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This is a part of the Bitcoin Infinity Academy course on Knut Svanholm's book Bitcoin: Independence Reimagined. For more information, check out our Geyser page!

Laws and Effects

This chapter is dedicated to the concepts, natural laws and effects that explain why Bitcoin is so much more than the sum of its parts. Understanding these concepts is crucial when defending Bitcoin during conversations with intelligent precoiners. Many of these concepts, if not all, have been discussed earlier in this book or in my first book, Bitcoin: Sovereignty through Mathematics, but this chapter is intended as a guide to wrapping your head around and being able to explain these concepts to newcomers with more ease. Scratching the surface, if you will. Bitcoin is hard to understand in general, but to really comprehend why it may well be the most important technological revolution you’ll encounter in your lifetime, you’ll need to understand the why before even trying to grok the how.

Subjective Theory of Value

Carl Menger, the founder of the Austrian school of economics, described the Subjective Theory of Value as “the idea that the value of a good is not determined by any inherent property of that good, nor by the amount of labor necessary to produce the good, but instead by the importance an acting individual places on a good for the achievement of his desired ends.” In other words, what anyone finds valuable is an entirely subjective matter. Valuability is always personal and situational, and there is little reason to question this insight. Keeping this fact in mind is crucial to understanding why no economic theory can ever be used to predict anything with perfect accuracy. Every investment is a guessing game and requires the investor to take as many factors (potential risks and rewards) as possible into consideration before making the trade.

Supply and Demand

Holding all else equal, the unit price for a particular good or service will vary until it settles at a point where the quantity demanded will equal the quantity supplied, resulting in an economic equilibrium of price and quantity transacted. Even though demand (which could also be called inter-subjectively assigned value) is subjective, its relationship with the supply of a certain good or service has an obvious connection to the price of said good or service. The more abundant the supply, the lower the price, and vice versa. It is important to remember that this theory can be applied to money just as much as it can be applied to any other good or service. 

Stock-to-Flow

The impact an increase in the available supply of a good will have on its price is correlated to the size of the existing stock of that good, compared to the increase per time unit, or flow. This is called the stock-to-flow ratio. If increasing the supply of a good is difficult and, therefore, expensive, the impact an increase in the price of that good will have on its subsequent total supply is limited. Therefore, the increase will not push the price down again as much as it would have if increasing the supply would have been easy or cheap. Remember that the supply of a good is directly correlated to its price if the demand for it doesn’t change. The high stock-to-flow ratio of precious metals is what makes them expensive. The fact that you can make jewelry out of some of them doesn’t affect the price in the same way at all. It’s the other way around. Expensive jewelry is made out of expensive materials because jewelry is a form of Proof-of-Work (described below) or, at the very least, a proof of wealth. 

Gresham’s and Thier’s Laws

Gresham’s Law states that “if there are two forms of commodity money in circulation, which are accepted by law as having similar face value, the more valuable commodity will gradually disappear from circulation.” If we consider Bitcoin a commodity, it would gradually disappear since its absolute scarcity would render Bitcoin the most valuable commodity in the world over time. Keep in mind that even if this happens, and Bitcoin isn’t ever used as “money” ever again, its value can still go up indefinitely. There is, however, a sort of counter-theory to Gresham’s Law. Thier’s Law shows that in the absence of effective legal tender laws, Gresham’s Law works in reverse. If given the choice of what money to accept, people will transact with the type of money they believe to be of the highest long-term value. However, if not given the choice and required to accept all money, good and bad, they will tend to keep the money of greater perceived value in their possession and pass on the bad money to someone else.

The Cantillon Effect & WTF Happened in 1971

As described earlier, Richard Cantillon noticed that original recipients of new money enjoy higher standards of living at the expense of later recipients. The concept of relative inflation (a disproportionate rise in prices among different goods in an economy) is known as the Cantillon Effect. Inflation is the main mechanism that funnels wealth into the pockets of the elite and away from everyone else. The further you are from the new money created, the more you pay. When President Nixon practically legalized counterfeiting in 1971 by abandoning the gold standard entirely, he gave the US the ability to literally trade worthless green paper for real commodities, and everyone on earth is still falling for it today. Many citizens of the United States became very rich in the process because of the Cantillon Effect and were thus less likely to turn against this monetary policy.

Zero Marginal Cost

As Jeremy Rifkin argues in his book named after the phenomenon, most goods and services in the world are approaching a zero marginal cost. Intense global competition forces entrepreneurs to introduce ever more efficient technologies, accelerating productivity to the point where the marginal cost of production approaches zero, making goods and services almost free. We’re in an era in which consumers are transforming into prosumers. Anyone can create music, art, videos, and books and distribute them to the world via the Internet for almost no cost at all. This book (and its predecessor) are great examples of this. They’re printed only whenever so demanded by a new customer and marketed solely by social media. I didn’t spend a single penny creating these books except for what I paid for the electricity and the Internet connection. In a world that has been so optimized by global capitalism that everything is nearly free to produce, all prices ought to reflect this phenomenon. Still, prices go up. The only thing hindering us from reaping the true fruits of our massive global collaborative efforts is our lack of sound, non-inflationary money. In a sound money economy, prices would go down, not up, over time.

The First Law of Thermodynamics

The First Law of Thermodynamics, also known as the Law of Conservation of Energy, states that energy cannot be created or destroyed in an isolated system. Bitcoin can express how much energy that was sacrificed in order to acquire a share of a limited supply. You can, of course, also acquire Bitcoin by buying it rather than mining it, but in doing so, you also spend energy. You somehow acquired the money you bought the Bitcoin with, and that somehow came to be because someone sacrificed time and energy somewhere else. Bitcoin lets you express that you see that there’s a connection between value and scarcity by sacrificing effort or labor to be a part of the network. The value of the total amount of sacrificed labor cannot leave the isolated system. Therefore, theoretically, the total value of the network cannot decrease over time, even if the price does.

The Price of Money and the Prices of Everything Else

This is a sort of embryo of a theory I came up with while writing this book. It’s just a thought at this point in time but well worth mentioning while explaining money in general and Bitcoin in particular to someone else. The theory goes something like this:

“The lower the cost of money production, the higher the prices of everything else and vice versa.”

In today’s society, money is almost the cheapest commodity to produce in the world. Phenomena such as negative interest rates are a testament to this. The only things that become cheaper over time in an ever increasingly inflationary economy are those that become cheaper to produce at a rate faster than that of the monetary debasement. If money, on the other hand, was the most expensive commodity to produce, everything else would be cheaper in comparison to it. More for less. In a sound money economy, the market economy would function several orders of magnitude better than it does now because it would disincentivize frivolous spending and promote long-term investment instead. 

Metcalfe’s Law

Metcalfe’s Law states that the effect of a telecommunications network (and therefore also its value) is proportional to the square of the number of connected users of the system. A single telephone is useless, but the value of every telephone increases exponentially with the total number of telephones in the network because the total number of people with whom each user can call and receive calls increases. Imagine this Law’s impact on Bitcoin’s value, where expressing value is the sole purpose of the network, and where this is achieved through dividing a fixed number among the users. To say that the thought is mind-blowing would be an understatement.

The Byzantine General’s Problem

The Byzantine General’s Problem describes a condition of a computer system, distributed computing systems in particular, where components may fail, and there is imperfect information on whether a component has failed. Imagine that several divisions of the Byzantine army are camped outside an enemy city, each division commanded by its own general. The generals can communicate with one another only by messenger. After observing the enemy, they must decide upon a common plan of action. A traitor among the ranks could deliver false information and prevent the group from reaching consensus. The generals must, therefore, develop an algorithm to guarantee that all loyal generals decide upon the same plan of action and that a small number of traitors cannot cause the loyal generals to adopt a bad plan. Now, think of a traitor as a malicious party within a distributed ledger that aims to facilitate fraudulent transactions. In accordance with Metcalfe’s Law, as the number of parties in the system increases, the number of channels for communication increases exponentially. Each communication channel could be used to carry false information. Imagine the complexity of building consensus in a truly decentralized system with thousands or millions of parties involved. This is the main computer science problem that Bitcoin solved by aligning participants’ incentives in such a way that cheating becomes very risky and expensive.

The Black Swan Theory

According to Wikipedia, a Black Swan Event is “an event that comes as a surprise, has a major effect, and is often inappropriately rationalized after the fact with the benefit of hindsight.” The term was popularized by Nassim Nicholas Taleb. The discovery of Bitcoin was such an event. Almost no one believed that a currency native to the Internet could ever be created due to the nature of data itself and its infinite replicability. We’re still in Bitcoin’s infancy, and most people are still reluctant to believe that the network will work long-term.

The Lindy Effect

The Lindy Effect is a theory that the future life expectancy of some non-perishable things like a technology or an idea is proportional to their current age so that every additional period of survival implies a longer remaining life expectancy. The longer Bitcoin survives, the higher the probability that it will survive in the long term. 

Roko’s Honey Badger

The concept of Roko’s Basilisk has been called the most dangerous thought ever imagined. It describes a non-existent artificial intelligence punishing everyone who didn’t contribute to bringing about its eventual existence retroactively. Rational people would, therefore, help it come about just out of fear of what could potentially happen to them if they didn’t, similar to why some people believe in God because of the supposed rationality described by Pascal’s Wager. Bitcoin could be said to be a sort of inverted Roko’s Basilisk in a way, since not having any Bitcoin if (when) hyperbitcoinization happens will be at least indirectly punished as such an event would render those that do have Bitcoin richer than those who don’t at a very fast pace. This only holds true if you think that relative wealth gaps are inherently important though. As described in earlier chapters, wealth gaps are of little importance to Austrian economics. What’s important is if you’re better off than you have been historically, no matter what anyone else owns or earns. If you rethink this supposedly rationalistic phenomenon you end up with Roko’s Honey Badger instead — an entity that rewards those who help it come alive rather than punishing those who don’t.

Mass Adoption and Exponential Growth

So, where are we now?

At the time of writing, it is estimated that around 1% of the world’s population own some Bitcoin. During the first eleven years of Bitcoin’s existence, the number of Bitcoin users worldwide has doubled every year and even quadrupled during bull market years. As Albert Allen Bartlett said: “The greatest shortcoming of the human race is our inability to understand the exponential function.” At the same adoption rate as that which we have now, not taking bull runs into account, more than half the planet’s population will own Bitcoin in less than seven years. 2% in the first year from now, 4% in the next, then 8%, 16%, 32%, 64%, and so on.

  

So cut out the noise, buckle up, and enjoy the ride. Bitcoin changes everything. Ignore it at your own peril.

About the Bitcoin Infinity Academy

The Bitcoin Infinity Academy is an educational project built around Knut Svanholm’s books about Bitcoin and Austrian Economics. Each week, a whole chapter from one of the books is released for free on Nostr, accompanied by a video in which Knut and Luke de Wolf discuss that chapter’s ideas. You can join the discussions by signing up for one of the courses on our Geyser page. Signed books, monthly calls, and lots of other benefits are also available.