Depletion of the Finite and the Shared Delusion Trap
By: Sebastian Cabaret-Mertel — I.V. Founder, Investor, Analyst
It has often been said that if you are trying to preserve or grow wealth, ‘buy land, they’re not making any more of it.’ While the value of real estate in most of the United States has consistently outpaced rising inflation over the course of the last century, in 2020 there are alternatives to the finite wealth preserving growth assets of old, with a fixed quantity and unalterable attributes; for instance, bitcoin. However, is being a finite asset with a global demand truly enough to warrant being heralded as a life raft for wealth in the sea of uncertainty that is the presently ominous future?
The Shared Delusion of Fiat Money Value:
This year’s unprecedented fiscal events have triggered a great reawakening to a reality which, Adam Smith noted as far back as the 18th Century; namely that “all money is a matter of belief.” For the past 51 years, since the United States parted from the gold standard, the international business community and by extension the world’s citizens have internalized Smith’s words, collectively accepting that through the Bretton Woods Agreement, the US Dollar substantiates and retains a reliable value based on trust alone. This is the collective delusion that society is currently witnessing the unraveling of as the Federal Reserve alters its inflation management policies and continues to print stimulus at the behest of the US government. The long respected norm of an annual inflation cap has changed.
Similarities in price fluctuation of the underlying commodity aside, the traditional ‘goldbug’ belief that the finite availability of gold on Earth substantiates the perceived value of the gold-backed US dollar of 1971 is not so different from the rational of scarcity which underlines the argument for bitcoin as a store of value. It is this element, in concert with collective belief in asset prices ascribed by cryptocurrency market participants, which, has allowed bitcoin to reach its current price.
Corporate Accrual as an Inflation Hedge:
The danger this piece will highlight lies in the unique threat that emerges when entities with considerable buying power begin to amass large holdings of bitcoin with little intent to actively exchange or use the asset. Nowhere is this becoming more evident than in the growing number of firms and commercial entities operating under legal systems they are unquestionably subservient to.
While an individual may elect to acquire and exchange bitcoin via decentralized peer to peer, non-custodial, non-KYC bitcoin exchange protocols like Bisq or Hodl Hodl, the increasing number of companies seeking to accrue significant bitcoin holdings as reserve assets within their own treasuries as an inflation hedge or long term investment follows a prescribed safe route. Companies including MicroStrategy, Square, and the Stone Ridge subsidiary: NYDIG represent just a few such well known entities to have acquired sizable bitcoin holdings, through the traditional KYC gateways lest they become subject to the ire of the IRS and the scorn of their shareholders/investors.
As more bitcoin gets accumulated and held aside by companies and government-beholden entities, independent market participants will naturally begin to recognize that their relatively small holdings have an outsized impact on perceived asset valuation. Even assets capable of being split into 100 million pieces reach a point where the perception of its smaller parts means far less than the whole; just as with grains of sand in a sandbox. There inevitably comes a point where people recognize that the price of bitcoin is grossly inflated due to the meager quantity in circulation relative to the obscenely large total supply.
Putting oil’s consumable nature aside, consider the shift in supply perception which triggered the oil market crash in early 2020 when the reality of commodity availability was recognized. Shareholders in publicly held corporations demand growth and there comes a point where corporate treasuries must be parted with to ensure future profit generation. The point of liquidation: the open market.
The distinctive middle ground between companies, subservient to their local jurisdictions and individual citizens whom as comparatively autonomous market participants serve as formative contributors in society’s governance, is state policy. Identifying the state’s perspective on cryptocurrency is crucial to recognizing its threat to bitcoin’s legitimacy as a store of value and potential role as an inflation hedge.
Growth in Government Involvement:
State interaction with cryptocurrency has taken numerous forms in recent years. Recently, the US Department of Justice seized over 1 billion USD worth of bitcoin linked to activities on the once active Silk Road exchange. In 2016 Russia used bitcoin as payment to conduct malicious activity including the disinformation campaigns aimed at that year’s US presidential election. More recently, the Iranian government has begun using mined bitcoin for the purpose of import funding amid current sanctions.
The state threat to bitcoin’s price stability and legitimacy as a store of wealth however, is exemplified no better than by efforts to bar access to asset exchanges as repeatedly observed for many years in China. Governments may never accrue enough bitcoin to conduct a 50% attack, however, there will come a point where centralized power begins to feel the serious threat to its institutional legitimacy when the currency it issues diminishes in desirability relative to a globally transferable store of value like bitcoin. To expect inaction on the part of states is unrealistic as greater adoption of bitcoin poses a fundamental threat to the recognition of each states’ fiscal authority.
In the past several years, one only needs to look at the internet restricting activities of countries including Iran, Venezuela, China, and even democracies like India to recognize that a reality of guaranteed global access to the bitcoin blockchain remains out of reach. Even with the promise of autonomy-protecting infrastructure like Blockstream’s Satellite project, the prohibitive costs of user-side components ranging in the hundreds to thousands (USD) presents a notable obstacle.
Considering the more readily available loophole of Virtual Private Network (VPN) use, it is far too easy for a government to terminate a VPN provider’s ability to conduct business in their territory on the grounds that they are complicit in enabling illicit cross-border transactions or money laundering. Following an outlawing of bitcoin use, a state could easily prosecute most infractions by identifying VPN subscribers also known to be bitcoin holders based on their wallet’s transaction record and prior purchase history through centralized exchanges with KYC measures in place.
Mass bitcoin liquidity deployments represent another potentially market-destabilizing threat that both private and state actors possess the means to conduct, although in a government initiated scenario the likely core motive would be to delegitimize bitcoin. Even if the shock of a massive bitcoin liquidity deployment by a government was gradually diminished through asset accrual by eager market participants, the resulting fear of follow-up liquidity dumps by any government has the legitimate potential to permanently diminish any semblance of price stability in an already volatile asset class.
The technologically feasible rapid deployment of bitcoin upon markets in a way that would never be possible with a fundamentally similar asset like gold is a differentiating, inherent, and very real market-destabilizing risk that should not be brushed aside as implausible.
The Shared Delusion of Bitcoin’s Value:
It is solely through the shared recognition of bitcoin’s scarcity and more importantly, the belief that bitcoin is valuable, that its use as a store for wealth persists. The key distinction between floated fiat currencies and bitcoin is the contrasting power of the issuer. Fiat is issued by a state capable of enforcing impactful control over people’s lives, whereas bitcoin as a protocol, reliant on centralized web infrastructure, is left with little ability to control the non-virtual outside of incentivizing globally distributed market participants with the luxury of market access. To create a lasting negative communal effect, there need only be enough recognition of sown asset instability in order to cause an exodus of market participants turned off by bitcoin’s exposure to manipulation.
Conclusion:
Between further Congressional stimulus considerations and the Federal Reserve’s delayed response to prevent annual inflation exceeding 2% after the fact, as detailed in the Boulder Board of Governors Meeting earlier this year, it is evident that the ‘great monetary inflation’ that Paul Tudor Jones spoke of earlier in 2020 is here.
Keeping in mind the long term lack of incentive for central governments to tolerate the erosion of fiat currency’s legitimacy as a result of bitcoin proliferation, it stands to reason that it will be the underlying technology of blockchain rather than bitcoin itself that remains as a force for change.
While bitcoin will always have its devout core user base with the current notion of persistent blue skies ahead for the asset, it is increasingly difficult to dismiss the alternative stance that bitcoin may become nothing more than a tech demo and faulty life raft for wealth in the emerging government-mandated great monetary inflation.
Authors Note:
As a longtime proponent of Bitcoin, I admire the underlying principles of the asset and wish for its continued success but these thoughts needed voicing. It’s okay to disagree. Your thoughts are appreciated.
