Of thieves, value and the bitcoin

On the eve of the Epiphany (Feast of 3 Kings), our house got robbed. Thankfully, not many things were stolen, only some jewelries. The loss of my meaningful trinkets upset me a lot (not to mention the fact that my sense of safety and security were both shaken up). After all, they weren’t only pretty, shiny things- they also held great sentimental value as most of them were gifts. Of course, for the thieves, the only value those jewels have is their monetary value.

For centuries now, men have assigned value on different objects ranging from salt to gold. Those same objects were even used as a means for payment because of the value attached to them. Consensually, society has given value on objects that would otherwise be just “things”. That is why the crooks who broke into our house were tempted to steal my jewelries: to make the most of the accumulated value held by the precious metals and stones.

I suppose that their end game would be to exchange those knicknacks for money, another “value holder”- commonly accepted in exchange for goods and services, and also useful to amass value (although its value could potentially decrease in time, while the value of jewelries could go up).

All of these got me thinking how much the things we hold valuable have changed now. It’s no longer news that digitalisation has allowed for the birth of new tenders and payment methods. Currently, it has become possible for many people to purchase, settle debts and save money without having to use real cash (through credit or debit cards, mobile transactions, e-money or different investment vehicles). Why is that? well, just as is the case with money, all these new means of payment work out because of a consensus. Aside from the convened value they hold, an important part of it also depends upon the public’s willingness to support the value agreed.

The same goes with the biggest frenzy at the moment: the bitcoin. I’ve been trying my best to express my thoughts about it, but I found an article online so I simply decided to translate it and share it with you, dear reader. Please stay tuned for Colorfulifesite’s opinion on this subject.

Note about the article’s author: The original article was written by economist Daniel Villegas of the Mexican National Autonomous University (UNAM) for Dinero En Imagen online news. Mr Villegas was kind enough to give me permission to translate this simple, straight-to-the-point and insightful article so non-Spanish speakers could get a glimpse of his illuminating ideas.

Gracias D. Villegas, ha sido un verdadero placer aprender de su artículo.

I bought bitcoin and I realized why it could be the start of a great bubble

By: DANIEL VILLEGAS

EDITOR. Economist at the UNAM with exprience in macroeconomic indicators.

 

Mexico City – The bitcoin euphoria has reached suspicious heights.

Nobody imagined that at the start of the year, this cryptocurrency’s value would rise up to 1,695% in 2017. Indeed, when it was created, it started with a value of 908 which hiked up to 17,600 US dollars.

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Image courtesy of: http://www.dineroeimagen.com

Public opinion has also escalated regarding this digital currency. Even the Bank of Mexico, the country’s Ministry of Finance and the National Banking and Securities Commission have said their piece about it (arguing that it is not a legal tender in the country).

(Investopedia defines legal tender as “any official medium of payment recognized by law that can be used to extinguish a public or private debt, or meet a financial obligation.”)

In a joint press release, members of the Mexican financial authorities warned that the virutal assets are used as a device to store and interchange electronic information, without any legal support from any of them or from the government.

Despite this, many Mexicans still take their chances on the bitcoin, without minding that its soaring price is sustained on a fragile backing: the belief that everybody else thinks it has value. A common factor among the biggest financial crises in the past.

This presents a great problem since Mexican bitcoin enthusiasts could be living in an informational bubble that fogs their reality.

Why? because people purchase bitcoins with the hope of eventually using it to spend on goods and services they regularly acquire, without having to covert it to Mexican pesos.

The problem

We tried to discover just how acknowledged this cryptocurrency is; that is to say, how much do people know or not know about this type of “digital asset”.

Some would be ready to reply, “of course they (vendors) won’t accept it, it’s better to change it to pesos”, to which we should then respond that one of the purposes of the bitcoin is to serve as a (direct) means of payment (eg: one can possess 3g of gold but most probably no shop would accept it to pay for a purchase).

The experiment was disappointing: we talked to nearly 15 business establishments- most of them located in a shopping center- to inquire whether they would accept my bitcoin as payment. The answer was always a firm NO.

Some didn’t even have the slightest idea about the bitcoin, something that shouldn’t come as a surprise.

According to the National Survey for Financial Inclusion 2015, only 44% of the adult population are “banked” and only 9.5% of them rely on mobile banking services.

Add to this the fact that 92% of the respondents revealed thay they prefer other types of payment such as credit cards or digital transactions.

This is but a small proof of why it could be difficult for the bitcoin to be accepted as a regular means of payment in Mexico.

So then, if it won’t work as a payment method -and most probably it won’t do so for a long time-, why are people risking their money investing on the bitcoin?

Perhaps we could turn to one of the most influential economists of the 20th century, John Maynard Keynes.

In one of his most cited passages, he proposed an experiment:

“A contest… where the participants would have to select 6 of the most beautiful faces among hundreds of pictures.

The winner will be the person whose choice approximately matches the average preference of the rest of participants.

This way, each contestant would have to choose NOT those who they consider more beautiful, but those whom he thinks will please the rest.”

How would this apply to the bitcoin? Keynes used this make-believe contest to explain the behavior of investors and the weakness attributed to these types of markets.

This weakness refers to the gradual increase of people who invest in businesses they don’t really know much about. (So proportionally, there are more and more people putting their money in enterprises they are ignorant of. Remember the most recent financial crisis triggered by junk bonds?)

Additionally, he explains that a “conventional valuation” (ie: agreed estimated value) established as a result of the “mass psychology” of many ignorant people is prone to violent alterations due to strong changes in opinion, as a consequence of factors not highly related to the probable returns (of the investment).

(That is to say: the evolution of the bitcoin’s value is more susceptible to public opinion, than to the changes in demand -because supply is already capped- or the arrival of other cryptocurrencies.)

This is the most worrying part: the belief that the bitcoin could make people rich could end at any given time, and this could easily mean an abandonment of the investment and a substantial crash in its price.

Simply put, the question as to “how far would the bitcoin’s price go?” is at this moment, more for psychologists than for financiers.

(End of article)

***

To be continued…

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