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Krugman's Baby-Sitting Co-op Explains The Design Flaw At The Heart Of Bitcoin
- Jtsummers 14y agoWell, I just linked to the cited Krugman article. In case anyone else has difficulty with the pkarchive.org link, here's another source: http://www.slate.com/articles/business/the_dismal_science/1998/08/babysitting_the_economy.html http://www.slate.com/articles/business/the_dismal_science/19...
- drcode 14y agoThe mistake in the article is that bitcoins can subdivide AND increase in value. Bitcoins are not going to have liquidity crisis, as much as some people seem to want it to.
- podperson 14y agoIf/when bitcoins ever become an important currency they will have all the same problems as other currencies, and others unique to being bitcoins. E.g. central banks will try to manipulate them, governments will tax and regulate them, and people will speculate on them. Being able to subdivide and increase in value are not attributes unique to bitcoins. Oh, and the article DOES address this exact point.
- drcode 14y ago> Being able to subdivide and increase in value are not attributes unique to bitcoins. I didn't claim that. > Oh, and the article DOES address this exact point. No, they always assume the value of a coin remains constant when discussing subdivision.
- ars 14y ago> No, they always assume the value of a coin remains constant when discussing subdivision. If you assume the value of the coin doesn't remain constant that would cause FAR far worse problems, so there is no need to go there.
- podperson 14y ago> There are some objections to this: for example, that since each bitcoin can be infinitely divided into components, the money supply can keep growing. But that’s not related. If you have a $10 bill and I replace it with ten $1 bills, do you feel richer? This seems to address the point to me. If the supply of dollars is constrained (liquidity trap) then deflation does NOT make people happier.
- drcode 14y agoIf I have ten $1 bills and they are each worth $10 of previous spending power, I would ABSOLUTELY feel richer.
- danmaz74 14y agoThere won't be a liquidity crisis only if all people dealing with bitcoins will accept to lower their prices in response to the deflation of the currency - this would include workers paid with bitcoin. Not very likely. Would you accept to be paid less and less every year (month, week...)?
- drcode 14y ago> Would you accept to be paid less and less every year (month, week...) Because they'd be able to buy more and more with that money, obviously.
- ars 14y agoIf everyone changed their prices, and their salary all at once you did nothing at all. You just changed a number - you didn't increase the money supply at all. i.e. the total amount of purchasing power didn't change.
- drcode 14y agoExactly- So the claim that deflation (i.e. decreasing prices) will hurt liquidity is false.
- thyrsus 14y agoThe problem is that they increase in value, to a degree that the individually rational choice is not to spend them "now". The babysitting coop coupons were effectively subdividable as well: participants could have taken the initiative to say "I'll provide two hours of babysitting for an hour coupon" or "I'll provide 15 minutes of babysitting for 1/2 an hour coupon". [Edit, for elaboration] That would be rational when the value of babysitting in the further future (e.g. Valentine's day) exceeds the value of babysitting in the nearer future (e.g, Feb. 11).
- drcode 14y agoIf there had been a liquid, open market for coupons and the coupons could subdivide they would have been fine.
- mpyne 14y agoSubdiving does not increase the overall supply of Bitcoin though. There would be no way in the future to obtain Bitcoin, except by taking it from someone else. Or someone else's hoard, as the case may be. (This is at least briefly touched on in the article) This is also covered in the book "Debt: The First 5000 Years", when gold-standard and silver-standard monarchies had real problems keeping money in circulation due to the effects of merchants' savings and overall finite supply mixed with the large demand for coin in the Orient.
- drcode 14y agoFor liquidity, what matters is that the VALUE of the liquidity is adequate. Whether you're trading full bitcoins or fractions of a bitcoin doesn't matter.
- mpyne 14y agoBut as Bitcoin becomes more scarce won't it also become more valuable? And as it becomes more valuable, won't it be more likely that people refuse to spend it to hold onto that value?
- dmm 14y agoTo me it seems the problem with the Babysitting coop was price fixing. The price of of an hour of babysitting was always 1. If the price of an hour of babysitting was allowed to float you would not have the shortages.
- Jtsummers 14y agoSee the original Krugman article. It goes further into explaining efforts to try and rectify their economy, as well as a general discussion on the principles involved.
- crazygringo 14y agoWell, right. They added more coupons, which fixed the problem. But I don't see how that's significantly different from allowing the price of babysitting to float -- I know doubling the number of coupons isn't exactly the same as making them half as valuable, but it's similar. But since bitcoins simply adjust in value according to market demand, I, as well, don't understand how Krugman's story applies to bitcoin. If everyone thinks bitcoin's value will always go up, because it's deflationary, and everybody hoards -- well not everybody will, right? There must be other factors at hand, surely?
- rayiner 14y agoAllowing the price of baby sitting to float relative to what? It's babysitting all the way down. That's one of the great things about this hypothetical, is that it forces you to think of the underlying barter transactions instead of misleading yourself into treating the currency as having intrinsic value.
- dmm 14y agoThe price of an hour of babysitting on a random day in April is 1 unit. The price of an hour of babysitting on New Years eve is 5 units. On some nights the demand for babysitting is higher. On those nights the price is higher. Does that make sense?
- forgingahead 14y agoIn 1998, Krugman also predicted that "by 2005 or so, it will become clear that the Internet's impact on the economy has been no greater than the fax machine's." http://web.archive.org/web/19980610100009/www.redherring.com/mag/issue55/economics.html http://web.archive.org/web/19980610100009/www.redherring.com...
- squid_ca 14y agoThat has nothing to do with whether he is right or wrong about this issue, though.
- gwern 14y agohttp://www.reddit.com/r/Bitcoin/comments/1bl0jd/in_2011_paul_krugman_said_bitcoin_was_stupid_in/c983uq7 http://www.reddit.com/r/Bitcoin/comments/1bl0jd/in_2011_paul...
- hatu 14y agoFunny how the title of the article is "Why most economists' predictions are wrong." I think he's really out of his element, making more technological than a economical prediction.
- 27182818284 14y agoThe overwhelming main gripe I read not only on HN, but also on business websites is that Bitcoins aren't US dollars. It reminds me of the apocryphal, famous Ford quote, "If I had asked my customers what they wanted they would have said a faster horse."
- hodgesmr 14y agoWatch out. You posted an article on HN that doesn't praise Bitcoin. And, you know, all software developers are also economists. Expect a backlash.
- jl6 14y agoI don't quite buy the analogy. Seems to me that part of the problem was having tokens that could only be exchanged for one thing, and even then at a fixed exchange rate.
- dsr_ 14y agoHere the problem is that bitcoins are illiquid: you can't spend them freely on most goods and services, and you can't get a consistent exchange rate into a liquid currency, and the supply problem means that hoarding is sensible... right up until the crash.
- ph0rque 14y agoCan someone pro-bitcoin provide a counterpoint to the deflationary spiral criticism? I don't have enough of an understanding in economics to think of one.
- 1053r 14y agoThe flaw in the argument is that BitCoin is not (currently) a unit of account (we don't price contracts or goods or services in BTC), and is (nearly) infinitely divisible. So even if 90% (or 99%) of all BTC is being hoarded, the other 10% (or 1%) can be divided up for use in transactions. That much speculations will cause wild gyrations in value and massive short term volatility, but the people using BTC to transact JUST DON'T CARE. I really don't care if I'm buying my $1000 flat screen with 1 BTC or 0.0001 BTC. Neither does the merchant. I bought the BTC, sent it to the merchant, and the merchant sold it so quickly that the value didn't change much, and we are happy. So that's the short term. In the long run, the volatility might decrease as the total market capitalization increases to 10x or 1000x of its current value. Then we can start to think about using it as a unit of account. If we do, we may enter a deflationary spiral, but by then BTC will already be used in an enormous swath of the economy. So I interpret Krugman's argument not so much that BTC CAN'T take over the world, but that it SHOULDN'T take over the world. (I'm not sure if I agree. Many economists have been arguing over this point for decades, and I'm not smart enough to sort it all out.)
- danielweber 14y agoThat's using Bitcoin merely as a payment mechanism, where both the buyer and the seller hold onto it for as short a time as possible.
- mcantelon 14y agoI think Bitcoins role as a store of value that can be used for payments makes for a pretty good tool. Like gold, except able to have ownership transferred, even in small micropayment-sized portions, without a cost incurred.
- Zigurd 14y agoBitcoin can't be debased. a. That's a bug b. That's a feature They certainly were designed to be that way, and that was intended to be in sharp contrast with the conventional way currency is managed. A more sophisticated argument about bitcoin might go this way: a. Bitcoin provides an alternative that is both a useful experiment and is edifying in a way that may help keep the managers of currency systems honest. b. Bitcoin is like releasing an uncontrolled nanotech experiment into the environment that could turn all our money into grey goo, and governments better put in place measures to prevent and eradicate experiments like this.
- liber8 14y agoThis example always amuses me because Krugman guilelessly puts forth the case for central control while glossing over the results: >>"But eventually the economists prevailed. More coupons were issued, couples became more willing to go out, opportunities to baby-sit multiplied, and everyone was happy. Eventually, of course, the co-op issued too much scrip, leading to different problems ..."<< Of course, these different problems are just ignored. Krugman never seems to want to discuss whether these new problems, entirely caused by centralized control, are worse than the problem the "alert management" intended to solve in the first place. It's what makes his oft-use example so excellent. Here you had, presumably, a small group of highly-educated and, presumably, reasonably intelligent folks who couldn't even manage an economy with 150 homogenous players. And yet, we expect much better results when we introduce billions of players and millions of additional variables.
- andylei 14y agoi think its ironic that you're putting forth the case for unmanaged economies while glossing over the results. i think most economists (including Krugman) would agree that managing an economy is hard, and that oftentimes, the people in charge don't get it right. but that doesn't mean the alternative is better. in this specific case (bitcoin), the alternative to managing the money supply centrally is a fixed supply of money. in an environment where the economy (the gross output of the market) is growing, that leads to deflation. krugman points out that deflation slows down economic activity, possibly catastrophically. do you disagree?
- CleanedStar 14y agoThe economy is already centrally controlled. A few centuries ago, much of the world, even the outer reaches of Europe, had mostly independent, semi-nomadic people living on it - including the land the USA is on. Now the vast majority of people are wage slaves for a very tight group of intermarrying heirs - the Waltons, the Koches, the Sauds, the Mars's, the Johnsons, the Newhouses, the Rockefellers etc. From 1993 to 2008, the US unemployment rate never hit what the current rate is - 7.6% unemployment. Most of those people currently have no control of the economy, or their own lives. The idea that the government's protection of this central racket may lessen is of little concern to most of these unemployed.
- seanalltogether 14y agoIn other words, when people run out of physical goods to trade, they will start trading IOUs, at which point inflation has occurred within your economy whether you intended it to or not.
- trhtrsh 14y agoIs it "inflation" if each new IOU is accompanied by a corresponding unit of production? I thought not, but I am no expert.
- seanalltogether 14y agoYes, because an IOU can be traded after its initial creation, and due to peoples inherent desire to save (hoard) assets theres no guarantee the IOU will ever be cashed in. Inflation occurs because people learn that more IOUs can be issued then are ever cashed in. Economies are naturally structured around this asynchronous trading structure because we want to help each other survive.
- jrs235 14y ago"If you have a $10 bill and I replace it with ten $1 bills, do you feel richer?" Yes, If I split my 10 into 10 ones and if 9 can pay today for something that cost 10 yesterday, I feel richer. This causes folks to save and horde like in Japan. Because its deflationary. It's more difficult to control the masses via monetary policy if things are deflationary... That's why governments try to maintain slight inflation. Comfortable folks don't produce for the government.
- trhtrsh 14y agoIt has nothing to do with "comfortable folks producing for the government" and everything to do with coordinating production and consumption. If everyone produces for 20 years and accumulates money, and there is no inflation for 20 years, and then they all try to retire and spend it, but there is no one to produce, since everyone wants to retire, you get hyperinflation chasing the small amount of available goods. Alternatively you inflate the currency for 20 years, to encourage people to consume their savings as a sustainable pace. Remember: if you spend your inflationary money NOW on durable goods (canned food, wood, whatever), then you can trade those goods for inflated currency later, and not lose any value. But, if you don't spend your money (maybe because there is nothing on the market worth buying), then inflation is the natural correction to bring the money supply into balance with the goods supply.
- snowwrestler 14y agoThe key point is that bitcoin is not actually a currency (like the dollar or euro), it is a commodity (like gold or silver). Thus it will be subject to speculative bubbles and unpredictable swings in value, and the typical holder will not be able to do much about that. Central banks and fiat currency remove the danger of speculative bubbles...or at least, they centralize the danger to a single, publicly controlled entity.
- drcode 14y ago> they centralize the danger to a single, publicly controlled entity. Come to think of it, we should centralize the backbone for the internet in the white house basement, so that we "centralize the danger to a single, publicly controlled entity."
- snowwrestler 14y agoThe core address data of the Internet is in fact centralized on behalf of the U.S. government by ICANN.
- drcode 14y agoFair point.
- pjzedalis 14y agoCoupons are not currency. They were trading coupons of 1 hour babysitting to save from spending real currency on hours of babysitting.
- ars 14y agoOf course a coupon is a currency. What do you thing a currency is? It's a store of value.
- trhtrsh 14y agocurrency is a medium of exchange, a token representing a store of value (durable good) elsewhere. Gold coins are a store of value, since the coin itself can be melted down and used as a good (but these days gold has a pile of speculative bubble on top of it)
- pjzedalis 14y agoJust because something has value does not make it a currency. If that coupon ONLY gets you a reduction in price off something then its a discount. Here is another tidbit that makes it not a currency: coupons are intended to not be redeemed more than once. If only one person can ever use it then it fails at its intention of goods exchange. It's not currency.
- tlrobinson 14y ago"Now, it’s worth noting that this fatal flaw of Bitcoin is not a fatal flaw for all cryptocurrencies or algorithmic currencies. One can imagine a Bitcoin-like currency with a smart algorithmic central bank (indeed, Bitcoin does have an algorithmic central bank–just an economically illiterate one)." It's also worth noting that it's theoretically possible for Bitcoin's "monetary philosophy" to change over time. If a majority of Bitcoin miners, and thus (in theory) the "economic majority" (https://en.bitcoin.it/wiki/Economic_majority https://en.bitcoin.it/wiki/Economic_majority), agree on changes to the system (for example, the rate of mining) everyone can migrate to newer versions of the software that will accept those rules, and those who don't will risk their version of the blockchain not being accepted by the majority of users. One interesting question is what happens if there's a fairly even split between the group that accepts the old and new rules. Would the value of each blockchain be effectively halved?
- wmf 14y agoRealistically, Bitcoiners can't even agree to fix unspendable UTXOs. I can't imagine that they would ever agree to devalue their own holdings.
- bcoates 14y agoWhat is there to fix? Can't a minority client just blackball UTXOs, allowing them to exist in the blockchain but refusing to publish or accept transactions built off them? By definition, a UTXO is not in the history of good money.
- wmf 14y agoThat's a good point. Someone could troll you by spending such an output in a "valid" transaction which you would treat as invalid, but who cares.
- _lex 14y agoHis argument seems to say that the LIQUID supply of bitcoins is shrinking because people are hoarding them. You can make the same argument for stocks or anything else that is traded for cash, but it's wrong. Everybody will have a price that they're willing to sell at - it's the fundamental idea underlying every exchange market.
- kirian 14y agoA slightly related article I read recently about how should we evaluate the claims of people much smarter than ourselves. i.e. in this specific article the example is if Krugman makes some claim about economics should we just accept them as he is probably leagues ahead in terms of knowledge and expierience in the subject. http://theumlaut.com/2013/03/13/paul-krugman-is-brilliant-but-is-he-meta-rational/ http://theumlaut.com/2013/03/13/paul-krugman-is-brilliant-bu...
- unabridged 14y agoWhy is Krugman being thought of as a genius in predicting market trends and pricing assets? He has never proven himself in this way, he does not manage money, he is only rich from book sales. Krugman is just a politician who promotes his own opinion of how the US economy should be handled.
- mrb 14y agoAnother article that gets it wrong. sigh "I’ve also been told that this is only valid if the entire world is on Bitcoin" So far the author is right. The whole world does not run on Bitcoin only, therefore the arguments against Bitcoin do not apply. But here is where he gets it wrong: "but if you think about the world today, that’s not true. There are plenty of currencies out there, and the supply of some of them is too low, and that hurts the people who use that currency. The fact that the dollar exists doesn’t prevent the yen from being too strong." The author does not cite examples of people hurt by a currency when a supply is low, because he is wrong: there are no such examples. I don't know why he cites the Yen. The Japanese economy is not that bad. It is not that great either. But it is doing okay. Therefore if Japan is okay with a deflationary currency, why would not Bitcoin be okay too? Or someone may cite the example of the failure of the gold standard in the US in the 1960s, but it would be incorrect. The gold standard failed because the US Federal Reserve continued to increase notes in circulation, while not replenishing gold reserves, which triggered all sorts of bad consequences, see [1]. By contrast, in Bitcoin it is algorithmically impossible to increase "notes" (coins) in circulation beyond the limit of 21M coins. [1] See http://mises.org/daily/3325 http://mises.org/daily/3325
- pjzedalis 14y agoOne thing that strikes me is the person with the most coupons happens to be the person with the least amount of need for the coupons. Therefore they will never redeem them and eventually everyone runs out. A true currency (and Bitcoin if its a true currency) allows the most avid babysitter to get other things with it instead of what she already has a surplus of.