This wonderful book is titled The Bitcoin Standard The Decentralized Alternative to Central Banks Saifedean AmmousChapter Chapter 1 Money Bitcoin is the latest technology to serve as currency, an invention that harnesses the technological possibilities of the digital age to solve a problem that has persisted for as long as humanity has existed: how to move economic value through time and space. To understand Bitcoin, you first have to understand what money is, and to do so there is no other option than to study its function and history. The simplest way for people to exchange value is to barter valuable items for one another. This process of direct exchange is called barter, but it is only practical in small circles where a few goods and services are produced. There is little room for specialization and trade in a hypothetical economy of a dozen people isolated from the rest of the world, where each individual could dedicate himself to the production of one of the most basic elements of survival and exchange it with one another directly. Barter has always existed in human societies, and its practice continues to this day; But this is not very versatile and remains in use only in exceptional circumstances, usually among people who are well acquainted with each other. A larger, more complex, and more sophisticated economy makes it possible for individuals to specialize in the production of more and more diverse commodities and to exchange them among many more people—people with whom one has no personal relationship, strangers with whom it is very impractical to keep a running tally of goods, services, and favors. The larger the market, the greater the possibilities for specialization and exchange, but so too does the problem of coincidence of wants—that is, the problem of having what one wants produced by someone who does not want what one has to sell or exchange. The root of the problem goes far beyond the fact that there are different requirements for different goods, and has three dimensions. First, there is the mismatch in scale: the good you want may not be of the same value as the good you have, and it may not be practical to divide one of them into smaller units. Imagine that you wanted to trade shoes for a house; you cannot buy the house in small pieces, each of which is worth a pair of shoes, and the owner of the house would not want to own all the shoes whose combined value is equal to that of the house. Second, there is the mismatch in timeline: what you have to sell may be perishable, but what you want to buy may be more durable and valuable, making it difficult to accumulate enough perishables to exchange for the durable good at any given time. It is not easy to accumulate enough apples to trade them all at once for a car, because they will go bad before you can close the deal. And third, there is the mismatch in location: you may want to sell a house in one place to buy a house somewhere else, and houses (or most of them) are not transportable. These three problems make direct exchange very impractical, which means that people have to resort to several levels of exchange to satisfy their economic needs. The only way around this is through indirect exchange: you try to find some product that someone else wants, and someone who will trade it with you for whatever you want to sell. This intermediate good is an instrument of exchange, and while any product could serve as such, as the scope and size of the economy grows, it becomes impractical to endlessly search for different goods that a counterparty is looking for, which may require multiple exchanges for every exchange you want to make. A much more efficient solution will emerge naturally, if only because those who use it will be much more productive than those who don't: a single instrument of exchange (or at most a smaller number of mediums of exchange) emerges for everyone to exchange their goods for. A good that is given the widely accepted role of an instrument of exchange is called money. Being an instrument of exchange is the quintessential defining function of money; In other words, it is not a good acquired to be consumed (a consumer good) or to be used in the production of other goods (an investment, or capital good), but above all to be exchanged for other goods. Although an investment also has the purpose of generating income that isAlthough money can be exchanged for other items, it differs from money in three ways: first, it offers a return, which money does not; second, it always involves a risk of failure, whereas money is supposed to carry the lowest risk; and third, investments always enjoy a lower degree of liquidity than money, and require considerable transaction costs each time they are used. This can help us understand why there will always be a demand for money, and why owning investments can never fully replace money. Human life is lived with uncertainty as a matter of fact, and we cannot know for sure when we will need a certain amount of money.6 It is common sense, and part of an ancient wisdom in almost all human cultures, that someone would want to keep part of his wealth in the form of money, because it is the most liquid property possible, allowing the owner to liquidate quickly if needed, and because it also involves less risk than any investment. The price of the convenience of holding money is expressed in that it entails foregoing the consumption that could have been carried out with it, and also foregoing the return that could have been obtained if it had been invested. After examining such human choices in market situations, Carl Menger, the father of the Austrian school of economics and founder of marginal analysis in economics, came up with the essential property that leads a good to be freely adopted as currency in the market, and that is salability, the ease of selling a product in the market whenever its holder wants it, with the least detriment to its price.7 In principle, there is nothing that stipulates what should be used as money and what should not. Anyone who decides to acquire something not for itself, but with the intention of exchanging it for something else, is in effect converting it into money; and as individuals evolve, so do their opinions and choices about what does and does not constitute money. Throughout human history, many things have served as currency: gold and silver, most notably, but also copper, seashells, large stones, salt, livestock, government securities, precious stones, and even alcohol and cigarettes under certain circumstances. People's choices are subjective, so there is no "right" or "wrong" choice of currency. However, the choices made do have consequences. The relative salability of a product can be assessed by how well it addresses the three facets of the mismatch of wants problem mentioned above: its salability at various scales, in space, and in Time. A good that is salable on various scales can be conveniently broken down into smaller units, or grouped into larger units, allowing the owner to sell it in any quantity he wishes. Salability in space indicates the ease of transporting the product or carrying it with him when he travels, which has led to the use of monetary means that, as a rule, have a high value per unit of weight. There are a large number of goods that could serve the function of money and easily have both characteristics. It is the third element, salability in time, that is the most important. The salability of a good over time refers to its capacity to retain value in the future, which would allow its owner to store wealth from it, which constitutes the second function of money: store of value. For a good to be salable over time, it must be immune to deterioration, corrosion and other types of degradation. It is safe to say that anyone who ever thought he could preserve his wealth for a long time in fish, apples, or oranges learned his lesson the hard way, and that person probably had little reason to hoard wealth for a long time. However, physical integrity over time, although a necessary condition, is insufficient for saleability over time, since a product can lose significantly in value even if its physical condition remains unchanged. For a good to retain its value, it is also necessary that the supply of it not increase radically during the period in which the owner possesses it. A common feature of the different forms of currency throughout history is the presence of some kind of mechanism to limit the production of new units of the good in question and thus maintain the value of existing units. The relative difficulty involved in producing new units of currency determines the soundness of money: a currency whose supply is difficult to increase is known as a strong currency, while a weak currency is one whose supply is amenable to large increases. We can understand the concept of currency strength by understanding two distinct indicators of the supply of the good: 1) stock, which is the existing supply made up of everything that has been produced in the past, minus everything that has been consumed or destroyed, and 2) flow, which is the additional production that will take place in the next period. The ratio between stocks and flow is a good indicator of the supply of the good. The strength of a currency and its suitability for performing a monetary function depend on it. A good with a low stock-to-flow ratio is one whose existing supply could be dramatically increased if people began to use it as a store of value. Such a good is unlikely to retain its value if it were chosen as a store of value. The higher the stock-to-flow ratio, the more likely a good is to maintain its value over time and thus be more salable in the long run. 8 If people choose a strong currency as a store of value, with a high stock-to-flow ratio, then acquiring it for hoarding would increase demand for it, causing its price to rise, which would give its producers an incentive to make more of it. But because the flow is small compared with the existing supply, even a large increase in new production is unlikely to cause its value to fall significantly. On the other hand, if people choose to hoard their wealth in a weak currency with a low stock-to-flow ratio, it would be easy for the producers of that good (that currency) to create large quantities of it, causing the price of the good to fall and devalue it, thereby expropriating the wealth of savers and reducing the salability of the good over time. I like to call this the easy money trap: anything used as a store of value will see its supply increase, and anything whose supply can be easily increased will destroy the wealth of those who have used it as a store of value. The corollary to this trap is that anything successfully used as currency will have some natural or artificial mechanism that tends to limit the new flow of the good into the market, thus maintaining its value over time. It follows that for something to assume a monetary role, that something must be expensive to produce; Otherwise, the temptation to make money cheaply will destroy the wealth of savers, as well as the incentive for anyone to accumulate by such means. Whenever a natural, technological, or political event has resulted in a rapid increase in the supply of a monetary good, it has lost its status as currency and has been replaced by another instrument of exchange with a more reliable stock-to-flow ratio, as will be discussed in the next chapter. Seashells of a certain kind were used as money when they were hard to find; loose cigarettes are used as payment in prisons because they are difficult to obtain or make; and, as regards the As with national currencies, the slower the rate at which their supply increases, the more likely people are to hold on to them, thereby maintaining their value over time. When new technologies made it easy to import and harvest seashells, societies that used them as currencies switched to metal or paper money; and when a government increases the supply of its currency, its citizens eventually buy foreign currencies, gold, or other more reliable monetary assets. The twentieth century has provided us with a sad and enormous number of tragic examples of this, particularly in developed countries. The monetary media that have survived the longest are those that have had reliable mechanisms to restrict the growth of supply—in other words, hard currencies. Competition among monetary media is alive and well all the time, and the results of this can be predicted by the effects of technology on the different stock-to-flow ratios of the competition, as will be shown in the next chapter. While people are generally free to use whatever good they like as an instrument of exchange, the reality is that those who use a strong currency will benefit most over time by losing very little value to a paltry new supply of their instrument of exchange. Those who choose a weak currency are likely to lose value when its supply grows rapidly, driving down its market price. Whether through eventual forward-looking rational calculation or through the harsh lessons of hindsight, most money and wealth will be concentrated in those who choose the strongest and most salable forms of currency. However, the strength and salability of a good is not static over time. Just as the technological capabilities of different societies and at different times have varied, so too has the strength of different forms of currency and thus their salability. In reality, the choice of what makes one currency better than another has always been determined by the technological realities of the societies that shaped the salability of different goods. Austrian school economists are therefore rarely dogmatic or objectivist in their definition of sound money, which they define not as a specific good or product, but as any currency that arises in the market, freely chosen by the people who transact with it, not imposed on them by any coercive authority, and whose value is determined by the market. through market interaction, not through government imposition. 9 Free market monetary competition is ruthlessly efficient at producing sound money, since it only allows those people who choose the right currency to maintain their wealth over time. Government intervention is not necessary to force the strongest currency on society, since society will discover this for itself long before its government does; and any government imposition, if it were to have any effect, would only serve to hinder the process of monetary competition. The full individual and societal implications of strong and weak currencies are much deeper than mere financial gain or loss, and they are a central theme of this book, which is why they are thoroughly examined in Chapters 5, 6, and 7. Those who are able to save their wealth in a good store of value tend to plan for the future more than those with poor stores of value. The soundness of the monetary medium, based on its ability to hold value over time, is a key factor in how much people value the present over the future, or their time preference, another of the central concepts of this book. Beyond the stock-to-flow ratio, another important aspect of the salability of a monetary medium is its acceptability by other people. The more people accept it, the more liquid it is, and the more likely it is to be bought and sold without too much loss. In social contexts with many P2P interactions, as demonstrated by computer protocols, it is normal for some rules to emerge to dominate the exchange, since the benefits derived from joining a network grow exponentially the larger the network. That is why Facebook and a few other social networks dominate the market despite the fact that hundreds of other almost identical networks have been created and promoted. Similarly, any device that uses email must use an IMAP/POP3 protocol to receive email, and an SMTP protocol to send email. Many other protocols have been invented that could have been used perfectly, but nobody uses them, because if a user did, he or she would be unable to interact with virtually anyone who uses email today, since they are on IMAP/POP3 and SMTP. The same is true of money. It was inevitable that a good or some goods would emerge as the main instrument of exchange, because ownership The ability to be exchanged easily is the most important. As already noted, a medium of exchange is not acquired for its own sake, but for its salability. Furthermore, the wide acceptance of a medium of exchange enables all prices to be expressed in its terms, which enables it to perform the third function of money, that of being a unit of account. In an economy without a recognized medium of exchange, every good would be expressed in terms of every other good, leading to an enormous number of prices and making economic calculations extremely difficult. In an economy with an instrument of exchange, all prices of all goods are expressed in terms of the same unit of account. In this society: money serves as a standard by which to measure interpersonal value; it rewards producers to the extent that they provide value to others; and it tells consumers how much they need to pay to obtain the desired good. Only with a uniform instrument of exchange acting as a unit of account do economic calculations become possible, and with them the possibility of specialization in complex tasks, of capital accumulation, and of the creation of large markets. The functioning of a market economy depends on prices, and prices, to be precise, depend on a common instrument of exchange that reflects the relative dearness of different goods. If this is a weak currency (easy money), the ability of the issuer to constantly increase its quantity will prevent it from accurately reflecting so-called opportunity costs. Every unpredictable change in the quantity of money will distort its role as a measure of interpersonal value and a conduit for economic information. Having a single medium of exchange allows both the size of the economy and the number of people willing to use that instrument to grow. The larger the size of an economy, the greater the opportunities for gains from exchange and specialization, and, perhaps more important, the longer and more sophisticated the structure of production can become. Producers have the opportunity to specialize in producing capital goods that will only produce final In the modern world, fish are caught using more sophisticated capital tools, and the production of these tools significantly extends the duration of the production process while increasing its productivity. In the modern world, fish are caught using highly advanced vessels that take years to build and operate for decades. These vessels are able to navigate seas that smaller boats cannot reach, as well as produce fish that would otherwise be unavailable. Such vessels can brave the elements and continue to operate in very difficult conditions and in situations where other vessels requiring less capital investment would have to sit unproductively. As capital accumulation has made the process longer, it has become more productive per unit of labor, and can produce higher quality products, something that was not possible in primitive economies with basic tools and where capital accumulation did not exist. None of this would have been possible without money playing three roles: as an instrument of exchange, to allow specialization; the store of value, to provide future guidance and encourage people to direct resources toward investment rather than consumption; and the unit of account, to allow for the economic calculation of profits and losses. The history of the evolution of money has recorded various commodities that have assumed the function of currency, with varying degrees of strength and solidity, depending on the technological capabilities of each era. From seashells, salt, and livestock, through silver, gold, and gold-backed government money, to today's virtually universally used legal tender provided by governments, each step of technological advance has allowed us to use a new form of money with additional advantages, but also, as always, with new drawbacks. By examining the history of the tools and materials that have been used to perform the function of currency over the centuries, we are able to discern what characteristics make a currency good and what makes it bad. Only with this background in mind can we move on to understand how the Bitcoin network works and what its role is as a monetary medium. The next chapter examines the history of strange artifacts and objects that have historically been used as currency: from the rai stones of the island of Yap, to seashells in America, glass beads in Africa andconsumer goods after longer intervals, making possible higher quality and more productive products. In early small economies, the structure of fish production consisted of people coming to the shore and catching a fish with their hands, a process that could take a few hours from start to finish. As the economy grows, tools and goods are used to produce the final consumer goods. cattle and salt in antiquity. Each of these instruments of exchange served as money for a period during which such instruments had one of the best stock-to-flow ratios available to their population, but ceased to be used as money when they lost that property. Understanding how and why this happened is fundamental to understanding the future evolution of money and any likely role that Bitcoin will play. Chapter 3 focuses on the analysis of monetary metals and how gold became the dominant currency worldwide during the time of the gold standard in the late 19th century. Chapter 4 discusses the move to government money and its trajectory. After reviewing the economic and social implications of different types of currencies, which are discussed in Chapters 5, 6 and 7, Chapter 8 presents the invention of Bitcoin and its monetary properties.

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