What Does Bitcoin Mean For Austrian Money Theory?

Submitted by Tyler Durden on 08/22/2014 20:40 -0400

http://www.zerohedge.com/news/2014-08-22/what-does-bitcoin-mean-austrian-money-theory

Submitted by Logan Albright via Mises Canada,

Libertarians tend to agree with each other on most things. We all favor less government regulation, lower taxes, less involvement in international conflicts, and more personal freedom. There are a few areas, however, in which the movement remains sharply divided. One of these areas involves the nature of money.

The two schools of thought are essentially the “gold standard” crowd versus the “competing currencies” crowd. Nobel laureate F. A. Hayek argued strenuously in favor of competing currencies, pointing out that it made no sense to praise the benefits of competition in every good and service, while denying those same benefits for currency itself.

Ludwig von Mises, and his most celebrated student Murray Rothbard, on the other hand, argued that commodity money, specifically gold, was the only kind that could ever enjoy the stability needed to prevent inflation and credit busts.

Mises formulated this argument as “the regression theorem” of money in his first book, The Theory of Money and Credit, in 1912. The theorem, in brief, runs as follows:

People will only accept a medium of exchange if they observe that it has value, and can actually be exchanged for things. The only way to observe that is by looking at whether it was so used in a preceding time period. Thus, this chain of observations can be followed back until the first instance in which a particular type of money was used as a medium of exchange, and in order for those first adopters to accept it, it must have had value independent of its use as a medium of exchange, or in other words, be a commodity. Paper money, especially that with no commodity backing, is only adopted when governments force it upon people.

Mises’ theory is elegant, and for a long time it has been accepted wisdom among many Austrian economists. The only trouble is that Bitcoin is in the process of proving it wrong.

Although commodities have historically been successful, history does not prove inevitability, but merely what people have chosen in the past. Mises himself makes this point in his methodological treatise, Theory & History, in a scathing critique of statistical methods within economics.

The science of human action for which Mises coined the term praxeology, as Rothbard later pointed out, does not deal with why people choose one thing or another (psychology) or with what they should choose (ethics), but merely deals with the ramifications of the fact that they do choose and act towards goals. Economics, therefore, as a subset of praxeology, cannot predict what type of money will be chosen in the future or why. As Jörg Guido Hülsmann wrote in The Ethics of Money Production, “one cannot tell on a priori grounds what the natural money of a society is. The only way to find this out is to let people freely associate and choose the best means of exchange out of the available alternatives.”

The fact that Bitcoin, a fully digital currency with no commodity backing, is now being adopted by increasing numbers of people as an alternative currency would seem to cast doubt on the inevitability of commodity money.

When a theory, however logical, finds itself at odds with observed reality, there are only two possible courses of action for a rational thinker. The first is to discard the theory in favor of one that accurately describes the world as we observe it. The second is to find reason to doubt the reality of our observations. One explanation could be that while the regression theorem looks only at past value, it neglects to take into account the expectations of future value, which is what have driven Bitcoin. Another possibility is that only when commodities are actively prohibited as currencies by government, can a digital fiat money arise and gain popularity. AT this point, it’s too early to tell.

Bitcoin may yet fail, in which case Mises’ theorem will remain as a powerful argument in favor of the gold standard. If it ends up succeeding, however, an alternate explanation will have to be found.

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