• Alex Plowden

But Bitcoin isn't backed by anything?

There is no shortage of Bitcoin criticism out there, 'Bitcoin isn't backed by anything', 'Bitcoin is too slow and expensive', 'But what about quantum computing?', 'Bitcoin is killing the planet', but is this actually valid criticism? This blog post will focus on the well known argument that Bitcoin is not backed by anything.

As always, nothing in this post should be considered financial/investment advice, it is purely the opinion of the author, it is for informational purposes only and created to give you something to consider. Also bear in mind that this topic could make up a large book to really deeply dissect, this article will therefore only skim the surface.

Let's explore the following:

'Bitcoin isn't backed by anything, it's worthless'

This is one of the most common criticism of Bitcoin, indeed one made by renowned Bitcoin critic and gold investor Peter Schiff. It's a debate that opens up an extremely large topic that goes deep into what money means and what constitutes as a wise investment decision. This criticism usually comes from those who have a traditional concept of investment - there must be something behind an asset for which it derives its value.

Bitcoin is said to be worthless as a result of its lack of physical backing of something in the real world, or of something in the financial world such as earnings. As a result Bitcoin is seen to be one colossal bubble, that even though year on year on year it keeps increasing in value, it's only a matter of time before this valueless bubble of speculation pops.

But let's imagine for a minute that Bitcoin was actually backed by something physical such as a commodity. Bitcoin would then be subject to the worldly interactions this commodity has; if huge amounts are mined, this dilutes the supply, and if demand remained constant, the price of Bitcoin could collapse.

Not only that, but because commodities possess a value, there is a huge incentive to mine them for this value to be realised. This incentivisation therefore spurs the creation of new supply thereby increasing the likelihood of devaluation. Bitcoin has arguably broken free from this dynamic in that the Bitcoin network has a built in mechanism that incentivises mining but at a set rate that cannot be altered. If Bitcoin's price increases, no more Bitcoin can be mined than usual.

Moreover, if Bitcoin were actually backed by something physical its unique qualities would be destroyed and it would be made subject to the whims of whatever is backing it. This is exactly what Bitcoin seeks to avoid; the very fact it is not tethered to or backed by something of fragile nature is one of the main reasons it has value, in combination with the technology it makes up.

Interestingly, the argument that Bitcoin is unbacked and worthless is made by people who utilise national currencies for transactions.

In recent times, having departed from the gold standard, fiat currency such as the pound or dollar is also unbacked in this traditional sense. One could argue that the only backing centralised national currencies posses is that of the state, and in effect, force. State currencies are backed by force in that they rely upon the public's consent that the money you hold has value. If this consent breaks down, you are left with backing by force one way or another.

One of the most potent problems fiat currency possess is that governments can and do devalue their currency, something we have seen in recent times. The printing of money can act as another form of tax through inflation, appropriating wealth away from the populace while hitting the poorest the hardest. What happens if you are stuck in a country experiencing inflation with no or little means to store value?

The point here is that the backing a currency has is based on changing circumstances, circumstances that haven't been favourable to pretty much all modern currencies. A quick google search of the historical purchasing power of a respective currency proves this exactly. Yet, we still (at least in the west) all use our national currency, and as a result of transacting with it, view it as something of a certain value.

So now you have seen how backing by one particular thing or element can be detrimental, let's explore Bitcoin's backing.

Is Bitcoin backed? In the traditional sense, no. There are no reserves underpinning Bitcoin, no gold, silver or even forceful use. But I would make a strong argument that Bitcoin is in fact backed, backed by its technology. You could say that Bitcoin derives its value by its ability to store value.

Bitcoin is backed by community consensus operating as a network that serves as a near perfect store of value overtime. Bitcoin is backed by its technology, technology that people choose to use and then reward those who maintain the network, miners.

The problem with the argument that Bitcoin is not backed and therefore has no value is that it misunderstands the value Bitcoin can provide. It fundamentally misunderstands money and the technology that can be used as a form of money.

Bitcoin's value needs to be evaluated in the context that people need a place to store their monetary energy. They need a closed system that doesn't leak monetary energy or value, somewhere that is able to adequately hold wealth accrued in the form of information.

If I told you there was this special technology that may help you store your hard earned monetary energy in a means that has never been knowingly compromised, is more or less practically impossible to hack, that no one person can control, that is not subject to the issues of being backed by a fragile asset(s), that can be transported to any person around the world with internet and a phone in a timely relatively cheap manner, and that ultimately has a finite supply, would you still say this technology has no value?

If this technology can be provided around the world to many poor and wealthy nations to help them protect against inflation, to help prevent governments appropriating the wealth from their subjects and to take back control of their financial resources, would you still say this is worthless technology?

Remember, money throughout history has comprised of sea shells, Aggry beads, big stones (Rai stones) and various metals, were these also worthless? Remember too that a huge amount of gold is backed by the belief in its use as a store of value, distant from its use in aesthetics, and yet it still possesses a huge market cap of over $10 trillion.

Perhaps I'm wrong and Bitcoin eventually crashes to 0, it's possible. But there are strong arguments and historical price action that would say otherwise. I'm sorry Peter Schiff, you may just be wrong on this one.

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