Gresham's Law and Bitcoin

Rather suddenly, the state issued fiat currency bolivar lost 99% of its purchasing power.

Gresham's law holds that "bad money drives out good money," meaning that given a choice of currencies (broadly speaking, "money" that serves as a store of value and a means of exchange), people use depreciating "bad" to buy goods and services and hoard "good" money that is appreciating or holding its value.

As this dynamic plays out, eventually there is little "good money" in circulation and the economy suffers accordingly.

Correspondent AK recently submitted an insightful discussion of Gresham's law and bitcoin:

1: Discussions surrounding Bitcoin and Gresham’s law immediately devolve into a debate about historical formulation or wording of Gresham’s law. Gresham’s law includes the notion that one or several currencies must be accepted at a defined value under legal tender law. However, the wider economic phenomenon that “powers” Gresham’s law is a universal phenomenon that is independent of any particular legal or cultural context.

To wit, in economic exchange where the seller will accept two different commodities as payment, the buyer will tend to pay with the commodity that in his own eyes is of inferior or lesser value. When this phenomenon is replicated in a large number of economic exchanges, and in reference to the same two commodities, this results in the “bad” currency driving from circulation the “good” currency, as buyers in the marketplace pay with the inferior or lesser-valued commodity (as viewed from their own point of view), when the seller will accept two different commodities as payment.

2: This phenomenon, which we could refer to as Gresham Effects, is independent of the legal framework operating at any given time. If you will accept as payment milk with an expiration date two days from now or milk with an expiration date ten days from now, I will tend to pay you with the milk with an expiration date two days from now. If many similar exchanges occur in the marketplace, this will result in the “bad milk” driving driving the “good milk” from circulation as market participants routinely offer only the milk expiring in two days in their exchanges.

3: Therefore, if in the marketplace sellers are willing to accept either Bitcoin or fiat currency as payment, the phenomenon Gresham Effects tells us that buyers will offer the commodity they view as inferior or of lesser value in these economic exchanges. If market participants generally view fiat currency units as inferior or as lesser in value than Bitcoin currency units, and if this value judgment is repeated in many economic exchanges, this can be expected to result in the “bad” money (fiat) driving the “good” money (Bitcoin) from circulation.

Since Bitcoin was not in wide circulation to begin with, Gresham Effects in this case has the effect of preventing or suppressing the wide-scale use of Bitcoin as an exchange currency. This situation can be expected to last for as long as sellers are willing to accept either fiat currency or Bitcoin as payment and buyers view Bitcoin currency units as superior or of greater value than fiat currency units. In short, due to Gresham Effects Bitcoin will not become a widely circulating medium of exchange while these conditions persist.

Interpretation: To me, this indicates or implies that Bitcoin’s use case is more as a ‘reserve currency/store of value’ and less as a currency for use in daily transactions. In general, I will not relinquish my Bitcoins in exchange for t-shirts or Snickers bars if the seller will accept either Bitcoin or fiat currency. I will prefer to pay for t-shirts and Snickers bars using fiat currency.

On the other hand, when I want to purchase something and I do not have enough fiat currency to pay for it, in this case I may use my “reserve” currency, Bitcoin. For example, if I want to purchase a house and I only have enough fiat currency for 20% of the price, in this case I may use my reserve currency to pay the other 80%. This example assumes that paying the full price by fiat currency is not an option. If I had enough fiat currency to pay the entire price I would pay by fiat currency.

The significance here is that those who are envisioning a future in which Bitcoin becomes a widely circulating medium of exchange may be envisioning something that is at odds with the laws of economics. Both economic law and empirical evidence seem to indicate that due to Bitcoin’s strictly limited supply, market participants may refrain from offering Bitcoin as payment in daily transactions. Bitcoin may have very important use cases, but its most most important use case may not be a widely circulating medium of exchange.

Thank you, AK. As anyone who follows cryptocurrencies knows, the objections to cryptocurrencies and bitcoin specifically are legion: it's not stable, it can't be trusted, it isn't "real money," etc.

I'd like to illustrate "real money" with a chart of the bolivar, the national currency of Venezuela. Note that until relatively recently the bolivar traded (at least at the official rate) at around 10 bolivars to one U.S. dollar (USD) and around 25 to the USD on the black market (i.e. free market). These exchange rates slowly moved higher, but few expected the bolivar to depreciate to an appalling free-market rate of 100 to one USD.

Rather suddenly, the state issued fiat currency bolivar lost the majority of its purchasing power. This loss of purchasing power, also known as inflation, gathered momentum and is now at hyper-inflationary rates: a few months ago it only took 237,000 bolivars to buy one USD, and now in June it takes 2,800,000 bolivars to buy one USD.

Not to put too fine a point on it, but the Venezuelan citizen who converted all the family's bolivars to bitcoin two years ago (June 2016) would have preserved the purchasing power of their "money." So while the Bank of International Settlements (BIS, which is owned by 60 central banks) is pleased to declare bitcoin untrustworthy and in effect, not "real money," unlike the stable, secure, trustworthy fiat currencies issued by central banks, it pays to reconsider Gresham's law before concluding bitcoin isn't "real money."

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Onward to Stock Market Nirvana... Or Not

Rising wedges tend to lead to declines, so ignore them.

At long last, we have reached the Nirvana of consensus: the stock market is heading to new all-time highs. Even the perma-Bear camp seems to have accepted the inevitability of new all-time highs ahead: The FANG stocks are hitting new highs, the Russell 2000 Small-Cap Index is hitting new highs, and the laggard S&P 500 is sure to catch up to its peers, as it climbs the ladder of higher lows. Once again we've reached the Nirvana of ever-higher stock valuations.

Or not. That troublesome kid watching the naked Emperor ride past in his imaginary finery keeps muttering about rising wedges. Consider the Russell Small-Cap Index (RUT):

The Raging Bull of the FANG stocks, Netflix:

The S&P 500:

And the so-called "fear index," the VIX, reduced to the Nirvana of complacency and supreme confidence:

The Nirvana of January--super-low VIX and an ever-rising stock market-- was disrupted by an unwelcome eruption of reality.

The beaten down VIX traced out a couple of blue wedges before the eruption, but let's ignore them. What matters is order was restored to the Universe by the triumph of complacency and confidence as the VIX was ground down to sub-12 levels again.

Rising wedges tend to lead to declines, so ignore them. Never mind their ubiquity-- Nirvana blasts right through resistance and rising wedges.

The faithless few might be troubled by the similarities of late January to the present, but the faithful have supreme confidence in the Fed, the tremendous bite of the FANGs and the all-powerful forces of greed and complacency--a marriage made in heaven!

Here's a look at the real Nirvana: the income and wealth gains of the top .1%.

Debt-serfs "own" nothing but debt, the Technocrat class shouldering student loans and mortgages keeps the machine running by working themselves to exhaustion, and the speculative class skims virtually all the gains.

Stock market Nirvana feeds wealth/income inequality Nirvana.

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Here We Go Again: Our Double-Bubble Economy

The bubbles in assets are supported by the invisible bubble in greed, euphoria and credulity.

Well, folks, here we go again: we have a double-bubble economy in housing and stocks, and a third difficult-to-chart bubble in greed, euphoria and credulity.

Feast your eyes on Housing Bubble #2, a.k.a. the Echo Bubble:

Here's the S&P 500 stock index (SPX): no bubble here, we're told, just a typical 9-year long Bull Market that has soared from a low in 2009 of 666 to a recent high of 2802 in January of this year:

Here's a view of the same bubble in the Dow Jones Industrial Average (DJIA):

Is anyone actually dumb enough not to recognize these are bubbles? Of course not. Those proclaiming that "these bubbles are not bubbles" know full well they're bubbles, but their livelihoods depend on public denial of this reality.

And so we're inundated with justifications of bubble valuations, neatly bound with statistical mumbo-jumbo: forward earnings (better every day in every way!), P-E expansion, and all the rest of the usual blather that's spewed by status quo commentators and fund managers at the top of every bubble.

The problem with bubbles is they always pop. The market runs out of Greater Fools and/or creditworthy borrowers, and so sellers overwhelm the thinning ranks of buyers.

Those dancing euphorically, expecting the music will never stop, are caught off guard (despite their confidence that they are far too clever to be caught by surprise), and the panic-driven crowd clogs the narrow exit, leaving a ballroom of bag-holders to absorb the losses.

The other problem with bubbles is that we've become dependent on them as props holding up a rotten, corrupt status quo. Since the economy can no longer generate sufficient prosperity to go around via actual increases in productivity and efficiency, those skimming most of the gains rely on "the wealth effect" generated by expanding asset bubbles to create a dreamy illusion of prosperity.

Here's the third consequence of bubbles: the gains flow to the very top of the wealth-power pyramid: there is no other possible output of the bubble, since roughly 80% of all assets are owned by the top tier of households, and the majority of financial assets are owned by the top .1% (one-tenth of one percent).

Since only owners of assets reap gains from asset bubbles, only those who own assets benefit. That leaves out the bottom 90%, and if we're honest with ourselves (now verboten), the bottom 99.9%, despite the heady illusion at the apex of the bubble (i.e. the present housing and stock markets).

The bubbles in assets are supported by the invisible bubble in greed, euphoria and credulity. We believe what we believe will make us rich, what feeds our euphoric confidence that the bubble-music will never stop and our credulity that bubbles which we know will pop will not pop until we've safely cashed out.


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What's Wrong with the Economy: 9 Toxic Dynamics

These nine dynamics are mutually reinforcing.

Beneath the surface signals of an eternally rising stock market and expanding GDP, we all sense something is deeply, systemically wrong with the U.S. economy. These nine structural dynamics generate secondary dynamics, all of which are toxic to social mobility, sustainable prosperity, accountability and democracy:

1. The financialization of the economy, which transformed services, credit, risk and labor into commodities that could be traded globally. Financialization generates enormously asymmetric returns: those with access to low-cost credit, global markets and expertise in finance collect the lion's share of gains in income and wealth.

2. The technological transformation of the economy, which has placed a substantial scarcity premium on specific tech/managerial/communication skills and devalued ordinary labor and capital. As a result, the majority of gains in wealth and income flow to those with the scarce skills and forms of capital, leaving little for ordinary labor and capital.

3. The end of cheap fossil fuels. The fracking boom/bubble has obscured the long-term secular trend: the depletion of cheap-to-access and process oil. As many analysts have observed (Nate Hagens, Gail Tverberg, Richard Heinberg, Chris Martenson et al.), the global economy only grows if energy and credit are both cheap.

4. Globalization, which transformed the developing world into the environmental dumping ground of the wealthy nations and enabled the owners of capital to offshore waste and labor.

5. The destructive consequences of "growth at any cost" are piling up. "Growth" is the one constant of all existing political-economic systems, and none of the current Modes of Production (i.e. the structures that organize production, consumption, the economy and society) recognize that "growth" is not sustainable.

The first two dynamics drive three other dynamics that have hollowed out the productive economy:

6. The dominance of debt-funded speculation as the means of "getting ahead"as opposed to producing products and services of intrinsic value that serve the core needs of communities.

7. The economy's gains in income and wealth are concentrated in the very top of the wealth-power pyramid: the top 5%--entrepreneurs, professionals and technocrats, etc., and within this class, most of the gains go to the top 1/10th of 1% --the existing owners of wealth, and financiers/speculators with access to cheap credit.

The net result is the bottom 95% have few opportunities to "get ahead" outside of gambling in the asset bubbles du jour: the stock and housing market. While the average middle class household may be able to borrow enough to speculate in the housing bubble, two factors limit the odds of success for ordinary investors/gamblers:

A. The gains in housing are concentrated in specific markets; outside these hot markets, gains are modest.

B. Asset bubbles eventually pop, leaving those still owning the assets with losses. The risks are thus intrinsic and high. The average investor/gambler lacks the experience needed to recognize the bubble has stopped expanding and exit the market before ll the other speculators rush for the narrowing exit.

8. The devaluation of ordinary labor and capital means the bottom 60% of the economy that lacks the requisite skills with a scarcity premium in the Emerging Economy have lost easy access to the ladder of social mobility.

9. The concentration of wealth and power in the hands of the self-serving few corrupts the economy and democracy. The U.S. economy is dominated by insider and elite rackets, skims, scams and cartels/quasi-monopolies, all of which corrupt the economy by creating perverse incentives for exploitation and gaming the system to benefit the few at the expense of the many.

This corruption in service of maximizing private/personal gains at the expense of the system itself also corrupts the mechanisms of governance, which are now little more than cloaking devices that protect insiders and elites from scrutiny and consequences.

The 20% above the bottom 60% may appear to have some access to social/economic mobility, but this is largely an artifact of the bubble economy since 2009. Once the bubble deflates, the illusion of social mobility for the "middle class" between the bottom 60% and the upper 20% vanishes.

The "upper middle class" between the bottom 80% and the top 5% is being squeezed by the over-production of elites, i.e. the over-abundance of those with college degrees and the relative scarcity of secure jobs within the top 5%. As a result, credential inflation is rampant, with Masters Degrees replacing Bachelors Degrees as the default for a white-collar job, and PhDs replacing Masters diplomas as the new default for positions that lack security and upward mobility.

In other words, the number of people who qualify for and desire a slot in the elite class (top 5%) far exceeds the number of slots available. As Peter Turchin has explained, this competition generates social disorder at the top of economic heap as the top 20% fight over the few positions open in the top 5%. The disgruntled, frustrated losers far outnumber the relatively few winners.

These nine dynamics are mutually reinforcing, meaning that each dynamic strengthens one or more of the others, reinforcing each other so the sum of the nine is far more powerful than a mere addition might suggest.

The New Aristocracy (the top 9.9%) (The Atlantic)

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The Politics of Pretense: The Status Quo Is the Problem, But It Can't Be Touched

Ultimately, all doomed ruling elites face the same problem: there isn't enough money to fund their take and fuel the vast machinery of power.

The politics of the U.S. boils down to one sustained pretense: politicians win votes by promising to fix problems that are the direct result of our bloated, corrupt, unsustainable Status Quo, yet they fund their campaigns by promising insiders and self-serving elites that they won't touch their Status Quo gravy trains, power and privilege.

This is of course the politics of collapse: by protecting the entrenched, self-serving elites at the top of the wealth-power pyramid, including the political class itself, the political class is condemning the Status Quo to systemic implosion.

The political class is the handmaiden of a Status Quo that is doing everything in its formidable power to fend off any change that threatens its privileged-insiders-plunder. In effect, the political class is doing what's it been paid (via tens of millions of dollars in campaign contributions) to do: protect the Status Quo by any and all means available.

Throughout history, the ruling Status Quo self-destructs by refusing to adapt to changing circumstances. The real world is not static, but those in power are so thoroughly soaked in hubris and the delusions of power that they focus not on painful adaptation but on maximizing and protecting their self-aggrandizement.

Ultimately, all doomed ruling elites face the same problem: there isn't enough money to fund their take and fuel the vast machinery of power. Their solution is always the same: rather than make painful sacrifices to reduce their skim, they "print money" by one means or another: reduce the silver content of coinage, issue paper money, issue "stimulus" via central banks, and so on.

This self-serving mechanism hollows out and corrupts the economy, which consequently becomes increasingly fragile. The system's resilience (its buffers and ability to respond quickly and effectively to crises) erodes to near-zero, and one crisis or another that would have been handled in the past brings down the entire rotten edifice.

Here's the two-party system stripped to its essentials:

Here's our "leadership class" displaying their self-serving "leadership skills":

As the saying goes, follow the money:

Philanthro-crony-capitalism is a favored pretense of self-serving elites: things can go south when the plunder reaches extremes, of course....

So keep this in mind when voting in this year's elections: you'll be promised "change" but real change is impossible because the real priority is preserving a self-serving, corrupt, bloated and unsustainable Status Quo by any means available.

You'll be told what you want to hear: the problems will all be fixed within the existing Status Quo. But the existing Status Quo is the source of the problems.Pretense feeds delusion which guarantees collapse.

As a reminder of how systems become fragile and collapse:

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