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The Kickstart Fallacy.

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Intro: So far, no one has found a logical flaw in the regression theorem. And we have shown in the previous article that the regression theorem says that all media of exchange must start off as things with very wide non monetary demand. [We quoted Mises at great length, who says this explicitly.]

We have explained many times why this is so, and the gist is that people need money for a lot of things. And so they will only accept an item as payment for their labors or products if they can get all the various things they need with that item. [That is the whole advantage of using a media of exchange, as opposed to straight barter.]

Otherwise, they will say, “You want to give me a cow for my horse? I don’t need a cow, and I cannot easily find someone who does so I can trade it for something I need.” That’s why the cow will not become a medium of exchange.

The bitcoin crowd is slowly, very slowly, beginning to understand this. Which is why they have a new explanation for why bitcoin can be money, or even is money, they think. And that it is certainly already a medium of exchange, they think.

Yes, they argue. The reg. th. shows that bitcoin cannot possibly be a medium of exchange. But somehow, by some magic we do or don’t understand, it did become a medium of exchange. And now it is thriving all over the world.

And really, that’s all we need. By hook or by crook, bitcoin has been kick-started. And once it is kickstarted, it can now move along by sheer inertia. The snowball has started rolling , and will just keep on rolling and get bigger and bigger. Some even invoke the mystic mantra “network effect” to add weight to this argument.

We have already quoted Mises as saying that a media of exchange has to be almost as widely demanded as money, which literally everyone wants. And certainly bitcoin has not achieved that. Estimates are that there are 100,000 people who own a bitcoin, and 6 billion people in the world. So the percentage of people who own a bitcoin is 1/60,000 of a percent, a number so low my calculator just gave up and called it zero. The same is true in every country. How many Americans own a bitcoin? Divide that by 350 million. What percent is that? Again, close to zero.
Not close at all to “almost everyone”.

But hey, Dave is generous. He will let the bitcoiners have the benefit of the doubt.
Let’s pretend that bitcoin is now so popular that it qualifies as a media of exchange. Is that a short lived madness, like tulipmania, say, or is bitcoin now on a solid foundation, and we have nothing more to worry about? Has bitcoin been kickstarted, and once kicked, can it live forever?

Dave will now show that of course it cannot last. That the kickstart theory is fallacious. And we need look no further than a book by Mises, Money and Credit, to see why.

Mises talks in that book about debasement of the currency. In other words, we are starting with something that has enjoyed the ultimate kickstart, a coin literally worth its weight in gold, because it is gold. Will it now keep its value, once kickstarted, even when it is no longer 100% gold? Not on your life, says Mises:

It may be stated as an assured result of investigation into monetary history that at all times and among all peoples the principal coins have been tendered and accepted, not by tale [= face value] without consideration of their quantity and quality, but only as pieces of metal of specific degrees of weight and fineness. Where coins have been accepted by tale, this has always been in the definite belief that the stamp showed them to be of the usual fineness of their kind and of the correct weight. Where there were no grounds for this assumption, weighing and testing were resorted to again.

Yes, but what if they started out as pure and were then debased? Didn’t the kickstart save them?

Fiscal considerations have led to the promulgation of a theory that attributes to the minting authority the right to regulate the purchasing power of the coinage as it thinks fit. For just as long as the minting of coins has been a government function, governments have tried to fix the weight and content of the coins as they wished. Philip VI of France expressly claimed the right “to mint such money and give it such currency and at such rate as we desire and seems good to us”[11] and all medieval rulers thought and did as he in this matter. Obliging jurists supported them by attempts to discover a philosophical basis for the divine right of kings to debase the coinage and to prove that the true value of the coins was that assigned to them by the ruler of the country.

In other words, debased coins has an even stronger propaganda machine going for it than bitcoins do now. God Himself wants you to respect the kickstart, people were told. And did it work?

Nevertheless, in defiance of all official regulations and prohibitions and fixing of prices and threats of punishment, commercial practice has always insisted that what has to be considered in valuing coins is not their face value but their value as metal. The value of a coin has always been determined, not by the image and superscription it bears nor by the proclamation of the mint and market authorities, but by its metal content. Not every kind of money has been accepted at sight, but only those kinds with a good reputation for weight and fineness.

Devil’s Advocate: Dave, that is only talking about money that was overvalued from the get go. A coin that from its inception was lying about its gold content. But surely a coin that was kickstarted by being 100% gold, and then debased, retained all its value, right?

Let’s ask Mises:

Debasement of the coinage was unable to force commercial practice to attribute to the new and lighter coins the same purchasing power as the old and heavier coins. [14] The value of the coinage fell in proportion to the diminution of its weight and quality.

And he goes on to give several historical examples.

DA: So what happened to the debased coinage, since the kickstart was of no use?

Mises: It got thrown in the garbage and people started using anything else:

Wherever disorganization of the coinage had advanced so far that the presence of a stamp on a piece of metal was no longer any help in determining its actual content, commerce ceased entirely to rely on the official monetary system and created its own system of measuring the precious metals. In large transactions, ingots and trade tokens were used.

And he gives a few examples from history.

Bottom line, a kickstart is totally useless and is but an idle daydream of the bitcoin crowd, as it was of those foolish kings who thought God gave them the right to make money be anything they felt like.

Now Mises wrote his book in Germany in 1912, and his examples are from the old days, the 1300’s to the 1600’s. Has anything changed since then? Is modern America any different?

Of course not. Loyal readers of Dave’s blog already know about the various phony moneys that got kickstarted and died. The Ithaca Hour, the Berkshare, the Allentown Dollar, the Green Mountain Hour, the N.Y. Greenbacks, they all got kickstarted, one of them even lasted 18 years, and they all died. [Notice that these all started with intrinsic value zero, and were being peddled at much higher. So that starting at zero or close to it in intrinsic value doesn’t help any either].

So far, we have shown that in every single case without exception, kickstarting has not helped at all. But we have not explained the theory behind it. Why is kickstarting useless?

Very simple. There is a reverse Gresham’s law that kicks in, Thier’s Law. As Wikipedia explains:

Adam Fergusson pointed out that in 1923 during the great Inflation in the Weimar Republic Gresham’s Law began to work in reverse, since the official money became so worthless that virtually nobody would take it. This was particularly serious since farmers began to hoard food. Accordingly, any currencies backed by any sorts of value became the circulating mediums of exchange.[14] In 2009 Hyperinflation in Zimbabwe began to show similar characteristics.

These examples show that in the absence of effective legal tender laws, Gresham’s Law works in reverse. If given the choice of what money to accept, people will transact with money they believe to be of highest long-term value. However, if not given the choice, and required to accept all money, good and bad, they will tend to keep the money of greater perceived value in their possession, and pass on the bad money to someone else. In short, in the absence of legal tender laws, the seller will not accept anything but money of certain value (good money)…

Artificial enthusiasm, the gullibility of fools, greed, all these things can only get you so far. The bitcoins will pass from hand to hand [once the speculation dies down and bitcoin ceases to rise, so people will begin to dishoard them and actually try to buy stuff] until they reach the hands of the most gullible. He will get stuck with all of them, and that will be the end.

Now some people may argue that the US dollar itself is just paper, and still has value because of the kickstart it got back when it was tied to gold. But I ask you, why is paper a beneficiary of that kickstart but a debased coin with some actual gold in it is not? Only answer: Legal tender laws. You have to pay taxes in dollars, the giant govt bureaucracy wants dollars at every turn, and taxes or confiscates any commodity used as in payment of debts. In the 1300’s govts were not that invasive, and also you could pay taxes with pigs and chickens. And they could not stop people from using good money. Not anymore.

We need look no further than the Somali Shilling. The moment legal tender laws ended, because the govt ceased to exist, the Shilling depreciated by a staggering 67 percent. In fact, for major transactions, it stopped being used altogether. And just like the coins Mises talked about in Money and Credit, it’s now worth a tad more than its value as paper. And the reason is simple. Why take money you think is inferior money when you can take what you think is superior? Personally, I would always insist on gold or silver, but that’s just me.

And the same will happen to bitcoins. All the kickstarts it has gotten so far have not given it a stable value. Foolish people think unstable for bitcoins means “will always go up, except for little bumps here and there.” But the masses of humanity have been burned by various schemes enough times to be conservative. They see the drops in bitcoins, [if they know bitcoins exist at all], not just the rise. To them, volatile means “I may lose all my money. No thank you.”

Why take this volatile thing for which nobody has promised me anything? Why take something for which there is always a fee for using it? Why take something for which there is no guarantee someone will counterfeit it en masse? Yes, they promised, cross their hearts and hope to die, that there is no way to make more, but am I a computer expert? Is the program that creates these bitcoins available for inspection, to make sure I can see there are no tricks? If the NSA can secretly mess with all my emails, why can’t the bitcoin folks mess with all my bitcoins? And if my laptop battery runs dry, I not only am stuck here unable to play WOW, I am also stuck here with no money at all. All my bitcoins are in my laptop.

Bottom line, where there are legal tender laws in place, forcing one to accept dollars in payment, bitcoin has no chance. If the public really sees it as being superior, for all the awesome reasons the bitcoin crowd thinks exist, then by Gresham’s Law it will be driven out of circulation. What the bitcoin crowd should be doing, if they want bitcoin to become accepted, is explain to everyone how inferior it is.

For more about bitcoin: https://smilingdavesblog.wordpress.com/2012/08/03/bitcoin-all-in-one-place/


7 Comments

  1. Harold says:

    I am new to this, so please bear with me if I mak eobvious mistakes. You have explained what Mises thought, but none of that makes him right. No amount of failed currencies proves that regression is the right explanation. It provides one explanation of how money may originate, but that is all. You say the dollar is now sustained by legal tender laws – why should that not be just as good a condition as regression to an intrinsic value? We need either an original value, or sufficiantly powerful Govt. backing, or maybe any number of other conditions that have not yet been applied.

    Your example of the Somali Shilling is interesting. In fact, are not the Balweyn I and Balweyn II examples of actual money that has no regression? They are described as “bad forgeries”, so it seems unlikely that their value was due to mistaking them for original Somali Shillings. It seems their acceptance was due to a general consensus that everyone would treat them as currency.

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  2. Smiling Dave says:

    Thank you for your comment, Harold. I’m having browser trouble, so will be concise.
    The proof of reg th is the chain of logic that supports it. Search here for Bitcoin take a Beating.
    Govt backing legal tender etc do not tell Mr X how many apples he will get in the store for his new dollar. For that he needs intrinsic value.
    The Balewyn are worth only a tiny bit more than their intrinsic value, the value of the paper it is written on. Plus, it is only used for petty cash transactions, as the populace rejected large denominations.

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  3. Harold says:

    I think the chain of logic supports this as a means of starting a currency, but on its own does not preclude other mechanisms from existing as well.

    The Somali Schilling. The current situation is that there are 3 currencies that are used interchangeably, although 2 of them are forgeries, and easily identified as such. The cost of producing the notes is only just below their value – apparently the 500 sh note was discontinued because of this. The currency is reasonably stable and I understand it is used as a means of exchange, or possibly money, for day-to-day transactions, although dollars are used for larger transactions. There seem to be two arguments that undermine regression theorem here. 1) In the early days of use, before inflation, the forged notes were used as a means of exchange day-to-day, even though they were known to be forgeries and regress to nothing. They may have been a doomed currency, but their use would surely fit your definition of “means of exchange”.
    2) Currently they are still used, although they have commodity value. However, the value to the holder is essentially zero as they cannot redeem the commodity value of the note. That is, they would have no interest in holding the note except as a means of exchange.

    After all, it costs something to produce bitcoins in computer time and storage.

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  4. Smiling Dave says:

    What other mechanism will have everyone decide on the same initial purchasing power of a dollar with respect to an apple, and with respect to everything else? Certainly nothing bitcoin does. On the contrary, tell us what mechanism you have in mind.

    1) That they lasted a short time does not contradict the reg. th. Plenty of phony monies with no backing lasted for a while. The Ithaca Hour lasted 18 years somehow. Foolishness does have power to do things in the short term. Tulipmania lasted three whole years. People paid what a skilled craftsman earned in ten years for one tulip. The Somali money started devaluating almost instantly. though it took four years to get to the low of almost intrinsic value.

    2) Commodity value means someone, somewhere, maybe a toilet paper company that recycles old paper, is willing to pay that price for the paper.

    3) Costs of production do not give value to an object. I’ll quote one of my more snarky articles about this:

    “it follows that an object cannot be used as money unless, at the moment when its use as money begins, it already possesses an objective exchange value based on some other use”.

    [Note that Mises, that sly dog, says its value must be based on some other use. Some other use, not on the fact that it costs money to mine bitcoins, or that its costs money to have ethernet to own a bitcoin, or any costs of production nonsense. Use, my friends, use. It must have some other use. That’s what Mises is saying.

    His reason, of course, is that when somebody goes to buy a thing, he could not care less how much it cost to make it. He only cares about the use it has to him. This is basic AE.

    Now some have pointed out that companies have a formula for how much to charge, costs of production plus standard profit margin. But that is not why the customer is willing to pay that price. The price he is willing to pay is based on one thing only, the usefulness to him of the object. The companies’ formula is an estimate and a guess of what they can get away with charging, coupled with what they have to charge to stay in business.

    From https://smilingdavesblog.wordpress.com/2013/04/16/four-valuable-lessons-from-actually-reading-the-regression-theorem/

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  5. Harold says:

    The point about the bitcoin costing money was to check that it was the value to the consumer that counted, not that things had a cost, so thanks for clearing that up. Also I am not arguing that Bitcoin necessarily will be a success, it just seems that the regression theory is not exclusive.

    Take your quote “it follows that an object cannot be used as money unless, at the moment when its use as money begins, it already possesses an objective exchange value based on some other use”. Applying this to the Balweyn, there seems to be a contradiction. The Balweyn was used as money although it had no intrinsic value to the consumer. It was not mistaken for the Shilling, because it was obviously a forgery. The consumer is not interested in the recycling value of the note. Is this enough to disprove regression as the only way something can become a medium of exchange? You have to be able to say either it was not used as money, or it had an intrinsic value to the consumer.

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  6. Smiling Dave says:

    You raise an interesting point about the Balweyn. I see a few possibilities, maybe a combination of these factors explain it.

    1. The Economist says they are not really accepted:

    Abdirashid Duale, boss of Dahabshiil, the largest network of banks in Somalia, says that his staff are trained to distinguish good fakes from the real thing before exchanging them for dollars. Others accept the risk of holding a few fakes as a cost of doing business (shillings are often handed over in thick bundles of 100 notes).

    2. One can also deduce from that article that they are not so obvious a forgery, since you have to be trained to distinguish.

    3. Anything can happen in the short term. One tulip can sell for the price of a skilled craftsman earnings for ten years. And that lasted for three years before people came to their senses.
    Also, anything can happen on a very small scale. I am not sure how wide spread the use of the Balweyn was.

    4. The consumer does not have to be interested in the recycling value. He has to know that someone is, with whom he can easily exchange. The market value as paper does have to equal the full amount of its purchasing power. The fact that people accept it as money adds some value to it above its commodity usefulness. Mises noted this possibility when writing about the reg, th. All he claims is that the market value can never be zero.

    5. If a money is constantly losing purchasing power, it’s hard to say it’s being accepted.

    6. There seems to be a hint in that article that they really had no other option. The old money, I read somewhere [mises daily?], literally crumbles to dust if mishandled. Dollars were scarce. The Economist says they have to wait for the annual goat sale to Saudi Arabia to get new dollars. Now that they have digital money, the Balweyn might be threatened.

    Now one may ask, why not just ditch the reg. thm., instead of looking around for unsure answers? Because the case it presents is so powerful. Why should someone accept a useless thing as money, when there is great doubt anyone else will accept it? I think if I was in Somalia I would definitely reject clear forgeries, for that very reason. How do I know i will be able to spend it?

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  7. Harold says:

    I think there was limited acceptance – particualarly for larger purchases. This may mean that it was not money, but I think it still classes as a means of exchange as I think people did use them for day-to-day activities. Maybe your point 6 nails it – there was no other viable option. This may meant that violations of regression require extraordinary circumstances, or it may be that due to combination of factors it does not violate regression theorem.

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