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Bitcoin Is a Terrible Currency, and Not for the Reason You May Think

December 19th 2017
Full disclosure: I have long positions in several cryptocurrencies including BTC and BCC/BCH

Many online retailers now accept Bitcoin, and it’s rumored that even Amazon may do so next year. However for the foreseeable future Bitcoin will not be a viable currency, and it’s not because of issues around the size, speed, and cost of transactions. It’s because of Macroeconomics 101.

Given the ridiculous/outrageous/pick-your-favorite-hyperbolic-adjective appreciation in Bitcoin’s price over the past several years, it’s effectively experiencing a hyperdeflationary environment, except that the increase in buying power is so extreme and unprecedented that I’m not sure the word hyper does it justice. Even if the price stabilizes in the short term—and it looks like it might—as long as this bull run remains in people’s memory and many still forecast even greater price increases down the road, most will be terrified to lose it buying everyday goods.

No one wants to be the guy who bought two pizzas for 10,000 bitcoins in 2010. The potential FOMO is just too strong.

Central banks try to avoid deflation like the plague because it discourages economic activity and thus perpetuates a vicious cycle of more deflation, i.e. if you know something will be cheaper tomorrow you wait to buy it, and the reduced demand decreases the price further. Bankers instead attempt to manage to a target rate of inflation that is low and predictable.

Illustrating the Point

This is the value of Bitcoin since it became easily available on Coinbase five years ago:

Source: Coinbase

And this is what the value of a practical currency looks like over the same time period:

Source: Board of Governors of the Federal Reserve System (US)

Of course the U.S. dollar has been around for way longer than Bitcoin, and there’s always the chance that the ballooning national debt results in hyperinflation down the road (a problem Bitcoin supposedly won’t face given the hard limit on the total number of coins). However it will be quite some time before Bitcoin—or any cryptocurrency for that matter—can function as a practical currency.

In the meantime it’s a fantastic store of value and has real potential to become a kind of digital gold with minimal friction.

Addendum

What about Bitcoin Cash, which is supposed to at least solve the issues around transaction size, speed, and cost? Well, it was added to Coinbase yesterday and the price has already gone bananas:

Source: Coinbase

Are you going to use it to buy pizza?

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