Evidence in favor of Bitcoin’s deflationary policy
When talking Bitcoin, there’s often a debate. We at BitcoinsBerlin have had the pleasure of meeting experts and companies from both inside and outside the bitcoin scene.Typically, those outside of the Bitcoin community are very critical, almost as a knee-jerk reaction, of Bitcoin and need quite some time to understand the system. For us it is often if not always a challenge to convince economists and financial specialists that Bitcoin could really work.
Economists all over the world understand that there is no “real” or “intrinsic” value behind any central bank backed currency and they know the advantages of low transaction fees and no exchange fees.
The focus of their criticism is much deeper and most of them end by criticising the deflationary system in Bitcoin. We always respond by explaining that this strong deflation will remain until the maximum market share of bitcoins is reached, then the deflation will decrease and will from then on rely on demand of supply of bitcoin and also on growth of the economy. That’s not even including the often overlooked fact that every bitcoin is divisible into 100 million units.
It is a common belief that a deflationary monetary policy cannot function because people will start hoarding their money, if people know that their money will be worth more tomorrow, they’ll hold onto it opposed to spending or selling it. If no one is spending, this can cause the economy to recede.
This is so obvious that we never thought about a deflationary system in general and if this could work at all. Was Satoshi Nakamoto correct in his hypothesis that the deflationary model inherent in Bitcoin would produce a positive feedback effect?
The question is, if this is really true, why do our sales say something different?
As shown in the figure above, our sales on all4btc.com are positively correlated to the exchange price. This means that when the price of Bitcoin rises, our customers spend more Bitcoin. This seems counterintuitive as the increase in price is caused by people demanding more Bitcoins than are available at the current price. If our customers are quicker to spend their Bitcoins, they are a minority force, working against the dominant trend.
Why should people buy stuff if they know that they can buy more tomorrow?
We thought and discussed a lot about this and we found two possible reasons.
First: Now is more important with a volatile currency
People are irrational and care more about enjoying the product today. Bitcoin wealth comes and goes and we are all too familiar with our personal assets jumping 20% up or down in one day. Because of the fickleness of Bitcoin’s value, people do not mind forgoing potential greater future purchasing power because it might be the case that Bitcoin loses all of its value tomorrow. This ‘get out while you’re ahead’ explanation of Bitcoin is still in contrary to the majority, who are driving up the price by buying Bitcoin.
Most products (no collectives, real estate etc.) you buy will be worth less tomorrow. It doesn’t matter if you buy a new car, a new smartphone or a new computer. You always know that if you wait a few weeks more the new Playstation should be cheaper than it is today.
Still most Playstations in Germany were sold out after a few weeks and there is a big line when Apple opens their shop for a new iPhone even though the people know that if they wait they can get it cheaper.
For us, money gaining value and products losing value have the same result: an increase in our purchasing power.
If people really need something, they buy it if they can. If not they wait until they really want it. People who are willing to spend more money on a good will buy sooner. When prospective buyers think about trading Bitcoin for goods, they must take into account the true cost of spending something that may rise in value, so it better be worth it. People who don’t care so much will buy a little later. We think that this demonstrates market freedom and it won’t be changed by a monetary system.
Second: Bitcoin is not yet a true deflationary system.
Bitcoin is not only a currency, it is also an investment. You never know where the exchange rate is going to be tomorrow.
As soon as it comes to investments there are several investor types with different risk aversion rates. It’s the same with Bitcoin. There are different Bitcoin users with different levels of risk aversion, and people who are really sensitive about risk will see that the exchange rate rises a little and then they pretty soon want to exchange their coins for something tangible.
Less risk averse Bitcoin users will wait longer until they buy and so on and so on. The conclusion would be that people are starting to change bitcoins into real goods as soon as the price is rising in the amount related to their risk aversion rate, because to such investors Bitcoin is no deflationary or inflationary money system it’s an investment and they will start to cash out when their expected outcome is reached.
It is new and it is different than everything we have known so far, exactly why we love it so much.
What do you think? Please comment below and tell us what you think about the deflationary system of Bitcoin.