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Bitcoin's Inexorable Rally Interrupted By Fleeting Realization Of Its Utter Inability To Function As A Currency

Thankfully it was a passing phase.
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There are plenty of perfectly logical reasons to look askance at bitcoin. It doesn't make you a luddite to look at the bubblicious price trajectory bitcoin boasts, or the regulatory limbo it inhabits, and conclude that cryptos might not be the soundest of investments. But no matter how considered the objection, bitcoin's defenders always have a trump card: the chart. It's now a mainstay of the cryptoliterary tradition to juxtapose bitcoin price histories against various pronouncements of its impending doom. “See??” they shout, spittle flying. “It actually went UP.” QED.


Of course, over the last year bitcoin has suffered periodic double-digit plunges. Still, the reasons for these – e.g. the time Jamie Dimon decided to shit-talk it (which happened to correspond with a crackdown in China) haven't been overly concerning to the converted. These things come and go. Yet the price action over the last weekend, which saw bitcoin drop nearly 29 percent before repairing some of its losses, reflects some deeper issues. Investors weren't just reacting to an idiosyncratic shock or transitory headline. This time it was about the soul of bitcoin.

For background, this week was supposed to see the culmination of a year-long struggle to refashion bitcoin to accommodate its newfound popularity. As it was originally programmed, bitcoin could only transfer so much information at a time through the “blocks” that make up the network's public transaction record. Over the last year, growing interest in cryptos has overloaded the legacy system, causing infuriatingly long wait times for transactions to process and absurdly high fees to do so.

The fix, an elegant solution with the inelegant name SegWit2x, proposed doubling the block size in order to speed confirmations and hopefully reduce fees. Originally agreed-upon by majorities of the all-important bitcoin mining community, SegWit2x still ran into increasing pushback until late last week, when the coders behind the effort announced that they were shelving it indefinitely.

The result: Bitcoin lost more than $30 billion in market cap over the next three days. Some of those losses redounded to the benefit of bitcoin cash, a spinoff created this summer for the express purpose of solving the block-size issue. Cash shot up more than threefold – briefly displacing rival Ethereum as the second-largest crypto by market cap – before settling back down to around double its price as of Friday. Bitcoin has since recovered about half its losses.

All of this might look like any of the other nauseating gyrations the bitcoin coaster has experienced in its relentless run-up over the last year. But the proximate causes are of a different sort. The central problem with bitcoin isn't jealous monetary authorities or stupid investors; it's bitcoin.

As Jamie Dimon has stressed – correctly – this thing just isn't a currency. No functioning currency in the world makes you wait two days for the transaction to go through. No functioning currency entails processing fees in double-digit percentages. No functioning currency requires the yearly energy output of all of Japan – as Citi recently estimated – simply to exist.

These technical hangups present real engineering challenges for the bitcoin community. But the broader issue is bitcoin's governance structure, or lack thereof. Changes like SegWit2x require a majority of users to go along. In theory that's possible, but in practice it can be quite difficult, as the exchanges that route bitcoin orders have a different set of incentives from the miners who confirm transactions in order to earn new bitcoins.

The lack of central authority is one of bitcoin's main anarcho-libertarian selling points. But it's also a crippling weakness. Actually existing currencies have governments and monetary authorities (imperfect as they may be) to help resolve disputes. Bitcoin has Reddit.

Of course, none of this is to say bitcoin won't go up again, because that's what bitcoin does.

But the deep-seated issues with bitcoin qua currency bear only tangential relation to the strengths of bitcoin qua speculative asset. If you want to own bitcoin only in order to sell it at a higher price later, its staggering shortcomings as a unit of exchange only matter inasmuch as they might dissuade others from buying and holding it. So far that doesn't seem to be much of an issue for most bitcoin investors. This tells us something about its actual function.



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