Saturday, November 03, 2012

ECB Says Bitcoin’s Origin is from the Austrian School

The information age has really began to affect even the state of money.

Digital money outside the ambit of government through the Bitcoin system has been on the rise.

chart from the Economist

The proliferation of Bitcoin has even gotten the attention of the European Central Bank (ECB)

Bitcoin represents a decentralized web based Peer to Peer (P2P) currency system or as defined by 
decentralized digital currency created by the pseudonymous entity Satoshi Nakamoto. It is subdivided into 100-million smaller units called satoshis.

It is the most widely used alternative currency, with the total money supply valued at over 100 million US dollars.

Bitcoin has no central issuer; instead, the peer-to-peer network regulates Bitcoins' balances, transactions and issuance according to consensus in network software. Bitcoins are issued to various nodes that verify transactions through computing power; it is established that there will be a limited and scheduled release of no more than 21 million coins, which will be fully issued by the year 2140.

Internationally, Bitcoins can be exchanged and managed through various websites and software along with physical banknotes and coins.
A short video explaining the bitcoin system below:

While skeptics allude to “anonymity” which comes with the innuendo of “illegal” transactions, as attraction to Bitcoins, the ECB in the following paper counters that the genesis of Bitcoins has been from the framework of the Austrian school of economics

Two influences on the Bitcoin says the ECB (See Virtual Currency Schemes October 2012).

First the Austrian Business Cycle.
The theoretical roots of Bitcoin can be found in the Austrian school of economics and its criticism of the current fiat money system and interventions undertaken by governments and other agencies, which, in their view, result in exacerbated business cycles and massive inflation.

One of the topics upon which the Austrian School of economics, led by Eugen von Böhm-Bawerk, Ludwig von Mises and Friedrich A. Hayek, has focused is business cycles.

In short, according to the Austrian theory, business cycles are the inevitable consequence of monetary interventions in the market, whereby an excessive expansion of bank credit causes an increase in the supply of money through the money creation process in a fractional-reserve banking system, which in turn leads to artificially low interest rates.

In this situation, the entrepreneurs, guided by distorted interest rate signals, embark on overly ambitious investment projects that do not match consumers’ preferences at that time relating to intertemporal consumption (i.e. their decisions regarding near-term and future consumption). Sooner or later, this widespread imbalance can no longer be sustained and leads to a recession, during which firms need to liquidate any failed investment projects and readapt (restructure) their production structures in line with consumers’ intertemporal preferences. As a result, many Austrian School economists call for this process to be  abandoned by abolishing the fractional-reserve banking system and returning to money based on the gold standard, which cannot be easily manipulated by any authority.
Second is the Austrian concept of depoliticization of money through competitive free markets
Another related area in which Austrian economists have been very active is monetary theory.  One of the foremost names in this field is Friedrich A. Hayek. He wrote some very influential publications, such as Denationalisation of Money (1976), in which he posits that governments should not have a monopoly over the issuance of money. He instead suggests that private banks should be allowed to issue non-interest-bearing certificates based on their own registered trademarks. These certificates (i.e. currencies) should be open to competition and would be traded at variable exchange rates. Any currencies able to guarantee a stable purchasing power would eliminate other less stable currencies from the market.

The result of this process of competition and profit maximisation would be a highly efficient monetary system where only stable currencies would coexist.

The following ideas are generally shared by Bitcoin and its supporters:

– They see Bitcoin as a good starting point to end the monopoly central banks have in the issuance of money.

– They strongly criticise the current fractional-reserve banking system whereby banks can extend their credit supply above their actual reserves and, simultaneously, depositors can withdraw their funds in their current accounts at any time.

– The scheme is inspired by the former gold standard.
But Austrians have objected to a complete connection for other theoretical reasons.
Although    the    theoretical    roots    of    the    scheme can   be    found    in    the    Austrian    School of   economics,    Bitcoin    has raised serious   concerns among    some    of    today’s    Austrian    economists.  Their    criticism    covers   two     general     aspects:

a)    Bitcoins     have     no    intrinsic     value    like gold;    they     are   mere     bits    stored    in    a computer; and  

b)    the    system    fails    to   satisfy the    “Misean  Regression   Theorem”,    which explains    that    money    becomes    accepted    not because    of    a   government    decree    or    social convention,  but because    it    has    its    roots    in a    commodity    expressing    a certain    purchasing    power.
The world does not exist in a vacuum.

The information age will provide alternatives not only to capital markets (e.g. P2P Lending and Crowd Funding) but to money as well.

Bitcoin or not, the incumbent political system’s sustained policies of debasement will only accelerate and intensify the search for currency alternatives premised on the burgeoning forces of “decentralization”.

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