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I've been thinking lately about possible hedges against the collapse of the dollar, and in particular about Bitcoin. Please note that nothing I say here constitutes expert opinion. These are my own inferences and concerns, based on very occasional investigations.
I used to think that gold was a good hedge, until six years ago. The price of gold was rising until the Federal Reserve and the European central banks brought it back down. Apparently, it's been suspected for an awfully long time — and confirmed since 2004 — that they work hard (through covert selling and adjusting interest rates) to keep the price of gold down, in order to protect fiat currencies, and also to protect bullion banks that have been "borrowing" and selling gold (effectively short-selling it).
All right, so screw that. If the dollar sinks and the Fed makes gold sink with it, that's not a hedge.
I looked into Bitcoin last year, and it was looking like a great investment. [A personal aside starts here. If you don't want to see me vent, you can safely skip this paragraph and the following asterisk.] Technical issues kept piling up and preventing me from buying, at least in a manner that felt safe. (There were "give us your banking password" options, but people can and do get their accounts cleaned out by sharing their banking passwords.) I got past most but not all of the issues, which took months.* Then I got sick, and ran out of cope. I figured I'd dive back into it when I felt better. I feel better now. The price was below $4,000 when I was trying to buy it, and is above $16,000 now. Given the amount I was planning to invest, the opportunity I lost represented (what is for me) a very large amount of money.
* This involved changing my (obsolete but very fast) operating system, but there were also server-side problems. CoinBase neglected their increasingly buggy web interface in favor of their app, and I don't trust the security of smart phones. Other bitcoin exchanges allowed me to go through the entire sign-up process before revealing that they don't do business in New York. The shady one that takes credit cards with no proof of identity had higher fees, which I was willing to pay, but then the options for disposable credit cards I looked into (to protect myself from fraud) wound up either having exorbitant fees or being unavailable. I finally got signed up at Coinbase, but they wouldn't let me engage in transactions until I sent a picture of my driver's license — which their system wouldn't accept, for no stated reason.
You'd think I could still get into Bitcoin now, and expect to at least make some money and/or use it as a hedge, right? Not so fast. One of the touted reasons that Bitcoin could conceivably reach $1,000,000 involved estimating its demand as currency, and knowing the hard-coded limits on its supply.
The Bitcoin system as a whole consumes a tremendous amount of energy. (Thanks, Colin!) Much of that is used by Bitcoin mining operations that I expect will taper off as the remaining Bitcoins become too scarce/hard to mine profitably. However: "Number of U.S. households powered for 1 day by the electricity consumed for a single transaction: 7.93" This seems to mean 234 kWh of electricity. The biggest countries seem to have electric rates of 8 to 12 cents per kWh, so we'll call it $23.40 per transaction, a cost that is presumably getting eaten collectively by the bitcoin nodes and exchanges.
I shit you not, I wrote the above before looking up the following. The Recommended Bitcoin Transaction Fee for getting a transaction to happen within the next hour is, as I write this, an amount of Bitcoin worth $23.928. (It'll be more or less depending on what priority/urgency you seek, of course.)
So, what we're looking at is a system that, even aside from environmental costs, is only sustainable as long as people are willing to pay $23.40 transaction fees. The system currently offers $9 to $24 fees. (Well, user-chosen fees, really, but that's the practical range. If you choose too low a fee, your transaction just might not get processed at all: Its priority will be too low, and it might even look like a spam transaction.) With the lower fees, the system as a whole is eating the electric cost, but individual node operators probably don't care, perhaps because most transactions use the higher fees, or because they're making more than enough money by mining Bitcoins. I don't know. (Some exchanges might even just be happy to be taking in money as people continue to buy more than they sell, regardless of sustainability. This would be wonderful for them until there's a run on the bank.)
Still, let's compare these fees to other transaction fees, which (whether absorbed by buyer or seller) often work out to somwhere around 3%. Even if the transaction fees become (or stay) high enough (on average) to cover the electric costs, a 3%, $23.40 average means average transactions have to be (at least) $780 for the fee to stay competitive. For the last few years, average Bitcoin transaction values have mostly been hovering at about 10 bitcoins, which is way more than enough.
However, if Bitcoin becomes a viable currency that you can use for all your everyday transactions, the median transaction is going to be roughly the price of a fast food meal. The only way this is sustainable is if there are enough large transactions to make up for this in the average, and if transaction fees become percentages rather than flat rates so that large transactions can support small ones. (I'm not paying $23 for the privilege of spending $5 at a hardware store.)
The first of those requirements cannot be met, I think. Statistics on wealth in the U.S. show families having a mean net worth of $342,300, and a median of $85,060. That's a 4:1 ratio, and even rich people still have to make small purchases, so the ratio of mean to median transactions in the full economy must be less than that.
The second requirement also seems unlikely: Electricity costs for blockchain nodes are per transaction, not per value. They have no financial incentive (that I know of) to subsidize small transactions at the cost of large ones. (It might also invite users to start gaming the system, for all I know. Arbitrage between subsidized transactions and a credit card with a lucrative reward system might even be possible, but I'm not going to spend the time and energy to figure that out now.)
Between these two concerns, I think the best scenario for Bitcoin's long-term value (though still not great for the environment) is one in which a Bitcoin economy develops for transactions above $800, but people still use cash and credit cards for their day-to-day business. Even this scenario utterly cripples the forecasts that Bitcoin will be used enough to reach $1 million on the strength of its utility as a currency.
This doesn't impugn the other reasons that Bitcoin value might get that high, but it implies (to my mind) that it won't stay that high, if it gets there at all. What we're looking at is people buying into Bitcoin (and thus raising its price) as a means to profit, and as a hedge against the dollar collapsing. Both of these rely on continued general faith in the value of Bitcoin, rather than its actual utility.
So unless I've missed something big (which I might well have! Not an expert, remember?), I'd expect Bitcoin to keep rising (especially as people continue to lose faith in the dollar), get huge, and suddenly crash the moment that a random drop in price scares people enough.
What's "huge"? $20,000? $5 million? I don't know. But it feels like a heck of a gamble now. Like deliberately investing in the early part of a Ponzi scheme (people do that), reaping the reward, and getting out before the whole thing collapses. But the potential "reward" in this case is gigantic, as the scheme is taking a long time to collapse. It still likely has a while to go (especially in light of the looting of the U.S. economy in progress), so there's plenty of money to be made, but please be aware of the risk and don't bet what you cannot afford to lose.
While Bitcoin might still be a decent gamble, I no longer consider it a good long-term hedge. I'd love to find one, so that I don't risk having to spend my entire savings on a loaf of bread in a few years. Any suggestions?
I used to think that gold was a good hedge, until six years ago. The price of gold was rising until the Federal Reserve and the European central banks brought it back down. Apparently, it's been suspected for an awfully long time — and confirmed since 2004 — that they work hard (through covert selling and adjusting interest rates) to keep the price of gold down, in order to protect fiat currencies, and also to protect bullion banks that have been "borrowing" and selling gold (effectively short-selling it).
All right, so screw that. If the dollar sinks and the Fed makes gold sink with it, that's not a hedge.
I looked into Bitcoin last year, and it was looking like a great investment. [A personal aside starts here. If you don't want to see me vent, you can safely skip this paragraph and the following asterisk.] Technical issues kept piling up and preventing me from buying, at least in a manner that felt safe. (There were "give us your banking password" options, but people can and do get their accounts cleaned out by sharing their banking passwords.) I got past most but not all of the issues, which took months.* Then I got sick, and ran out of cope. I figured I'd dive back into it when I felt better. I feel better now. The price was below $4,000 when I was trying to buy it, and is above $16,000 now. Given the amount I was planning to invest, the opportunity I lost represented (what is for me) a very large amount of money.
* This involved changing my (obsolete but very fast) operating system, but there were also server-side problems. CoinBase neglected their increasingly buggy web interface in favor of their app, and I don't trust the security of smart phones. Other bitcoin exchanges allowed me to go through the entire sign-up process before revealing that they don't do business in New York. The shady one that takes credit cards with no proof of identity had higher fees, which I was willing to pay, but then the options for disposable credit cards I looked into (to protect myself from fraud) wound up either having exorbitant fees or being unavailable. I finally got signed up at Coinbase, but they wouldn't let me engage in transactions until I sent a picture of my driver's license — which their system wouldn't accept, for no stated reason.
You'd think I could still get into Bitcoin now, and expect to at least make some money and/or use it as a hedge, right? Not so fast. One of the touted reasons that Bitcoin could conceivably reach $1,000,000 involved estimating its demand as currency, and knowing the hard-coded limits on its supply.
The Bitcoin system as a whole consumes a tremendous amount of energy. (Thanks, Colin!) Much of that is used by Bitcoin mining operations that I expect will taper off as the remaining Bitcoins become too scarce/hard to mine profitably. However: "Number of U.S. households powered for 1 day by the electricity consumed for a single transaction: 7.93" This seems to mean 234 kWh of electricity. The biggest countries seem to have electric rates of 8 to 12 cents per kWh, so we'll call it $23.40 per transaction, a cost that is presumably getting eaten collectively by the bitcoin nodes and exchanges.
I shit you not, I wrote the above before looking up the following. The Recommended Bitcoin Transaction Fee for getting a transaction to happen within the next hour is, as I write this, an amount of Bitcoin worth $23.928. (It'll be more or less depending on what priority/urgency you seek, of course.)
So, what we're looking at is a system that, even aside from environmental costs, is only sustainable as long as people are willing to pay $23.40 transaction fees. The system currently offers $9 to $24 fees. (Well, user-chosen fees, really, but that's the practical range. If you choose too low a fee, your transaction just might not get processed at all: Its priority will be too low, and it might even look like a spam transaction.) With the lower fees, the system as a whole is eating the electric cost, but individual node operators probably don't care, perhaps because most transactions use the higher fees, or because they're making more than enough money by mining Bitcoins. I don't know. (Some exchanges might even just be happy to be taking in money as people continue to buy more than they sell, regardless of sustainability. This would be wonderful for them until there's a run on the bank.)
Still, let's compare these fees to other transaction fees, which (whether absorbed by buyer or seller) often work out to somwhere around 3%. Even if the transaction fees become (or stay) high enough (on average) to cover the electric costs, a 3%, $23.40 average means average transactions have to be (at least) $780 for the fee to stay competitive. For the last few years, average Bitcoin transaction values have mostly been hovering at about 10 bitcoins, which is way more than enough.
However, if Bitcoin becomes a viable currency that you can use for all your everyday transactions, the median transaction is going to be roughly the price of a fast food meal. The only way this is sustainable is if there are enough large transactions to make up for this in the average, and if transaction fees become percentages rather than flat rates so that large transactions can support small ones. (I'm not paying $23 for the privilege of spending $5 at a hardware store.)
The first of those requirements cannot be met, I think. Statistics on wealth in the U.S. show families having a mean net worth of $342,300, and a median of $85,060. That's a 4:1 ratio, and even rich people still have to make small purchases, so the ratio of mean to median transactions in the full economy must be less than that.
The second requirement also seems unlikely: Electricity costs for blockchain nodes are per transaction, not per value. They have no financial incentive (that I know of) to subsidize small transactions at the cost of large ones. (It might also invite users to start gaming the system, for all I know. Arbitrage between subsidized transactions and a credit card with a lucrative reward system might even be possible, but I'm not going to spend the time and energy to figure that out now.)
Between these two concerns, I think the best scenario for Bitcoin's long-term value (though still not great for the environment) is one in which a Bitcoin economy develops for transactions above $800, but people still use cash and credit cards for their day-to-day business. Even this scenario utterly cripples the forecasts that Bitcoin will be used enough to reach $1 million on the strength of its utility as a currency.
This doesn't impugn the other reasons that Bitcoin value might get that high, but it implies (to my mind) that it won't stay that high, if it gets there at all. What we're looking at is people buying into Bitcoin (and thus raising its price) as a means to profit, and as a hedge against the dollar collapsing. Both of these rely on continued general faith in the value of Bitcoin, rather than its actual utility.
So unless I've missed something big (which I might well have! Not an expert, remember?), I'd expect Bitcoin to keep rising (especially as people continue to lose faith in the dollar), get huge, and suddenly crash the moment that a random drop in price scares people enough.
What's "huge"? $20,000? $5 million? I don't know. But it feels like a heck of a gamble now. Like deliberately investing in the early part of a Ponzi scheme (people do that), reaping the reward, and getting out before the whole thing collapses. But the potential "reward" in this case is gigantic, as the scheme is taking a long time to collapse. It still likely has a while to go (especially in light of the looting of the U.S. economy in progress), so there's plenty of money to be made, but please be aware of the risk and don't bet what you cannot afford to lose.
While Bitcoin might still be a decent gamble, I no longer consider it a good long-term hedge. I'd love to find one, so that I don't risk having to spend my entire savings on a loaf of bread in a few years. Any suggestions?
