is particularly relevant for anyone who deals with international transactions, subject to different banking and taxation regimes in various countries, with the substantial overhead that compliance supposes, and the sometimes quite unfair situations that arise.

    Regular electronic banking requires working with banks, which are some of the most corrupt, abusive institutions known to man. Cryptocurrencies requires transacting with ordinary criminals of a much lower caliber and with considerably less protection from the state.

    I’m not using cryptocurrencies because I’m an ordinary civil servant and the government takes its taxes from me before it pays me, but consumers like me aren’t what drive the financial system.

    1. Rates

      The first paragraph made me think about Japan. Carrying 500 USD will NEVER be risky in Japan. And the later is a cash based society. Heck, if I left 100K in a park in Tokyo, and my contact is known, the chances are super high (almost 100%) someone will hunt me down with the cash intact. Not saying 100% of Japanese are honest, but they can generally be depended on not to pull this kind of thing.

      The only thing that Crypto makes me think about is how this won’t be the last “solution” to the so called “human beings are generally shitty” problem.

  17. ebbflows

    From an acquaintance….

    Questions to ask your friendly bitcoin exchange manager:
    If I were to buy some bit”coin” stock:
    – what would be my exposure to the yield curve?
    – Can I buy a bitcoin hedge through you even though you are not selling financial products?
    – when can I expect my quarterly bitcoin cash flow report?
    – Will my bitcoin earnings grow broadly in line with nominal GDP?
    – Is there a reinvestment plan so I can reinvest my bitcoin earnings?
    – how will I retire in 2 years if there are no earnings?

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