Why Bitcoin is not always deflationary
Late last Friday, FT Alphaville (ie our reporter) attended an overly long club meeting with Bitcoin blogger and math enthusiast Allen Farrington, which involved many differences in the world’s most famous orange novel financial system aspect.
Although many aspects of the conversation are old-fashioned to readers of this blog, one discussion point touched new areas. It has to do with whether Bitcoin is really a deflationary currency. Our view is that Bitcoin may not be as immune to inflation as many people believe. (But this is not necessarily a bad thing.)
You can catch up with the big brush for discussion through this Farrington wrote very detailed, with many additional benefits of applying mathematics to these ideas.
But for those who don’t want to use the equation to digest 11 minutes of reading, the point is this: In the Bitcoin world, people often forget that it is not just the amount of money that affects inflation, but also the speed.In the Bitcoin economy, there are a lot of pent-up speeds that need to be dealt with, especially because In all these wallets Carrying huge value that never trades (such as Satoshi Nakamoto’s own hiding place).
In the traditional “partial reserve” legal currency world, the circulation speed is a function of the currency multiple, and the currency multiple is basically a function of the speed at which the commercial banking sector reuses or re-lends the basic reserve in the system. This in turn will affect the currency pyramid and the overall money supply. As the large quantitative easing experiment has shown, the broader money supply is not only a function of the central bank’s core liabilities, but also the broader system’s ability to reuse these reserves and convert them into private liabilities.
In the partial reserve system based on fiat currency, you cannot get rid of the currency multiplier effect. If you deposit your wealth in the banking system, someone somewhere will put it into practice by refinancing.
However, this is not the case with Bitcoin. In the super-bitcoin world, you can opt out of the perpetual refinancing cycle. If you want, you can re-lend your savings to earn some extra returns (such as those who want to use the loan as a short-selling mechanism), but in the final analysis this is completely voluntary. At least in theory, the underlying system is completely reserved.
Those who think that a complete reserve system is a better and more stable system will argue that this is a good thing. Maybe it is, it may not be. This is beyond the scope of this article.
Our point is simple: just because a system is fully reserved and all loans are made with the explicit consent of wealth holders, it does not mean that it can withstand inflation.
Bitcoin now looks deflationary. But this is because those who choose not to let their money work efficiently have reduced their capital turnover to zero. The pleasant thing about Bitcoin is that due to the openness of the Bitcoin ledger, we can clearly see how much cash has never been traded in this way.For example, according to To report Provided by Crystal Blockchain, as of July 2020, more than 10 million bitcoins (worth $85 billion at the time) have been accumulated in dormant bitcoin addresses in 2019, and no transactions have been conducted at all.The latest data from bitinfocharts Suggest Of the approximately 18.75 million outstanding bitcoins, approximately 17.8 million bitcoins are currently classified as residing in dormant addresses.
So what does this mean for inflation?
We assume that a structure that cannot lend without explicit consent transfers the risk of “partial reserve” from the bank to the manager of the real economy’s inventory.
This is to ensure that there are always enough goods and services in the economy to satisfy the potential redemption capacity of Bitcoin. If all coins are suddenly mobilized, it is neither practical nor excessively wasteful. The key to real-time inventory management is not to keep surplus or excessive inventory in a standby state. Store owners determine how much inventory they should hold based on historical demand trends, rather than how much money is in circulation or possible.
It stands to reason that in the Bitcoin economy, inventory managers will eventually retain physical goods at a macro level relative to the lack of potential monetary capacity to redeem such goods. Considering how many bitcoins are stored in wallets that almost never trade, failing to do so will lead to inefficient competition and madness in business.
But doing so will undoubtedly increase the system’s vulnerability to external supply shocks, choke points, or other crises that have the ability to prompt Bitcoin depositors to suddenly use the previously fixed Bitcoin reserves and lead to the effective operation of the inventory. Currency that was previously not in circulation may suddenly begin to circulate quickly.
In this case, the only corrective mechanism is that the prices of goods and services denominated in Bitcoin rise sharply in response to unexpected demand, which manifests as sudden and unstable inflation.
Farrington quite reasonably retorted that in the Bitcoin world, there is at least an upper limit to the outbreak of inflation. The impact will be short-lived, until new inventory is online or new excess wealth is created and fixed. In theory, price signals will be very strong and stimulate supply. Inflation may also increase social mobility, as old wealth will be extracted and transferred to those who have the ability to create the new wealth needed by the system.
The question is, is this really completely different from the current system? How high is this inflation?
If Bitcoin transactions are theoretically to achieve maximum speed among all wallets, only supply shocks can trigger widespread inflation. Additional demand, such as due to population growth, can never be met by money creation, which means that the consequence will always be deflation. In other words, any emerging imbalance can only be eliminated by encouraging other parts of the economy to increase savings to make one part of the economy poorer and the other part richer.
In such a world, the Bitcoin economy is unlikely to prevent other parallel currency systems or credit creation to rescue the currency shortage. (Especially if the system is to remain voluntary and non-mandatory, No way system.) Then the currency-induced inflation threat will reappear.
It is possible that regardless of whether it is the Bitcoin world or the fiat currency world, the currency will remain endogenous, expanding or contracting as the basic economy provides its citizens with the necessary goods. This is not to say that Bitcoin does not have unique useful properties. This reporter will certainly accept the view that resistance to censorship is an important quality provided by the monetary system. We believe that if your own currency system is affected by inflation, you are free to choose other harder, stateless currency systems.
However, in the broader context of super-bitcoinization, whether the best attribute of Bitcoin is its resistance to inflation, we are not sure. Inflation does not have to be eliminated from such a world, it is just redefined.