Satoshi Nakamoto published the Bitcoin paper at the end of October 2008, just six weeks after Lehman Brother collapsed, some important context that I had missed. I can't remember it, but I think there's some famous quote about how everyone has to have some opinion on the French Revolution. Well I think the 2008 Recession is one of those events for this generation. The impact of that long financial collapse is still being felt, and I think Bitcoin is just one more example, considering it was created in the wake of the crisis. The goal of Bitcoin was to create a decentralized currency out of the control of central banks without inflationary pressures and that could be an alternative to currencies made by governments. But Prasad says that Bitcoin has failed in that goal, although the technologies it has spawned may continue to have significant utility.
The blockchain that Bitcoin uses seems like a sort of cycle to me. First, someone initiates a transfer to another "wallet" on the blockchain. Then, that transfer joins the Bitcoin peer-to-peer network, where bitcoin miners, which are usually automated computer programs, will supply the processing power to process the transaction. Miners are incentivized to do this because by mining they can earn their own bitcoin as well as transaction fees paid by transferring individuals to move up the processing line. Then, when the miner successfully mines the bitcoin by solving the proof of work puzzle for the transaction, the transaction "block" is validated, and everyone in the network adds that block to the blockchain. The existence of the new block confirms the transaction, and the miner gets their bitcoins as a reward for independently validating it.
The reward for solving the "puzzles" that the Bitcoin algorithm produces reduces by half every 210,000 blocks, with the last halving taking place in May 2020, when the reward for verifying a transaction by solving a puzzle fell to 6.25 bitcoins each time. About 18.4 million bitcoins have been halved, and current estimates say that all 21 million will be halved by 2140. However, since the reward for halving bitcoins is always decreasing and the value of bitcoins fluctuates, maybe people will no longer find it worth it to keep mining for coins.
The desire to make sure Bitcoin would not be inflationary has made it deflationary in its first years, which has killed Bitcoin's ability to be used as a medium of exchange. Since (1) there are a limited number of bitcoins and the fast majority have already been mined and since (2) there has been a growing base of people interested in owning bitcoins, the price of a bitcoin was consistently rising until recently, meaning that no one wanted to spend their bitcoins. After all it would make no sense to spend what you think will rise in value. This makes it very unlikely that Bitcoin will ever become a major currency. Times for validations have already lengthened significantly over time, so buyers and sellers have started paying fees to move their transactions up in the queue of transactions waiting to be validated by miners and added to the blockchain. What some Cornell researchers have argued is that since the value of validating a transaction is decreasing while the number of transactions is increasing, some transactions may never be validated and posted without paying large transaction fees, which could only be paid by those making even larger transactions. Satoshi Nakamoto anticipated this issue in a blog post in 2010, stating that "in a few decades when the reward gets too small , the transaction fee will become the main compensation for nodes. I'm sure that in 20 years there will either be very large transaction volume or no volume."
Bitcoin also runs into problems due to its decentralized nature. If someone hacks your Bitcoin wallet or otherwise steals from you, you have no one to go to. Out in the real world, it will be a hassle, but you can call your bank when someone steals your credit card and they'll help you out once they verify your identity. There was a crazy case where a chief executive of a Canadian cryptocurrency exchange, Quadriga, died suddenly on a trip, and took to the grave his password to $250 million in investor funds. There was no way to get in without it and no customer service to call to get help. There is a ton of money in Bitcoin that's already been lost because people have forgotten passwords. And that money can never be recovered.
So basically Bitcoin has three problems: first, it cannot maintain a stable value due to speculation by its biggest advocates, second, the transaction validation mechanism can't be scaled up due to immense validation costs, and third, Bitcoin doesn't offer true anonymity. Other coins and tokens have tried to fix these problems, but none has solved all of them and most make some other thing worse.
Central Bank Digital Currency (CBDC)
CBDCs are the official trend within cryptocurrency, where, rather than a private person creating their own currency, real governments create new currencies or digital versions of their preexisting currencies. There are basically three types of CBDCs: e-money, account-based CBDC, and official cryptocurrency. E-money is a simple version of an electronic currency in which the central bank manages a centralized payment system and "wallets" that can be accessed via prepaid cards, smartphones, or other devices. This is basically like Paypal or Venmo. Account-based CBDC goes further and gives individuals and businesses access to central bank accounts as if it were a normal bank, making the central bank more like a retail bank. Other governments use official cryptocurrency, which is a digital currency operating on a permissioned blockchain, validating transactions in a decentralized manner, usually using proof of stake.
One of the very "interesting" things about account-based CBDC is that the government can impose whatever interest rate it wants on your savings, increasing or decreasing the rate to keep your money in the bank or to push you to spend it. I'm sure people would love getting "helicopter drops" of money into their accounts. Not so sure about the other way around. We did a sort of helicopter drop in 2020 with the economic impact payments, however, millions of paper checks were mailed out that never got cashed due to people having moved or other bureaucratic issues. Account-based CBDC could solve this. Another thing that account-based CBDC would "solve" is the problem of people using welfare payments for things the government doesn't want them to spend on. The government could potentially give specific payments to people in a zone hit by a hurricane to buy food. However, I think a policy like that would do a lot more harm than good. Additionally, account-based CBDCs may be seen as so much more trustworthy than banks that the very existence of account-based CBDC could cause more runs on banks in times of financial crisis so that people can put their money in their Federal Reserve Account.
Miscellaneous Facts:
- Large transactions typically are only accepted as final if they are buried six blocks deep in the blockchain to confirm that they are locked in for good. This usually takes about an hour.
- A bitcoin can only be sliced into one hundred million parts, called Satoshis. As I'm typing this, a bitcoin is worth about $30,000, so one Satoshi is three one-hundredths of a penny.
- One researcher has estimated that to validate a single transaction on the Bitcoin network requires energy consumption equal to what the average US household uses in a month.
- It was estimated that in 2012, 80% of Bitcoin transactions were illegal transactions, but that the number had fallen to somewhere between 15% and 40% as it became clear that the transactions were not so anonymous.
- Discount rate: the interest rate the Fed charges to commercial banks on the overnight loans that they need to maintain their required levels of reserves at the Fed.
- Federal funds rate: the interest rate at which depository institutions lend to each other to maintain reserve balances overnight.
- Economic impact payments had failed to reach about 30 million Americans even by July 2020.
- The renminbi accounts for 2% of global payments in SWIFT, falling from a high of 3% in 2015 after a rapid rise from .3% in 2010. Even that low number puts it in fifth place after the dollar, the euro, the yen, and the pound sterling.
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