Nassim Nicholas Taleb’s 2007-book ‘Black Swan’ was hailed by The Sunday Times as one of the twelve most influential books since World War II. However, his 6-page paper from 2021 titled ‘Bitcoin, Currencies, and Fragility’ deserves an equal, if not more, attention.
Can a ‘currency’ whose value goes up and down 5% every few hours or up and down 100-300% in a span of one year be even remotely considered a safe store of value? Arguably, as Taleb puts it, is it a Ponzi scheme at the end of it all? Cryptos are weak in their fundamental characteristics of CASH (Convertibility, Acceptability, Security, Homogeneity).
Taleb’s paper applies quantitative finance methods and economic arguments to cryptos in general and bitcoin in particular. BTC is no longer truly a currency without government, it isn’t a store of value, has zero intrinsic value, is an unreliable weapon against inflation, and is not entirely a safe haven of investment or a means of security for catastrophic episodes.
Taleb thrashes cryptos but appreciates the technology behind it – blockchain – while at the same time questioning blockchain’s practicality and usage till date. Blockchain allows the maintenance of a public ledger for P2P commerce, transactions, and settlements – a serial record-keeping. Thus, online payments can be made from one party to another without going through a financial institution. The irony in the Bitcoin Transactional Currency (BTC) system is that it depends on the existence of miners for perpetuity. Moreover, by the very nature of blockchain, transactions in BTC are irreversible.
What is the worth of BTC? Zero. Exactly zero. Precious metals like gold are maintenance free and their value does not degrade with time. This is unlike cryptos that require maintenance (including, as mentioned earlier, their dependency on miners) and a sustained amount of interest in them.
If we expect now that the price will vary at some point in the future, then according to literature related to securities pricing (and trust Taleb on this – he was an option trader and a risk analyst) backward induction must be applied and such a variation must be incorporated in the price now. Wait a second – what does that even mean? Simply put, it means that if the value of cryptos will be zero in the future when the miners are extinct, the tech becomes obsolete, or BTC loses its appeal as the future gen discovers other assets, then the value of cryptos must be zero now. On the contrary, gold and silver will be around physically for at least the next millennium and will also have some residual value. Cryptos ‘physical presence’ is merely a book entry on a ledger that requires active maintenance from the miners.
In addition, cryptos can be slower than even the African mobile money. Yes, you read it right. BTC is way slower than standard commercial systems used by credit card companies. We can instantly buy a cup of coffee with our cell phones, but it would take ten minutes using cryptos. Also, transactions in bitcoin end up being more expensive than wire services or other modes of transfers.
Another problem with BTC is that every transaction is seen isolated and discussed as such between two consenting adults. This is unlike the circular flow of income of economics: one must consider the ensemble of transactions and the interactions between agents; contractual agreements happen to take place among people; a specific transaction is just one piece of a whole. There has to be stability in value when the currency exchanges hands from one party to another. Cryptos have maintained extremely high volatility throughout their lives (BTC itself between 60-100% annualized) and that too at higher prices which makes their capitalization considerably more volatile and possibilities of arbitrage exist on exchanging hands. Cryptos are too volatile and they are bound to fail in their current form.
Moreover, cryptos have multiple fallacies associated with them. It is common sense to assume that government structures and computational power are stronger than those of distributed operators within a system of perceived safe haven as the distributed operators will fundamentally never trust each other fully and can fall prey to hoaxes from other operators.
Further, cryptos are prone to the fallacy of the agency problem. To directly quote Taleb,
“One might have the impression that, by being distributed, Bitcoin would be democratic and reduce the agency problem perceived to be present among civil servants and bankers. Unfortunately, there appears to be a worse agency problem: a concentration of insiders hoarding what they think will be the world currency, so others would have to go to them later on for supply. They would be cumulatively earning trillions, with many billionaire “Hodlers” — in comparison the “evil civil servants” behind fiat money make, at best, lower middle-class wages. This situation represents a wealth transfer to the cartel of early bitcoin accumulators.”
Taleb ends with a Damascus joke. A vendor was selling the exact same variety of cucumbers at two different prices because the one that was twice the price of the other came on higher quality mules. Much like Batman – It is not what a technology is underneath – it is not the attributes. It is what the technology does – the problem it solves – that defines it.
