Cryptocurrencies and the True Source of Value

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One of the arguments against Bitcoin and cryptocurrencies in general is that they do not represent true value. Behind the crypto-algorithms, according to this line of argument, is really nothing that could objectively be considered currency; indeed, nothing at all. Hence, cryptocurrencies are a bubble which is bound to burst. This is not just an any-man-on-the-street opinion; it has been espoused by the billionaire investor Howard Marks, who predicted the “dotcom bubble” of the 1990s. “In my view, digital currencies are nothing but an unfounded fad (or perhaps even a pyramid scheme), based on a willingness to ascribe value to something that has little or none beyond what people will pay for it,” Marks said in 2017. Marks used historical precedent to underscore this point, pointing to the notorious “tulip mania” that started in the Netherlands in the 17th century. In 1637, at the height of the mania, a single tulip bulb could be worth up to ten times the annual income of a skilled craftsman.

Lydian coin. Inscription reads “I am the sign of Phanes”. Electrum (alloy of gold and silver), length: 2,3 cm. Late 7th century BCE, found at Ephesus. Israel Museum, Jerusalem.

One might wish to consider other historical precedents, however. Currencies per se are a surprisingly recent invention in human history. According to the archaeological record, the first coins were used in Lydia (present day Turkey) in the 7th century BCE (see image above). This is long after the rise of cities and kingdoms and indeed the successful smelting of metals, including gold, silver and bronze; even 500 years after the commencement of the Iron Age in the Middle East. We also know that this was not due to lack of technical engraving ability, since many small metal seals with intricate designs have been found dating from many centuries prior to the 7th century Lydian coins (see image below).

Seal of Tarkummuwa, King of Mera. Silver (diameter: 4.2 cm). c. 1400 BCE, found at Smyrna. Walters Art Gallery, Baltimore.

The anthropologist David Graeber has provided an interesting explanation of why coinage was eventually developed. Coins were not initially used by most ordinary people, he argues. The available archaeological evidence shows that the first coins were used by soldiers. This makes sense, Graeber argues, when we consider that ancient rulers had to find a reliable way of feeding armies at the frontier of their empires. If the soldiers were stationed inland, he points out, it would be extremely difficult to move large amounts of grain or other foodstuffs with them. If, however, standardised coins could be minted and given to soldiers, the soldiers would be able to buy the necessary food from the ruler’s civilian subjects in these far-flung parts of the empire. By taxing his subjects, these metallic tokens of value would then be returned to the king. They began as a more efficient way of feeding armies, but once they acquired universally recognised value within the state, could be applied to any economic transaction.

In order to be hard to forge, coins had to be minted out of rare metals by skilled craftsmen. But even gold, silver and copper, which were used for the earliest coins, have no intrinsic value, as Israeli historian Yuval Noah Harari points out – “you can’t eat it, or fashion tools or weapons out of it.” The lesson here is that no form of currency has value above and beyond what we ascribe to it, collectively, as human beings. Thus, it will not do to dismiss a cryptocurrency, as Marks does, because it has no value beyond what people will pay for it (this is not to say, of course, that other arguments against cryptocurrencies fail; only that this particular line of argument is unconvincing). One might well imagine an ancient Lydian exclaiming, “These bits of metal with their fancy designs and inscriptions have no real value. The whole fraud will surely collapse after the king dies.” And yet, as we now know, it did not turn out that way. The coins had value because enough people came to believe that they did and that was all that mattered.

We have since, although only relatively recently in 1971, abandoned the gold standard, making way for the the US dollar as the world’s reserve currency. One could even argue, as some have, that the dollar is a less reliable store of value than either gold or Bitcoin, because the US Federal Reserve can simply print as many units as it sees fit – and indeed, in the last round of quantitative easing since the 2008 crash, it has been printing an unprecedented number. The amount of gold in the world runs up against physical limitations, whereas the amount of Bitcoin runs up against mathematical ones. While it is true that other cryptocurrencies can avoid the same limitations that appear to be built into Bitcoin, matters such as the total number of units to be issued and the value of each unit relative to everything else still depend on the vital criterion of consensus by the community of users. Notice that the technological aspects aside, this criterion also applied to the very first currencies used by our species. While it is true that the first coins were issued by rulers in a top-down fashion, these rulers did not realise that they had brought into being a monetary system that would soon escape their control. As Graeber also notes, after appearing in Lydia, coinage soon emerged independently in differently parts of the world. This meant that when different empires came into contact with each other, they had to arrive at a fair exchange rate. If the empires were of roughly equal power, this could not be determined by either of their rulers and was determined instead by market factors beyond any one individual’s control. Exchange rates between different official currencies have thus continued to fluctuate from ancient until modern times.

Bitcoin and other cryptocurrencies could indeed be seen as the next logical step: prior to their emergence, the only “non-physical” medium of exchange resembling a truly global currency was the IMF’s “Special Drawing Rights” or SDRs, although as their name suggests these have only been issued and used in exceptional circumstances. Better yet, unlike SDRs, cryptocurrencies are not controlled centrally in any way. Instead, they are designed to bypass both governments and banks. All they require is a public ledger, the blockchain, to keep track of all transactional information. Governments and banks understandably find this frustrating and will likely do all they can to bring cryptocurrencies under their control. In this respect, however, they may resemble a Lydian king who tries to fix the prices of various commodities, only to find his attempts frustrated by his subjects, who find roundabout ways to buy or sell commodities at market prices.

The fact of the matter is that we are now all living in a global economy, and cryptocurrencies have beaten the IMF to the finish line of establishing imaginary units of value that are created (or “mined”), recognised and used globally. One or even all of them may collapse eventually, but the point is that such an event cannot be brought about by governments or banks. The technology is now out there, as is the will to avoid the fiats of governments or banks. And if they do collapse irreversibly, that is not necessarily good news for fiat currencies. The need for an independent global currency will likely persist even in their absence, perhaps leading to a return to something like the gold standard. In any event, when we go back to the very root of currencies and what makes them valuable, we may well discover a counter-intuitive (at least, to some) truth: that both gold and cryptocurrencies are better placed as stores of value than fiat currencies, such as the pound, dollar or euro.

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