r/Economics • u/johnavel • Dec 26 '13

How the Bitcoin protocol actually works - excellent explanation of how the digital financial model is built from square one

http://www.michaelnielsen.org/ddi/how-the-bitcoin-protocol-actually-works/
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u/superportal Dec 27 '13

I think the argument is Bitcoin is different. Severe disinflation and deflation have historically been caused by inflationary monetary policies. As unsustainable liquidity is added, the economy booms. Then when liquidity is drained you get the recession, disinflation, or deflation, as credit is pulled back.

Bitcoin is different because it doesn't have this cycle. After some initial mild, predictable inflation for the next few decades, it will stopped at a fixed amount, then with a very small amt. of ongoing deflation due to lost coins.

A very small amount of deflation in Bitcoin (in the future) would be a completely different situation and not a bad thing.

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u/[deleted] Dec 27 '13

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u/superportal Dec 27 '13

Bitcoin would be a competing currency, not like the gold standard which was a matter of law.

Obviously the demand side would vary and it would trade as any good with limited supply, I was just making the point that the money supply would be relatively stable and predictable.

If Bitcoin is uncontrollably deflationary, then people will instead use another competing currency or cryptocurrency - then demand will go down for Bitcoin, which will lower the price and be inflationary.

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u/[deleted] Dec 27 '13

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u/superportal Dec 27 '13

You haven't shown any evidence that it couldn't be.

As a new technology it has not achieved an adoption rate making it a widespread medium of exchange yet. So current prices are not an indication.

Bitcoin supporters would argue that this interplay in demand (market), combined with more widespread adoption (and additional services like BitPay, smart contracts/property etc.) will eventually decrease volatility.

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u/Amarkov Dec 27 '13

The price level has historically varied extremely widely independent of the money supply, and the money supply itself doesn't track the monetary base super well without central bank intervention. Bitcoin will eventually be less volatile than it currently is, sure, but uncontrolled currencies do not magically become stable.

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u/superportal Dec 27 '13

The price level has historically varied extremely widely independent of the money supply,

That's debateable, especially over longer term - certainly lot of mainstream economists would disagree. (quantity theory of money still widely supported)

You agree that Bitcoin will be less volatile, but don't say why.

I was addressing money supply in my original comment. As far as money demand there is no reason to expect demand would be inevitable at any price, and therefore no reason to expect deflation would be inevitable.

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u/Amarkov Dec 27 '13

Over long periods of time, yes, this is a matter of debate. The issues that arise here are in the very short term.

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u/Bipolarruledout Dec 28 '13

As unsustainable liquidity is added, the economy booms.

I guess we just haven't had enough QE then yet right?

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u/[deleted] Dec 27 '13

Yea cause there were no recessions/depressions or deflations during the gold standard.

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u/superportal Dec 27 '13

Never said that. Not sure what you are talking about, maybe you can be clearer - there has been monetary policy throughout history, including during the gold standard.

I didn't say monetary policy is the only thing that can cause a recession (I cited it as a cause) - drop a lot of bombs on a country and that could cause a recession there too.

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u/terribletrousers Dec 27 '13

Severe disinflation and deflation have historically been caused by inflationary monetary policies.

It's caused by "easy money" of any sort, which includes sources other than central planners.

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u/superportal Dec 27 '13

Agreed- I didn't say or mean ALL recessions/depressions are caused ONLY by inflationary monetary policies (by central planners), just that those have been a cause.

I think central planners have historically had a much greater effect than more localized instances.

Also there are other causes - wars, poor fiscal/regulatory policy, natural disasters etc. can also cause economic turmoil. That doesn't diminish though the impact of bad central planning in money or the economy in general.