Why Bitcoin Is Not Even An Economic Good, Much Less Money Or A Medium of Exchange.

1. Bitcoin’s Fatal Flaws.
There has never been anything quite like bitcoin. The mania has died down somewhat, ever since the biggest bitcoin exchange, mtgox.com, closed down, but bitcoin is still selling for about $400 a coin.

We have written many times about why bitcoin violates the regression theorem, about why it violates Their’s Law, why it violates Gresham’s Law, about how all money similar to bitcoin has died a painful death, and why it has died. But not only does bitcoin have all those problems, is has an even more basic problem. Bitcoin is not even an economic good.

2. What is an economic good?
What is an economic good? It’s the opposite of what wikipedia calls a free good. Here’s wikipedia on goods:

Some things are useful, but not scarce enough to have monetary value, such as the Earth’s atmosphere. These are referred to as ‘free goods‘.

Of course, bitcoin is not free in the sense that you can get them for free. But in the technical sense of “free”, what Mises described as “not an economic good”, they are not free, as we will prove. And they are not “scarce” either. True, there are only ten million bitcoins for six billion people, but the way the word is used in deciding whether something is or is not an economic good, they are not scarce, as we will prove.

3. The Idea Is Explicit in Human Action.
Allow me to quote an intricate piece of reasoning from Human Action, Chapter 7, Section 2. Mises there is in the middle of a subtle argument, deriving the Law of Diminishing Returns from sheer logic.

He is talking about a product P, which requires two inputs, B and C, to be produced. He discusses what would be the situation if any amount of B were enough to produce P [emphases mine]:

…if it were possible to compensate any decrease in B by a corresponding increase in C in such a way that P remains unchanged, the physical power of production proper to B would be unlimited and B would not be considered as scarce and as an economic good. It would be of no importance for acting man whether the supply of B available were greater or smaller. Even an infinitesimal quantity of B would be sufficient for the production of any quantity of P, provided the supply of C is large enough. On the other hand, an increase in the quantity of B available could not increase the output of P if the supply of C does not increase. The total return of the process would be imputed to C; B could not be an economic good.

A thing rendering such unlimited services is, for instance, the knowledge of the causal relation implied. The formula, the recipe, that teaches us how to prepare coffee, provided it is known, renders unlimited services. It does not lose anything from its capacity to produce however often it is used; its productive power is inexhaustible; it is therefore not an economic good. Acting man is never faced with a situation in which he must choose between the use-value of a known formula and any other useful thing.

A similar argument will show that bitcoin, too, is not an economic good, as we will show right now.

4. How Mises’s Reasoning Applies to Bitcoin.
With bitcoins, B stands for bitcoin, C stands for cash dollars, and P stands for the product you want to buy with the bitcoins. The argument goes through word for word.

Let’s spell it out with a simple example.

Say a watch costs $400 on Overstock.com, a site that accepts payment in bitcoin. And say bitcoins go for $400 each at Bitstamp, currently the largest bitcoin exchange. To pay for the watch in bitcoins, a person will buy one bitcoin, transfer it to Overstock, and get his watch.

The next day, the price of bitcoin doubles to $800. How will a person pay for it in bitcoin? He will buy only half a bitcoin this time, transfer it to Overstock, and get his watch.

So the buyers of bitcoins are not hampered in the least getting that watch when the price of bitcoin rises. They spend $400 on that watch no matter what the selling price of bitcoin. In other words, to get Product P [the watch], any amount of B [bitcoin] will do, as long as you have the same amount of C [cash dollars].

In short, any amount of bitcoin gets the job done, exactly like Item B in Mises’s analysis. Which means bitcoins are not scarce, in the technical sense. If the amount of bitcoins was reduced to half of what it is, or a tenth, or a millionth, commerce would not suffer at all. People would be able to buy the watch at Overstock.com with the same ease, at the same price, as before. It won’t be the same bitcoin price, but that doesn’t matter. If Jones had to work 20 hours to afford a watch when there were 10 million bitcoins, he will have those very same forty hours if there are five bitcoins, or even zero bitcoins, in existence.

Thus, just like Item B that Mises wrote about, Bitcoin is not “scarce” in the technical sense used by economists, and thus it is not an economic good. So if it is not scarce, and not an economic good, then of course it cannot possibly be a money or a medium of exchange.

5.Possible Objections.
Some may ask, can’t you make the same argument when buying something overseas, say a Swiss watch in Switzerland? You have to exchange your dollars for Swiss Francs, say, but they are only a catalyst. No matter what the exchange rate for Dollars to Swiss Francs, you will get the watch for the same $400. Nobody ever said Swiss Francs are free, did they?

But there is a huge difference. If Swiss Francs double in value against the dollar, that Swiss watch will be twice as expensive, obviously, because it is priced in Swiss Francs. So when Swiss Francs go up in price, you need more of them. But nothing else changes price when bitcoins change price.

Put another way, there is no cost, nothing lost, in using bitcoins, no matter what their price.

Now of course, Mises in Human Action was talking about the making of the watch, not about someone buying the watch. But the underlying reasoning is exactly the same.

6. The Summing Up.
By the very first principles of economics, bitcoin is, in the technical sense of the words, a folly, a bubble, a mania. They have happened many times, manias, and bitcoin is the latest.

Don’t forget, dear reader, to look up Bitcoin All in One Place on Dave’s humble blog for more about this mania.