[Cryptography] On Security Architecture, The Panopticon, And "The Law"

[Robert Christian]

On Dec 30, 2013, at 1:45 PM, John Kelsey <crypto.jmk at gmail.com> wrote:

> Distinguish the different uses of bitcoins.  For buying things online, yeah, there's a demand for bitcoins based on wanting to be able to do online transactions.  To the extent there are transactions that lots of people prefer to do in bitcoins (whether legal or illegal), there will be a certain amount of demand for bitcoins based simply on how many bitcoins are either involved in a transaction right now, or are being held ready to be used for a transaction soon.  But bitcoins are online, and their volatility makes them an awful store of value.  (They can be a speculative investment, but they aren't where you'd want to park your retirement fund on your 60th birthday.) They're too volatile to be a good unit to price things in, too.  
> 
> If bitcoins become a very important way to conduct business online, and they remain as volatile as they are now, I expect people will buy bitcoins only when they need to do an online transaction.  Their actual wealth will be kept in dollars or euros or something.  The inherent traceabiliity of Bitcoin probably creates more demand for holding bitcoins, as well, oddly enough. (You need to go through a laundry or something to get any decent anonymity, which means more latency in your purchases, which means more demand for bitcoins.)  
> 
> I am pretty skeptical that much of the economic theory around monetary inflation or deflation applies very cleanly to bitcoins, given that it's all online, with very low transaction costs, and is likely used only to do specific transactions.  
> 
> —John

>> Here are my sentiments:

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Regarding the liquidity trap concern:
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Here is a worst case scenario:

M2 Monetary Supply is 66 trillion. If it all moved to BitCoin, each coin would be worth 3.1 million dollars.

Math: 66000000000000/21000000 = $3,142,857

One Satoshi is the smallest possible denomination of BitCoin at 0.00000001 of a BitCoin.

If all of M2 moved into BitCoins, each Satoshi would be worth 3142857*0.00000001 = .03, or three cents. And since the M2 supply is increasing at around 6% per year, all else being equal, a Satoshi would reduce to a penny in about 20 years. 

Math: (1.06)^19 = 3

This is simplistic and extreme, but points out that the sheer numbers required to cause concern over the 21 million dollar cap just aren't there for the foreseeable future.

If this isn’t enough to address the deflationary effect , consider that BitCoin is just a single form of Crypto Currency. It’s very plausible that a second alt coin, possibly an inflationary one, will be used in addition to BitCoin. Where BitCoin would serve as more of a store of value, and an alternate coin would serve as every day cash. In fact, this is already being experimented with today.

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Regarding calling it an investment:
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People are trying to make sense of something we’ve never seen before in history. This is a new invention. And it is money by definition. There’s no more “if” when you can use it to purchase goods, gamble, and settle debts. We’re already at this point.

It can be seen as an investment from the perspective of “If I spend US $1,000 on BitCoin today, I might make a 2x return by end of year.” But it’s very short sided trying to compare it to an equity. As mentioned above, it makes more sense to look at in terms of “how much of the overall money supply will be made up of bitcoin?” Today it’s 10 Billion US dollars and growing. That's nothing to scoff at.

Crypto-currency is an invention first and foremost. And at this point we are engaging in an experiment. That’s why it’s risky. We don’t know.

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Regarding calling it a bubble:
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A bubble is “A theory that security prices rise above their true value and will continue to do so until prices go into free fall and the bubble bursts.” 

To call it a bubble means that you must have a tangible grasp on its true value.

Nobody knows what the true value is, but we know that:

- As of this posting, BitCoin exchanges with the US dollar at around $750 per coin.
- You can use it today to buy a grilled cheese sandwich and a haircut in Seattle, and coffee in San Francisco
- You can also use it today to buy computers online, houses, cars, and to bet on sports, play poker, etc.
- As much as Bitcoin can be volatile, it is still very attractive as a store of wealth for citizens of countries whose governments are destroying their local currencies. This is already happening today.

The network affect is already here. People want to use it, and it’s adoption rate is exponential. 

If BitCoin saw only a 1% adoption worldwide, each coin would be valued at $31,000 US dollars. From that perspective, it’s a deal today at $750 per coin.

The point being, you can’t call it a bubble unless you can identify what its value should be. 

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Regarding comparisons to Beanie Babies and Tulips:
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Bitcoin is a currency that is easier and faster to transact on a large scale than anything else in existence. It's not a collectable. This comparison is simply misguided.

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Regarding "It's too complex for the average citizen to understand and secure against getting hacked/swindled":
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Very true today, but today this is less true than it was three years ago. The ecosystem around BitCoin and Crypto-currency in general is growing rapidly, and backed by leading venture capitalists investing in startups, big banks, and big technology companies like IBM. The issues around ease of use will dissolve in a relatively short amount of time. And hacking will always be a problem, just like bank robberies and muggings will always exist. As these issues are diminished over the coming years, we'll see more mainstream adoption.

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What I think the real issues are:
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Issues in the underlying architecture, including the ability to replace existing crypto algorithms, the 51% attack, transaction time as Bitcoin scales, and potential issues with address collision. But these can be solved over time within Bitcoin, or another alt coin.

Political issues like taxation, cross-border exchanges, and central governance. This is the biggest can of worms, but not the type of problem we should call unsolvable. In fact these concepts may very well be reinvented and evolved in a better way. My point here is that just because it doesn't fit into an existing framework doesn't mean it won't work. This is a problem that great inventions commonly encounter, and not a de-facto deal-breaker.

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In summary
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This is a new invention, and directly addresses many issues we have with today's mediums of exchange. It can be compared to many things, but it is not any of them. It's an experiment, and an exciting one at that.

Today it represents .015% of the world's currency. The question we ought to be asking is, what will that number look like in 2014, 2015, and the foreseeable future?
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