Bitcoin: The Most Impressive Speculative Bubble In Modern History
In August of 2008, a paper entitled “Bitcoin: A Peer-to-Peer Electronic Cash System” was released on an academic listserve by somebody called “Satoshi Nakamoto.” The paper described an electronic, public system for transferring “value” from one participant to another without a bank or other type of intermediary. The security for clearing these public transactions came from industrial strength cryptography, which effectively makes each bitcoin trade more costly to validate than the last.
After getting the bitcoin party started with a few initial trades, the enigmatic Satoshi disappeared, leaving his creation to expand pretty much on its own. And it has. Without consultants or conferences or government sponsorship, the world of bitcoin has grown exponentially, attracting a growing number of participants and equally vast and growing amounts of computer resources and, in particular, electricity needed to validate each transaction.
The bitcoin adherents are loyal to the cause—“true believers,” to borrow from the famous title of Eric Hoffer’s classic 1951 book. They are attracted by the numerous “benefits” of bitcoin, including the lack of a central authority and the use of a proof of work known as a “block” to add each new transaction to the existing “chain” of previous transactions.
But more than anything else, the bitcoin enthusiasts are attracted by the fact that the value of these tokens, measured in real currencies, has been rising steadily, up for than 1,600 percent in 2018 alone. According to CNBC, one bitcoin was worth about $1,000 in 2013. As of Friday, one bitcoin was worth $17,599. Historically, Edward Balleisen notes in his 2011 book Fraud, “the most powerful means of getting people to view a fraudulent scheme as legitimate is the manufacture upward price movements.”
The reason for the steady increase in the value of bitcoin is pretty simple: a shrinking float. With a limited number of bitcoins available to trade and a growing crowd of speculators entering the deliberately inefficient market, the only direction the “value” of bitcoin can go is up—at least until it doesn’t.
Stripped down to its basic elements, bitcoin is a classical fraud, a form of high-tech gaming that has captured the imagination of millions of greedy and gullible people around the globe. Participants exchange a legal tender dollar or some other real asset, for example, for a share of the limited supply of bitcoins at whatever the current price may be at the time. The participants exchange something for nothing – namely bitcoin, which have no intrinsic value or yield, but which trade over the world of ethernet, outside of the regulated world of banks and financial payments.
Bitcoin is an old fashioned fraud clothed in the new age wonder of technology. Promoting bitcoin is not so much about a new asset class as its is a class of felony, yet civil authorities have so far been unwilling to shut it down. Bitcoin is perhaps the most impressive speculative bubble in modern history and one that will tolerate no contradiction since it gains credibility as the price soars ever higher.
“The world’s social media platforms and financial markets are abuzz about cryptocurrencies and initial coin offerings,” Securities and Exchange Commission Chairman Jay Clayton said this week. “There are tales of fortunes made and dreamed to be made. We are hearing the familiar refrain, ‘this time is different.’”
Although the SEC has begun to regulate offerings on cryptocurrencies in the US, the Commission does not regulate the tokens themselves. From an investment perspective, the only reason to hold bitcoin is the belief that a greater fool will pay more tomorrow than you did today.
But as the crowd pursuing the bitcoin opportunity grows, and the price measured in dollars or euros or yen rises, the ability of responsible observers to convince true believers that they are participating in a vast pretense diminishes. Indeed, the success of bitcoin has generated numerous copycat cryptocurrencies that have been sold in public offerings to equally credulous “investors” around the world in a growing carnival of securities fraud.
When James Dimon, Chairman of JPMorgan Chase, suggested correctly that bitcoin is a fraud, he was quickly shouted down by his own bankers and customers. Some of Wall Street’s largest investors, hedge funds and institutions have taken the speculative plunge. There is even a futures contract on bitcoin that now trades in Chicago!
“Bitcoin is a currency that sort of exists and sort of doesn’t,” writes Matthew Lynn in The Telegraph, “which you are buying not now, but in the future. And where you pay a bit of the money upfront, with the rest on tick. Oh, and you aren’t actually buying the thing itself, assuming it exists that is, but a synthetic derivative of it. So, in effect, you are investing in an imaginary asset, with money that doesn’t exist, in a time and place yet to be determined. What could possibly go wrong?”
Such warnings are widely ignored by bitcoin enthusiasts, who believe that the cryptocurrency heralds a new age of sound money separate from the debt and corruption of the dollar-centric world. If Milton Freidman were alive today, one has to believe that he would at least be fascinated by some of the hard money hype surrounding this pseudo currency. Yet the remarkable thing is that much of the effusive praise for bitcoin that is heard from participants is self-generated flimflam.
Mr. Nakamoto, whoever and wherever he may be, did not espouse a new currency paradigm beyond the technical description in his magnum opus. Nor did Nakamoto mention the derivative buzz word “blockchain,” which has become the favorite plaything of business consultants and hucksters in the corporate world. The participants in this exquisite act of self-deception have constructed a narrative around bitcoin and blockchain that rivals any deliberate fraud scheme going back centuries.
Sad to say, there is little likelihood of bitcoin displacing any of the existing fiat currencies sponsored by governments. First and foremost, the cost of solving the ever-lengthening blocks of cryptographic transactions is prohibitive. The total electricity consumed today by the bitcoin “miners” who validate the transactions (and thereby earn a 25 bitcoin reward) already exceeds the total power consumption of small nations.
The same technology that makes bitcoin secure as a means of exchange also makes it hideously inefficient compared to other payment technologies. But the more serious objection to bitcoin is that it enables criminals and terrorist organizations to move value around the world out of sight of national governments and law enforcement. Some nations that have already banned bitcoin include China, India, Sweden and Vietnam. So far none of the Anglo nations have been willing to prohibit this overt act of criminality – at least not yet.
“At the first serious (and likely coordinated) move by governments to regulate or bank the digital currency, bitcoin’s price will crash to zero,” writes Lawrence Baxter in The Wall Street Journal. “Panicked owners will rush to exit and the bubble will burst. Bitcoin futures and options may just as well be based on pixies and fairies. Nothing will be able to save them. Speculators will depart for the next lunacy, leaving behind the greater fools to wonder where their supposed wealth went and demand that government do something about it.”
Baxter’s final point about greater fools is perhaps the most important. The more savvy participants in the bitcoin racket understand that they are harvesting gains from less astute participants, who will end up the losers in a classic example of a zero sum game. The rising price of bitcoin does not result in an increase in value, but it does allow superior players in this global game of musical chairs to extract value from inferior players.
Fraud, after all, is deliberate deception to secure unfair or unlawful gain. By calling tokens a nouveau currency, the proponents of bitcoin have managed to turn a pretty common form of financial swindle into a trendy method of speculative endeavor that people talk about at holiday cocktail parties. At just about any social situation, you will hear people talking confidently about bitcoin or blockchain or both.
We should all be concerned that few of our leaders in government or finance have the courage to call bitcoin by its right name – the first great financial scam of the 21st Century. But of even greater concern should be the fact that so few people are able to see through the hype and technobabble of the bitcoin believers to what is a pretty rudimentary form of fraud. As Jonathan Swift wrote of Lilliput in “Guliver’s Travels” in 1726:
“They look upon fraud as a greater crime than theft, and therefore seldom fail to punish it with death; for they allege, that care and vigilance, with a very common understanding, may preserve a man’s goods from thieves, but honesty has no defense against superior cunning… where fraud is permitted and connived at, or has no law to punish it, the honest dealer is always undone, and the knave gets the advantage.”
Christopher Whalen is an investment banker and Chairman of Whalen Global Advisors LLC. He is the author of three books, including Ford Men: From Inspiration to Enterprise (2017), and Inflated: How Money and Debt Built the American Dream (2010). He also edits The Institutional Risk Analyst, and appears regularly in such media outlets as CNBC, Bloomberg, Fox News and Business News Network. Follow him on Twitter @rcwhalen.