How Currencies Work 101

[OddOne]

Full title should be "How Currencies Work 101: Why Bitcoin/Namecoin will ultimately fail as currencies" but thread titles can't be that long.


Bitcoin (and obviously by extension, Namecoin) was built around two ideas that were intended to make them "ideal" from the standpoint of ending manipulation by governments - a decentralized transaction database that cannot be manipulated by a central authority, and anonymous transactions for privacy.

We have a couple problems with these goals and the idea of using BTC/NMC as a currency:

1. A currency MUST have a central authority that manages its implementation through the creation and enforcement of sound fiscal and monetary policies, and a willingness to allow external market forces to interact with the value of the currency it manages in order to give it value to others outside its sphere of direct influence. In the absence of a central authority, a currency will automatically create or elect one.
2. A currency MUST have a means to trace fraudulent transactions to the people that committed the fraud. In the absence of any mechanism to do this, or in cases (like BTC/NMC) where transactions are anonymous by design, fraud will be rampant and uncontrollable without taking measures that will lead directly to the creation of some sort of system to vet transactions or the participants therein, which by definition removes transaction anonymity.

In the absence of one, Bitcoin created its own central authority based on the separate but interconnected actions of two groups - MtGox became the major exchange and DeepBit became the major mining pool. That's #1. The flurry of hackings and fraud that has attacked both BTC and NMC lately has drawn cries of a need to develop a "bank" of some sort, which would be #2.


Hundreds of years of currency development will not be denied: currencies work the way they do for a reason, and that reason is that they do not work any other way, no matter how fervently you might wish otherwise. No, saying "this will be different" won't help because it won't be different because it can't be different because "different" does not work. If you find yourself disagreeing with this, start researching the subject and become wiser.

The Bitcoin folks are finding this out. A cursory read of the Bitcoin forums shows this.

If Namecoin can form a unified central authority (and this appears to be happening, albeit slowly, right now) and develop a proper transaction recording system that can expose and ultimately detect/prevent fraud, Namecoin will survive Bitcoin's now-all-but-sure eventual collapse, and since Namecoin is tying a tangible value to the currency (.bit domains) it's already a leg up on the BTC.


History shows that the first new technology thing usually dies, but the second learns what #1 did wrong and thrives. Let's see if Namecoin can be what Bitcoin thus far can't, and thus secure its place in history...

[moa]

Full title should be "How Currencies Work 101: Why Bitcoin/Namecoin will ultimately fail as currencies" but thread titles can't be that long.


Bitcoin (and obviously by extension, Namecoin) was built around two ideas that were intended to make them "ideal" from the standpoint of ending manipulation by governments - a decentralized transaction database that cannot be manipulated by a central authority, and anonymous transactions for privacy.

We have a couple problems with these goals and the idea of using BTC/NMC as a currency:

1. A currency MUST have a central authority that manages its implementation through the creation and enforcement of sound fiscal and monetary policies, and a willingness to allow external market forces to interact with the value of the currency it manages in order to give it value to others outside its sphere of direct influence. In the absence of a central authority, a currency will automatically create or elect one.
2. A currency MUST have a means to trace fraudulent transactions to the people that committed the fraud. In the absence of any mechanism to do this, or in cases (like BTC/NMC) where transactions are anonymous by design, fraud will be rampant and uncontrollable without taking measures that will lead directly to the creation of some sort of system to vet transactions or the participants therein, which by definition removes transaction anonymity.

In the absence of one, Bitcoin created its own central authority based on the separate but interconnected actions of two groups - MtGox became the major exchange and DeepBit became the major mining pool. That's #1. The flurry of hackings and fraud that has attacked both BTC and NMC lately has drawn cries of a need to develop a "bank" of some sort, which would be #2.


Hundreds of years of currency development will not be denied: currencies work the way they do for a reason, and that reason is that they do not work any other way, no matter how fervently you might wish otherwise. No, saying "this will be different" won't help because it won't be different because it can't be different because "different" does not work. If you find yourself disagreeing with this, start researching the subject and become wiser.

The Bitcoin folks are finding this out. A cursory read of the Bitcoin forums shows this.

If Namecoin can form a unified central authority (and this appears to be happening, albeit slowly, right now) and develop a proper transaction recording system that can expose and ultimately detect/prevent fraud, Namecoin will survive Bitcoin's now-all-but-sure eventual collapse, and since Namecoin is tying a tangible value to the currency (.bit domains) it's already a leg up on the BTC.


History shows that the first new technology thing usually dies, but the second learns what #1 did wrong and thrives. Let's see if Namecoin can be what Bitcoin thus far can't, and thus secure its place in history...

Except when the central authority itself becomes fraudulent, the failure is catastrophic.

Decentralisation works if the rules of engagement are correct. Otherwise noone plays.

[Anth0n]

People voluntarily used Mt. Gox and Deepbit. They are not central authorities, just businesses. Central authority relies on keeping its power through coercive force and has no competition. Mt. Gox and Deepbit obviously do have competition and receive their funds through voluntary means.

You describe these businesses as central authorities even though you yourself define a central authority as one who implements sound fiscal and monetary policies. Those businesses have nothing to do with fiscal and monetary policy, so how can they be considered authorities?

If you want to pay a centralized authority to decide what it wants to do with the coins that you pay it, that's perfectly fine for you to do as you wish. It is not fine to force everyone else to do the same thing. Obviously no one wants it because it is not in their best interest to have, and is therefore economically destructive since a healthy economy depends on satisfaction of consumer demand.

[OddOne]

Good, it's nice to see people would like to debate this subject instead of simply crying foul over their "thing" being challenged. Only good things can come from meaningful dialogue!

Except when the central authority itself becomes fraudulent, the failure is catastrophic.

Decentralisation works if the rules of engagement are correct. Otherwise noone plays.

The assumption is always that, regardless of whether the C.A. is engaged in fraudulent practices, the C.A. will nevertheless act in a manner that it feels best supports the currency it manages. Even when the moves by a C.A. are predatory there is always a self-preservation drive. When a C.A. fails to act to preserve its currency, that currency implodes.

Case in point: the Federal Reserve. They may be a bunch of crooks, but they always try to do what they feel will be in the best interest of the currency they manage.

People voluntarily used Mt. Gox and Deepbit. They are not central authorities, just businesses. Central authority relies on keeping its power through coercive force and has no competition. Mt. Gox and Deepbit obviously do have competition and receive their funds through voluntary means.

No, a central authority is a central authority because it acts like one, for whatever reason, whether by deliberate act or by having been elected to the task.

Mt. Gox was elected by the majority of the BTC userbase to act as its central exchange, and DeepBit was elected by the majority of the BTC userbase to act as its primary mint. Whether these actions were intentional or not, and the motivations behind them, is tangental to the purpose of this discussion, but the fact remains that these two organizations have become the de facto central authority for BTC. One need merely look to the aftermath of the Mt. Gox security breach to see how critical it has become to BTC's existence.

You describe these businesses as central authorities even though you yourself define a central authority as one who implements sound fiscal and monetary policies. Those businesses have nothing to do with fiscal and monetary policy, so how can they be considered authorities?

An organization's operational policies become fiscal and monetary policies when it is elected to act as a C.A. Hasn't anyone here taken any economics courses and/or studied the development and implementation of currencies in real-world markets?

If you want to pay a centralized authority to decide what it wants to do with the coins that you pay it, that's perfectly fine for you to do as you wish. It is not fine to force everyone else to do the same thing. Obviously no one wants it because it is not in their best interest to have, and is therefore economically destructive since a healthy economy depends on satisfaction of consumer demand.

A healthy economy depends on a number of factors (satisfaction of consumer demand, perceived value and perceived stability in that value, wide acceptance as a common medium of exchange, reliable production of goods and services offered for sale in that medium, etc. etc. etc.), all of which must be delicately balanced, and that usually means that some of them must be managed in order to maintain that balance, thus the need for a C.A. of some form or another. The problem BTC (and NMC) has is that its architecture tries to do a few things that are known to never, ever work: truly anonymous transactions (which makes fraud impossible to prevent and opens the door to cripplingly criminal applications like money laundering) and complete decentralization (which relegates all control over the currency's valuations to market forces, which in turn leads to speculative bubbles, which in turn causes value instability, which in turn makes a currency nonviable and nonsustainable as a medium of exchange).

Like I said, currencies are as old as humanity and some things just can not and do not work, and it doesn't really matter whether anyone agrees or not. Economics is all about the math and math is the Great Equalizer.

Now's the time to figure all this stuff out, which Namecoin is still young. This is an awesome concept that just needs a little tweaking to make it the be all end all global Internet currency.

[moa]

Your math maybe locked in temporal bubble, i.e. a fad. It is an inevitable human condition.

Emergent orders and automata reveal distributed systems, where the individual actors obey a minimal set of rules, are more robust and flexible than a centralised hub-client model.

In the long run,, the network is more resilent than monolithic structures that are doomed by design. So-called "black swan", unforeseeable, unknowable events destabilising the central authority that will quickly lead to catastrophic failure. Centralised systems may offer efficiency gains in the short term but the gains are illusory when the whole thing grinds to a halt bringing untold suffering, chaos and losses as a new system is built from the debris. It is like living on sugar and meth, great while it lasts but the crash is devastating.

The network system maybe slower and hampered by localised, temporary bad actors but it will ride out the systemic level event tests for the good of the whole over longer timespans. A distributed market of individuals free to act as most benefits them is the inevitable, natural organic order of things, particularly in the history of currencies, like gold. It is not worth fighting against by trying to impose doomed top-down "solutions".

No tweaks.

[OddOne]

I agree that a collaborative effort by peers agreeing to a common ruleset is going to be more flexible than a rigidly-defined system. The problems start when peers decide to not play by those rules, and since our subject cryptocurrencies don't have any enforcement to those rules aside from mutual acceptance by the majority, it only takes a few rogue actors to cause significant and potentially catastrophic problems. Bitcoin's price instability is a great example - emergent currencies don't work when they're unstable because that instability makes it too tough to price goods and services in the currency to justify the effort.

Further complicating matters is the attraction a totally anonymous transaction system has for criminals - Silk Road was usage (and subsequently, attention) that Bitcoin really did not need, and now that it's on the radar of scumbag politicritters as a great means to conduct _insert_illegal_activity_here_, the probability of FedGov acting against Bitcoin became nonzero. And don't delude yourselves, folks, into thinking that BTC/NMC are impervious to attack - P2P systems can be disrupted and everyone using BTC/NMC can be tracked. What stops this from happening is that we are not a big enough blip on the right person's radar, nothing more.


Oh, for the record, I'm not suggesting the imposition of anything, but am suggesting that solutions to obvious problems be worked out and implemented now, in the early stages, when changes are still doable without essentially forking (and NMC is already a fork from BTC) or starting over. The potential for fraud needs to be dealt with if BTC/NMC is going to have any hope at all of being taken seriously by anyone outside the present niche. The lack of things like mechanisms to prevent value-destroying speculative bubbles also has to be addressed if more people and businesses are going to be attracted to BTC/NMC as an alternative medium of exchange. If these issues aren't addressed, cryptocurrencies will never escape novelty status.

[foreverD]

Full title should be "How Currencies Work 101: Why
1. A currency MUST have a central authority that manages its implementation

I love it when people throw around words like MUST, WILL, and INEVITABLY based on opinion and conjecture, with neither hard empirical evidence not conclusive arguments to back up such bold claims.

Tone down your language a little, use words like "may" and "probably", otherwise you risk looking like a fool a few years from now.

Gold and silver don't have central authorities. They are not strictly speaking currencies but neither is bitcoin.

2. A currency MUST have a means to trace fraudulent transactions to the people that committed the fraud.

No it mustn't. The Web of Trust concept in combination with escrow services can eliminate the vast majority of fraudulent transactions, even if the parties remain anonymous. Have a look at bitcoin-otc for empirical proof.

Cash transactions are not traceable either, by the way.

Hundreds of years of currency development will not be denied: currencies work the way they do for a reason, and that reason is that they do not work any other way, no matter how fervently you might wish otherwise. No, saying "this will be different" won't help because it won't be different because it can't be different because "different" does not work. If you find yourself disagreeing with this, start researching the subject and become wiser.

Proof by assertion?

Bitcoin and Namecoin are not really currencies in the traditional sense of the word. They are a sui generis and conventional wisdom about currencies does not apply 100%


"Hundreds of years of publishing development will not be denied: publishing works the way it does for a reason, and it will never work any other way blah blah blah..."

That's what newspaper editors used to say about the internet when it was new and people suggested that blogs may one day compete with newspapers.

History shows that the first new technology thing usually dies, but the second learns what #1 did wrong and thrives.

No it doesn't.

Facebook, Google, and Microsoft supeceded the first movers in their field.

But Ebay, Amazon, and Wikipedia were the first movers, and they still hold de facto monopolies today.

Internet history has plenty of examples for both. None of us can pretend to know which of the two scenarios will happen to bitcoin or namecoin.

[drllau]

@OddOne wrote

Full title should be "How Currencies Work 101: Why Bitcoin/Namecoin will ultimately fail as currencies" but thread titles can't be that long.

This is nuanced enough that I don't have time to go into background but as counter-factual, I'd point to this little research paper issued by the Federal Reserve Bank (who incidentally classify BitCoin et al as fudicary currency ie all faith and no credit ). To stretch your mind, a really interesting book is Debt: The first 5,000 years