Throwing Rocks at the Google Bus: How Growth Became the Enemy of Prosperity (19 page)

The other choice is for the government to take on debt by borrowing money from the central bank and giving it to workers—ideally, people who are doing some task for the government, such as building infrastructure or providing a social service. The money these workers earn as payroll is then circulated through the rest of the economy when they make purchases. When the economy recovers, the government collects more taxes to pay back the central bank.

That strategy, employed successfully during the Great Depression, would be a tough sell today. Many of our elected leaders don’t understand concepts as simple as the debt ceiling; most Americans don’t realize that federal spending has been flat or down since 2009, lower than at any time
during the Reagan administration, and even lower than Paul Ryan’s infamous budget proposal of 2011.
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They don’t even see how improving infrastructure can itself stimulate economic activity
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or that the very best time for the government to borrow money for that purpose is when interest rates are close to zero. It still feels like charity or socialism.

What people have a hard time wrapping their heads around is that putting money into circulation should be less about paying people for working or not working than it is about giving people a means to transact. We don’t need the government to hire unnecessary workers; we need people to be able to exchange value with one another. Cash could serve that utilitarian purpose if it weren’t so wrapped up in its other, more extractive function. This is the heart of the divide between the supposed 1 percent and the people. Our ability to generate value has been paralyzed by our inability to find a means of exchange. People who work for a living are suffering under a system designed to favor those who make their money with money. Yes, it’s what Marx was saying; but there’s an out. We’re not looking at a fundamental property of economic activity or even an unintended consequence of capitalism. This is an economic operating system working as it was programmed to. And we can program it differently.

Thankfully, we have both the perspective and the tools required to change the operating system of money, either by adjusting the one we use or by building some new ones. Although business intransigence and government incompetence will likely forestall any meaningful modifications to the central currency system, the greater digital landscape fosters alternative approaches to enabling transaction.

Besides, there’s no reason to ask central currency to do something other than what it was programmed to do. It’s a great tool for storing and growing wealth, for long-distance trading, and for large-scale, expansionist
investing. It’s just not a great tool for transactions between smaller players or for keeping money in live circulation. So let’s not use it for that. Just as we don’t ask a carpenter to build a house using a hammer but no saw, we can’t expect the economy to function with just one monetary tool. Contrary to our intuition, we can have more than one form of money in operation at the same time. This wouldn’t be a Communist plot at all; on the contrary, we would merely be subjecting currency to the open competition of a free market. May the best money or moneys win.

If we’re going to consider remaking money for a digital age, however, we have to decide just what we want it to do. In programmer-speak, what are we programming
for
? The various answers to this very simple question lay bare the biases underlying many of the loudest proposals for changes to our currency system. For instance, what does pushing for a gold standard accomplish other than raising the portfolios of those who have already invested in gold? Requiring the Treasury to back every dollar with a certain amount of gold would certainly prevent the central bank from going on a printing spree. Money would get a fixed value, and there would be no threat of inflation. But how would a gold standard promote circulation over hoarding? It wouldn’t. A gold standard is optimized to address fear that one’s savings are not safe if they’re measured in government-backed dollars. But gold-backed currency would be no better at promoting a peer-to-peer marketplace than gold coins were back in the Middle Ages. It’s biased toward scarcity.

Bernard Lietaer, one of the economists who helped design the euro, has been proposing since 1991 that fiat currencies—money declared legal by the government but not backed by a physical commodity—be replaced or at least augmented with currencies that represent a “basket” of commodities.
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His current suggestion is to create a currency that is backed by one third gold, one third forests, and one third highways. The gold is the fixed-commodity component, as there is only so much of it. Forests are the growth component; trees grow. And highways, thanks to tolls, are the income component. As an investor’s response to deflation, or even as a new reserve currency, it makes sense.

But if we’re trying to compensate for the way central currency tends to work its way out of circulation and into the bank accounts of the already wealthy, we should be looking instead for ways to help money move around better. This has less to do with making sure money has some intrinsic value for long-term storage and accumulation into the future, and a lot more to do with making sure it can serve as a medium for exchange right now. In economic programming terms, we should optimize no longer for the growth of money but for the
velocity
of money. Not for saving money but for exchanging it. By analogy to another newly digitized medium, it’s less about finding a way to preserve movies, such as videotapes or DVDs, than about finding a way to distribute them to people’s homes, such as through digital cable and satellite. We’re less concerned with the content itself than with promoting its movement. In that respect, the money itself doesn’t matter, anyway, except insofar as it helps people exchange goods and services. Perhaps that’s why most of the first real innovations in digital currency had to do less with new kinds of money than with new means of transferring it.

For instance, the first online selling platforms, most notably eBay, turned millions of regular people into vendors for the first time. But there was no easy way for them to accept payments. Checks could take weeks to clear, stalling delivery unless sellers were willing to ship without funds verification. Credit cards were impractical: most casual sellers didn’t make enough sales to offset the costs of a business account and payment processing system.

PayPal created the first utility capable of addressing the rising need for peer-to-peer transactions. The original model was simple. Buyers and sellers registered their bank accounts or credit cards with PayPal. The buyers authorized electronic transfers to PayPal. PayPal then informed the seller that the funds were secure, and the seller mailed the merchandise. The buyer verified its arrival, and PayPal released the funds to the seller. PayPal served as both a trusted exchange agent and an escrow account. The whole service was free, since PayPal could earn interest on the money during the three or four days it held it in escrow.

But the banking industry and its regulators sensed an upstart in the
making and challenged the company’s legality. Only regulated savings institutions are entitled to make money on “the float,” as PayPal was doing. So PayPal changed its business model and began charging buyers and sellers directly for the service.
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Still, PayPal was the first of many companies to promote peer-to-peer transactions by lowering the barriers to entry into the existing money networks. A company called Square took this a step further, developing both the technology and the accounting infrastructure through which people could swipe credit cards and accept payments through their smartphones. Although many coffee shops and smaller retail stores now use Square and an iPad in place of more cumbersome and expensive credit-card systems, the people most dramatically empowered by the system were independent sellers and service people and those who want to pay them. Google and Apple, meanwhile, are competing to develop new ways of using credit cards and bank accounts through phones and tablets—technologies that, presumably, could help the smallest businesses as much as the biggest ones.

These systems increase the velocity of money by fostering transactions between nontraditional players, making them simpler to execute, easier to verify, and faster to complete. So far, however, they all use the same, rather expensive transaction networks—such as those run by the credit-card companies or the automated clearinghouse (ACH) system that serves banks.
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In fact, they’re really just digital dashboards for the existing trust authorities, which still validate every transaction and absorb part of the cost of fraudulent transfers—currently over $10 billion per year.

Don’t cry for them yet; this is merely another way for them to justify their transaction fees. Without bad players, remember, the trusted authorities wouldn’t be necessary. Credit-card companies are earning 3 or 4 percent on every purchase. That’s more than the growth rate of the entire economy. And it doesn’t even account for the primary source of credit-card company revenue, which is all the interest customers are paying (or further accumulating) on their balances. When a whole marketplace is not only paying up to the bank in the form of debt-based money but also
paying a trusted authority to verify transactions, marginal costs become unsustainable. Merchants must mark up their prices to account for all the transaction fees, and commerce slows. Only giant retailers, with the ability to borrow money less expensively or even offer their own credit cards, are capable of reducing these fixed costs by filling some of the roles of the trusted central authority themselves.

Besides, as the ever-increasing frequency of major credit-card and consumer-information theft has shown, none of these systems is particularly safe. The trusted central authorities really aren’t so good at what they do. From Target to J.P. Morgan, a single cash register or employee laptop can become the entry point for a systemwide hack, rendering all users vulnerable to credit fraud and identity theft. These companies’ security services are fast becoming loss leaders for their more lucrative lending schemes.

Viewed in this light, this first generation of digital transaction networks are not revolutionary but reactionary. They ensure that the newly decentralized marketplace remains entirely dependent on the same centralized institutions to conduct any business. Meanwhile, the currency they employ—bank-issued reserve notes—is itself the product of a trusted central authority that also charges for its services. This, as we have seen, is an even bigger drag on the potential velocity of money.

What good is a distributed network like the Internet if all the actors on it still depend on central authorities in order to engage in peer-to-peer activity? How is it truly peer-to-peer if it goes through a central clearinghouse? It’s still a bunch of decentralized individuals, each interacting with a monopoly platform—a new front end on the same old system.

These are the problems that the next generation of digital transaction networks are aiming to address. How can a distributed network of participants transfer and verify value collectively, without the need for a central authority? Is that even possible? Could a money system look and act less like iTunes and more like BitTorrent, where, instead of depending on a platform monopoly to negotiate everything, all the participants use
protocols to interact with one another directly? Could a digital money system achieve with openness what traditional banks do with secrecy?

The only way to find out is to start as openly as possible. That’s why Bitcoin first appeared as the subject of a 2008 white paper authored by someone (or multiple someones) going under the name Satoshi Nakamoto. The paper outlined a concept for a virtual currency created and traded on a peer-to-peer, open-source platform. It would need no central authority to issue it, nor any central middleman to verify or administer its transactions. The network platform would be called Bitcoin, and its currency would be called bitcoins.
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This idea was not entirely new. Virtual and decentralized currencies had been tried in the past. But what set Bitcoin apart was its proposed method for ensuring the legitimacy of these transactions. As Nakamoto explained, in order for a currency to function as a medium of exchange, it must meet two basic standards: First, users must be reasonably certain that the currency they hold is not counterfeit. Second, the currency can’t be “double-spent”—that is, an unscrupulous buyer can’t spend the same money on two separate transactions. Meeting these standards is fairly simple for centralized currencies. High-tech printing techniques discourage counterfeiting. Credit and banking clearinghouses offer protection against double spending by maintaining secure ledgers of people’s accounts; spend money, and it is immediately subtracted from the single, centralized ledger.
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Nakamoto’s paper proposed that a distributed network could generate even greater security than a centralized money system if users pooled their computing resources to maintain a collective and open ledger of their own. He outlined the proposed technology, thousands of people commented and made suggestions, and in 2009 the Bitcoin network was launched.
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Understanding how Bitcoin works isn’t crucial to being able to use it, any more than understanding the chain of possession of electronic ballots is crucial to being able to cast a vote. But the more we understand Bitcoin’s
technology, the more we can trust it without relying solely on the word of those more digitally literate than ourselves. That’s why Bitcoin’s code is published and open source: if you’re afraid there’s some government or criminal in there running things, just look at the code and you’ll see what’s going on. I’ll explain it here briefly, but the main takeaway is that there’s no one in charge—which means the biases of Bitcoin are very different from those of a traditional interest-generating money system. This is a money system that works through protocols—digital handshakes between peers—instead of establishing security through central authorities.

Bitcoin is based on a database known as the “blockchain.” The blockchain is a public ledger of every bitcoin transaction ever. It doesn’t sit on a server at a bank or in the basement of a credit-card company’s headquarters; it lives on the computers of everyone in the Bitcoin network. When bitcoins are transacted, an algorithm corresponding to that transaction is “published” to the blockchain. The algorithm is just a description of the transaction itself, as in “2 bitcoins came from A and went to B.” Instead of a list of users and their bitcoin balances, the ledger simply lists the transactions in chronological order. It doesn’t follow people, it follows the money. It’s not a record of how much you have as much as a record of where the money came from and where it is going to.
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To get a transaction into the ledger, two users must first agree to the exchange. Using a pretty standard form of cryptography (public and private “keys”), both users “sign” the intended transaction, at which point it is broadcast to the network. Immediately, other members of the network who have devoted some of their computers’ power to the Bitcoin process begin verifying the transaction and committing it to the public ledger. This part involves solving a bunch of computational puzzles—a way of guaranteeing that a whole lot of different computers have verified the transaction before it goes in. This prevents one bad actor from posting fake transactions into the ledger. He’d need more computing power himself than the whole network of thousands of users in order to overpower them. When enough people verify the transaction, it becomes part of the permanent ledger—part of a new block of transactions, recorded in the chain. (That
takes about ten minutes, compared with a bank, which might take up to a week to confirm new funds.) As the system gets up to speed, people who verify and maintain the blockchain are rewarded with bitcoins. That process is called “mining,” and it is how new bitcoins enter circulation. This dilution of the money supply, as such, is infinitesimal compared with credit-card fees, and its drag on transactions is negligible.
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