A recent World Bank report dismissed the assertion that cryptocurrencies are a deliberate scam, granting bitcoin a welcome credibility boost…sort of.
Instead of the usual criticism, the report paid bitcoin a rather backhanded compliment by its description as a “naturally occurring Ponzi.” In other words, “no one is actually in charge of manipulating bitcoin, but its still bad news because, you know, economics.”
The “Ponzi” word comes up so frequently in conversations about bitcoin, that it is worth a reminder as to what it actually means. Here is an excerpt from an article that I wrote for Bitcoin Magazine back in February of 2014:
“Ponzi schemes are characterized by a few common traits. First, funds are continuously solicited from “investors,” who are typically enticed by high pressure sales tactics touting extra-normal returns and warning that prospects will “regret it forever” if they don’t get in soon. These claims generate both excitement and a sense of urgency, often resulting in victims “investing” more than they can comfortably or safely afford. There may be restrictions or limitations on withdrawals from the investment, which keeps the scheme stable by holding victim funds captive.”
Wikipedia has more on this subject here.
The World Bank’s description of bitcoin as a “ponzi” seems to turn on the idea that speculative activity creates bubbles in asset markets (surprise!). Then, like a high stakes game of musical chairs, the last person with bitcoins in their pocket after a market crash loses. What the World Bank doesn’t spell out is just how bitcoin is special in this regard. Wealth in the form of securities, commodities, or cash held in a bank could just as easily vanish under the right circumstances, couldn’t it?
The housing bubble* of the mid to late 2000’s is probably the most acute example of an asset bubble in recent memory. For tens of thousands of homeowners, the mere whisper of the word “bubble” is enough to send chills down the spine. However, bitcoin is different from houses in that bitcoin is not the beneficiary of decades of aggressively generous public policy encouraging speculation. Borrowed funds are not readily available to speculate in cryptocurrencies, nor do they exist in an environment that is effectively free from moral hazard. Bitcoins must be purchased with the buyer’s own cash and at his own peril.
To the World Bank’s credit, it is possible that bitcoin could be abandoned by most of its users in short order, sending the value plummeting. It is also possible that a hitherto unconsidered Black Swan type event could do the same to the US Dollar (default on US debt obligations, perhaps?). Bitcoin, however, boasts a few traits that make it likely to continue to grow, even if it is unlikely to actually replace state-sponsored money.
Cryptocurrencies are far from mature. Bitcoin in particular has a number of serious technical issues to overcome before it can truly enter the mainstream. Spurious criticisms using language calculated to cause alarm (“naturally occurring Ponzi”) are nothing more than a distraction from genuine efforts to solve those problems.
*Side note- If you have never listened to the episode of This American Life on the mortgage backed security debacle entitled “The Giant Pool of Money,” you should check it out.