If you’re like me, over the past few months you’ve probably been inundated with emails, texts, news reports and speculation about bitcoin. Or, maybe it’s just me because I worked on Wall Street managing “real” money and was recently an adjunct professor of economics at Grand Valley State University for two years.
I have to admit watching the meteoric rise in bitcoin has become a fascinating case study in human behavior. I am not a trained psychologist, but I am a trained professional in finance where I used human behavior to trade various asset classes for over 20 years. This is what frightens me the most about cryptocurrencies: Humans have an incredibly short memory, and greed is an intoxicating flaw in our decision-making process. I wish I could take credit for the quote, “It’s never different this time,” but it was coined (no pun intended) by a highly regarded Wall Street professional who recently retired from the business.
Let’s look back at prior time periods and ask ourselves, “Is it different this time?” Tulip mania in the Netherlands in the 1600s, U.S. stock market in the 1920s, the internet bubble in the late 1990s, the U.S. housing crisis in the mid-2000s and cryptocurrencies today. What do we know? Bubbles are formed by manic hysteria with the belief asset prices will never go down. In each of the periods I’ve listed above, that happened. But why do prices rise to the point that if you look at a chart of any “bubbly” asset class it becomes asymptotic (prices relative to time rise so quickly that on a chart the prices explode higher almost forming a straight line up)? To be clear, this is incredibly unhealthy because when buyers of any “bubbly” asset stop buying, it becomes a game of musical chairs with the last one standing getting burned the most.
It is human behavior that drives the buying. In the trading business, it’s called “talking your book.” How often do you see traders or portfolio managers on CNBC saying they “hate the market?” It doesn’t happen very often. Investors, whether retail or institutional, are inherently long on the market or individual assets. Why? Because they believe the prices will rise, so they are bullish and tell a convincing story of why they own it. They become a believer in their own story. Take the late 1990s. Everyone wanted to own something related to the internet or e-commerce. Remember Pets.com, Books-a-million, eToys.com, ecom.com (no joke) and Webvan.com? They were all destined to take over their markets until they didn’t. How about the U.S. housing market bubble? I’m highly confident most of the readers know at least one person who either bought a house they couldn’t afford or bought multiple homes because financing was cheap and easy. For decades, owning a home was the American dream and prices only went up — until they didn’t. But people convinced themselves it was OK to take out a second mortgage to buy a boat or refinance with a home equity line to take a trip to Disney. A home is an asset; a vacation is a luxury. It’s all about human behavior.
It’s happening again, but this time with cryptocurrencies. I will not go into the nuances of blockchain, but I believe it has benefits from a technology standpoint. We don’t yet know the true benefit, like we never knew that Google would be more than just a search engine. Bitcoin is the beneficiary of blockchain technology, and the great debate is whether bitcoin is a currency or just a speculative asset. To an economist, a currency must be a store of value (reasonably be able to maintain purchasing power), a medium of exchange (widely accepted for payments of goods and services) and have a unit of account (how items are priced). Bitcoin does not maintain purchasing power because it’s price is so volatile, recently moving by 5 to 10 percent per day. In other words, if a merchant accepts bitcoin today for a sale of a good or service, and a week from now, bitcoin has fallen 20 percent, then that merchant’s purchasing power of its bitcoin fell by 20 percent. Strike one. It’s not a medium of exchange because according to a report by Morgan Stanley, only 0.6 percent of the top 500 online retailers accept bitcoin as opposed to a traditional fiat currency. Strike two. Bitcoin does appear to be a unit of account, so it does meet that criterion.
What strikes me as most odd about those using bitcoin as a currency is the use of a debit card to pay for purchases. Shift Card proudly states on its website that it is, “The first U.S. bitcoin debit card. Connect Coinbase to spend online and offline at over 38 million merchants worldwide.” But if one purpose is to maintain some degree of anonymity over decentralized systems, then using a Visa debit card defeats that purpose. If Visa transactions are not anonymous and not decentralized, then why take the risk of a losing access to your money? Just recently, Visa stopped processing transactions for WaveCrest bitcoin debit cards in Europe, leaving thousands of cardholders without access to their money. That certainly doesn’t sound like a currency to me.
To me, this is an obvious bubble. They always burst, but we never know when. And if you own bitcoin for an “end of days” scenario when all fiat currencies fail, I can guarantee you with high certainty our electric grid also will fail. If there’s no electricity to power your computer or iPhone, how will you access your bits? At that point, your coins will be worth nothing but inaccessible ones and zeros. I’d rather own gold.
Grand Rapids resident Brian Schwartz is a former Wall Street finance manager and adjunct economics professor at Grand Valley State University.