National debt Jan 2010 - Sept 2011

Click to enlarge

This graph shows the U.S. national debt from Jan 2010 to Sept 14, 2011. Viewing it with the eye it looks exponential or worse. In fact an exponential regression would suggest that the growth is worse than exponential.

Some people will say that the nominal debt is not important. They will argue that it is the debt to GDP ratio that is important. If we were to compute debt to GDP ratio it would also be increasing. The U.S. economy hasn't grown that much this decade. It is better to consider the nominal debt when considering inflation that eats away at the savings of so many people.

After the bitcoin bubble

So now here we are. Bitcoin after trading below one US dollar for two years is now trading at $5. This rise in the price of bicoin is outstanding. It sure was a rocky road to get to this point.

Much of this rocky road has been due to extreme volatility of bitcoin. This year we have seen the price go up beyond $30 and be somewhat stable at $10 before this most recent drop to $5. Because of this crazy volatility of bitcoin, people may not know what to think or expect. This should not be surprising the future has been unknown for as long as there has been a future.

The question then becomes, what next? I don't think the answer can be known for sure. One could speculate that there are two major factors that will determine this answer. Security of bitcoins, and actual bitcoin to product exchange.

The topic of security has become more important as the price of bitcoin rises. As bitcoin comes into its own, we have read about more security worries. There was news of a virus that would allow theft of bitcoins. There was a significant hack at mtgox. There was an exchange that shut down under strange circumstances. All of these events attack trust in the idea of bitcoin. It should be mentioned that a lot of these security issues have been addressed and appropriate security measures have been taken. I view this as a growing pain, as there is more value to steal more resources will be devoted to stealing. New exclusive bitcoin businesses may be viewed with suspicion. Demonstrated earning of trust is the only cure for this.

I view bitcoin as already successful, as it has helped people trade over the internet. However, if bitcoin is to become a successful competitor to government currencies then it would have to be used on a wide scale, for many products and services. Bitcoin.org keeps a wiki page that is updated with new products and services that are exchanged for bitcoin. This list has been growing steadily all year. An underutilized aspect of bitcoin is employment. Bitcoin is ideal for paying people to do small jobs that can be done remotely. The labor for bitcoin market has been growing, but there is still some growing to do.

Bitcoin Price Deflation

Deflation in the bitcoin economy has been significant in the last month. Prices of goods and services have halved almost across the board. The rapidly changing price of bitcoin has led to challenges for merchants. It has also paved the way for profit for early adopters. We will discuss steps that merchants and customers can take to minimize their risk due to currency exposure.

Merchants who accept bitcoin are in a predicament. If they set a bitcoin price it tends to be out of date within a day or two. The dollar price of the good or service becomes so high so fast that people won't want to buy the product. At the same time merchants are worried about a sudden drop in the price of bitcoin back to former levels, which makes it difficult to lower the price to make up for the increased traditional currency price of bitcoin. These same issues cause problems on the buyer's side.

One way to guard against the rise in the price of bitcoin is to keep some on hand. This goes for merchants as well as consumers. If merchants hold on to bitcoins they accepted as $1 for goods, then they have hedged against a rise in price to $2, and confidently lower their prices guarded against a fall in the price of bitcoin to previous levels. Also consumers that know that they will want to buy products for bitcoins in the future can buy them early also guarding against a rise in the price in the future.

The good news is that as the market cap increases one should expect the percentage change of the price of bitcoin to be less dramatic. If all of a sudden someone decides to spend $100 on bitcoin then they can only buy around 27 bitcoins today while that may have bought 125 bitcoins a month ago. A rising price in bitcoins means that any individual will have less of an effect on the price of bitcoins with any given purchase. This past month we have seen the market cap grow from $5 million to $22 million. Without a dramatic flux in the amount of new users we should see the price be a bit more stable. There is speculation that on Monday night when the difficulty increases there will be a small rise in traditional currency price of bitcoin.

Currency: Response to a comment

This week we will respond to a comment from one of our readers. This is a continuation of the topic: A call for a new currency. Lee's comment was:

It sounds interesting, but have you ever lent money to a friend?
Trust doesn't work very well as a basis for financial transactions.

These are very good points, and other people may share your concerns about the monetary payment system ripple. Well there are three ways that ripple helps mitigate unpaid debts. The first is that debts with companies should be sound. If a steak house is doing business with this alternate currency then it must honor its debts or the access to this currency will be cut off. It would be easier to not be a part of the system than try to cheat it. Also there would be sore customers if the steak house tried to cheat them, and that's bad for business. It's the same principal that ensures that the steak house will not overcharge your credit card. This ensures that the steak house is honest most of the time.

The second check has to do with person to person accounts. If one of your friends is going to cheat you, the only way they can do this is to stop using the account. As long as your friend keeps receiving payments his credit to you may be used to complete a transaction. This means that if your friend is always in debt to you then you can go in and revoke the credit that you extended to him. Later you may make a payment that will use his credit, and this credit that was owed to you is repaid.

The third reason is very simple. If you are worried about someone paying you back then you don't have to extend them any credit. Being selective will help prevent you from having credit that you can’t use. Someday, I imagine that a credit rating will be incorporated into the program. This could simply be a smite button, when a person has been smitten five times in a year then the account could be flagged, and people would know that the account is in bad standing. People whose account is in bad standing will have difficulty receiving credit, and so people will try not to be smitten.

Lee, thanks again for raising this issue.

Why the currency you use does not serve your interests

If you, like most people, use a national currency then you are being swindled. There are two reasons:

1) Ability of a central power to print more of the currency you use.

2) The way the banking industry works.

The first reason harms you by eating away from the purchasing power of your currency. Say there are three people that want to buy a house. The first is willing to pay $145K, the second $150K, and the third $155K. If the first person is given $20K that is fresh off the press then he can raise his bid over $155K to buy the house. The person who was given the newly printed money is able to price the other two people out of the market. The new money raises price of the house at the determent of the other two bidders.

The second reason is that the banks have an undeserved power. Banks make money off of the money they have on deposit. A bank doesn't loan its own money. It loans the money of its depositors. The need for this banking system is supported by the current monetary system. Another monetary system may rely less on banks and therefore interest would be lower.