Bitcoin and the Transition to Money

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Money  came into existence as a phenomenon of a progressing market economy. The market does not require a government or any sort of State entity to forcefully impose money upon its subjects. It will arise out of pure necessity, as money is essential to the development of the social division of labor. In this article, we will examine the origins of money in order to explain why we currently measure the value of Bitcoin in terms of fiat currency prices, and how the market will evolve so that Bitcoin will attain its own pricing system independent of fiat currency.

The Origin of Money and Rise of Bitcoin

Money is a social construct, which is the result of a market working to expand itself in order to facilitate the division of labor.  This thereby increases productivity and improves the standard of living for the general population.  However, it did not always exist.  For much of human history, markets functioned without “money”.

Before Bitcoin, Cryptocurrencies, Fiat, or Gold, There Was Barter

In a pre-money society, goods and service were exchanged in a system that we call “direct exchange.” We could also call this system a barter economy. In this system, rather than purchase a horse for a certain amount of dollars, pounds, etc. we would purchase a horse for a certain quantity of chickens, or any other consumer or producer good. The major flaw in this system is the lack of the occurrence of a double coincidence of wants. In other words, it would be very hard in a barter system to find a person that wants something you have and also has something that you want. However, there is generally one—or even several goods that are valued by everyone in the society. These goods vary from community to community, depending on geographical location, culture, and other conditions. A commonly valued good could be a cow or other livestock, gold and silver, or any number of commodities. Again, it is completely dependent on the society in question. Actors will obtain one of these “objectively” valued commodities that they do not currently want for consumption, and then trade that commodity, rather than consume it, for the good that they do presently desire to consume. This phenomenon is known as indirect exchange. We buy something we don’t want to consume in order to trade it for something that we do consume. A vegetarian may trade away something for a cow even if he or she has no desire to eat the cow because he or she can then trade the cow for a basket of vegetable that they do want to eat. A commodity that becomes the object of indirect exchange can be called a medium of exchange.

The Medium of Exchange Evolves Into Money

After this system of indirect exchange has been established, money will generally come into existence. Money will be the medium of exchange that has the most highly valued exchange value within the society in question. We can call common value the objective exchange value. The money must be the medium of exchange with the highest exchange value because it must be generally accepted in order to properly function as a money. Simply put, the medium of exchange that will become money will be the most saleable good:

“Even if the armorer is already sufficiently provided with cattle for his direct requirements, he would be acting very uneconomically if he did not give his armor for a number of additional cattle. By so doing, he is of course not exchanging his commodities for consumption goods… but only for goods that also have commodity-character to him. But for his less saleable commodities he is obtaining others of greater marketability. Possession of these more saleable goods clearly multiplies his chances of finding persons on the market who will offer to sell him the goods that he needs”.

                                                       -Carl Menger, Principles of Economics

Once money has been established in this society, the division of labor is now capable of becoming even more specialized, thereby increasing productivity and raising the standard of living for everyone in the community.  Bitcoin has evolved from this process as the next step in money, as it’s efficiency far exceeds it’s predecessors.  However, the value of this is the subject of much debate.

Bitcoin’s Use-Value and the Regression Theorem

There is much debate on whether or not Bitcoin can become a money due to the Misesian Regression theorem and Bitcoin’s apparent lack of a non-monetary, use value. However, there is no room for that debate in this article. All that will be said here is that there are three possibilities that could answer the Regression Theorem question:

  1. The Regression Theorem is wrong, and Bitcoin’s value arose in some other fashion
  2. Bitcoin is already a medium of exchange, and is becoming more widely accepted every day. Therefore, Bitcoin must have had a use value at some point in its early history.
  3. Once the concept of money has been established in a society, a use-value is not necessarily required for an object to become money.

 

How Bitcoin Became a Medium of Exchange

At this point in time, Bitcoin is considered by most to be a medium of exchange rather than money. The difference between money and a medium of exchange is merely a quantitative one. A medium of exchange becomes money when it is “generally accepted” by the population. Here the problem becomes evident. At what point does Bitcoin, another digital currency, or any other medium of exchange become “generally accepted?” This question is extremely difficult, if not impossible, to answer. Since we cannot establish a concrete number to distinguish the quantitative difference between money and a medium of exchange, we will use the two words interchangeably in the remainder of this article, for the sake of convenience. To determine the point at which Bitcoin became a medium of exchange, we must look at the currency’s historical timeline. By doing this, we can determine that Bitcoin became a medium of exchange upon its first transaction, which occurred in block 170. However, for this article, we will consider Bitcoin’s beginnings as a medium of exchange at the famous pizza transaction, where laszlo purchased $25 worth of pizza for 10,000 BTC. We will use this event as the starting point for Bitcoins exchange value, rather than the very first transaction, because it marks the point at which Bitcoin became inextricably linked to fiat money by being used to purchase a substantial consumer’s good in a place that only accepted fiat money. 10000 Bitcoins Paid For a Pizza On Bitcointalk At this point, Bitcoin became as saleable as a fiat money. This saleability did not make it a money, however; We must remember that a money must be generally accepted. This event simply made Bitcoin saleable in the real world. Even after this first major transaction, the currency was not accepted by many physical merchants. In November of 2010, several months after the pizza transaction, Bitcoin’s price reached $0.50. In February of 2011, Bitcoin reached parity with the US Dollar. After this point, not only had Bitcoin become a medium of exchange in the physical world, but it also was just as valuable as the Dollar, even if not as widely accepted.

Bitcoin Prices in Dollar Terms

Currently, when making purchases with Bitcoin, we have to calculate the Bitcoin price of a good because the item is priced in terms of the Dollar, or other fiat currencies. We see this happening mostly because fiat currency is much more widely accepted than Bitcoin, thereby making it much more convenient to list prices in terms of fiat money. Anyone buying with Bitcoin will just have to make the conversion themselves. It’s just like calculating prices in terms of foreign currency. In Japan, for example, an American has no concept of what one Yen can buy. When the American sees a product in terms of Yen, he or she must convert the Yen price to a Dollar price in order to make sense of the value of the good in question. The individual in question does not accept Yen as money, the individual values the Dollar as money. For that reason, there is a psychological barrier separating the individual’s valuation of the good in terms of Dollars and Yen. The same is true for Bitcoin.

Bitcoin’s Future: How Bitcoin Can Transcend Fiat Prices

Bitcoin’s future relies on it’s acceptance becoming extremely widespread.  Bitcoin will become widely accepted for one of two reasons:

  1. The fiat monetary system collapses
  2. People simply decide that they want to use Bitcoin as a money rather than fiat currency

In both cases, a transition from government fiat money to Bitcoin will occur. This transition will bring about the denotation of prices in terms of Bitcoin rather than fiat currency.

Bitcoin for Pricing, Directly?  How?

It is really a very simple transition. As Bitcoin becomes more widely accepted, people will begin to cease their acceptance of fiat money, or at least not value it over Bitcoin. As this transition progresses, it will become increasingly difficult to comprehend the value of a good in terms of dollars, pounds, etc. simply because people will no longer value those currencies. For that reason, merchants will have to mark the prices of their items in terms of Bitcoin.

What Bitcoin Price Will Be Assigned to Goods? How Will Merchants Decide That?

We use the exchange rate, like we would now when purchasing items, except in reverse. For example, if 1 btc= $1, then everything that used to cost $1 will now cost 1 btc. After this initial establishment of Bitcoin prices has occurred, the market will take over and prices will fluctuate concomitantly with the purchasing power of Bitcoin, which will fluctuate for various reasons. At this point, Bitcoin will have become a money just like the Dollar. This explanation has been only a theoretical one. This price transition is of course dependent on Bitcoin actually replacing fiat currency as money. Economics can in no way predict whether or not this replacement will occur. We can only hope that it will, for Bitcoin will provide us with a much more efficient means of payment and will usher in a new era of economic liberty.

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