Where the NY Fed 'Bitcoin Is Not New' Blog Goes Wrong

A recent post categorizing Bitcoin as just another fiat currency uses some strange definitions of money, our columnist writes.

AccessTimeIconJun 24, 2020 at 1:01 p.m. UTC
Updated Sep 14, 2021 at 8:55 a.m. UTC
AccessTimeIconJun 24, 2020 at 1:01 p.m. UTCUpdated Sep 14, 2021 at 8:55 a.m. UTC
AccessTimeIconJun 24, 2020 at 1:01 p.m. UTCUpdated Sep 14, 2021 at 8:55 a.m. UTC

CoinDesk columnist Nic Carter is a partner at Castle Island Ventures, a venture fund based in Cambridge, Mass., that focuses on public blockchains. He is also the co-founder of Coin Metrics, a blockchain analytics startup.

Recently, two staffers at the New York branch of the Federal Reserve published a short tract provocatively entitled "Bitcoin Is Not a New Type of Money." As someone who has used bitcoin for payments, savings and a means of wealth transfer for the last half decade, this was news to me. I was curious to find out what I had been using this whole time, if not money.

In the article, the authors, Michael Lee and Antoine Martin, first distinguish money versus the mechanism of exchange. No complaints there: Venmo isn’t money, it’s a means of moving money around. Same for SWIFT and Fedwire and PayPal and so on. The dollars circulating within those systems constitute the money. Then the paper gets into more tendentious territory, somewhat brusquely dividing money into “fiat money, asset-backed money, and claim-backed money.”

Fiat money, they tell us, “corresponds to intrinsically worthless objects that have value based on the belief that they will be accepted in exchange for valued goods and services.”

They explain that Federal Reserve notes suit this definition, as do Rai stones, Ithaca HOURs (a time-based local currency in New York) and Bitcoin. The authors also claim that gold coins sit in the “asset-backed money” category. Assets in this category “derive their value, at least in part, from the assets backing the money.” Gold coins are valuable “because it is possible to melt a coin and find someone who would like to use the metal for another purpose.”

If you are confused at this point, I don’t blame you. The authors seem to mischaracterize not only bitcoin, gold, and Rai stones, but they also rely on an ersatz definition of “fiat money” that is well outside the mainstream.

Let’s start with some pedantry. The authors’ choice of words drives the conclusion that bitcoin is "just another example of fiat money” with its main contribution being its novel settlement network instead.

Fiat, in Latin, is the third person present subjunctive form of facere (to do or make). As a reminder, the subjunctive is a verbal mood which expresses a desire or a condition. While the subjunctive is explicit in Latin and its romance linguistic descendants, it’s less common in English. It does pop up here and there though. The indicative mood states a plain fact about something — "You are suffering from gout," for instance. This contrasts with the subjunctive which can express a wish – "May you be cursed with gout." Another English phrase featuring the subjunctive is "May the force be with you."

The authors’ ultimate mistake is to fixate on this distinction between intrinsically worthless monies versus intrinsically valuable ones.

Thus, one of the most famous uses of "fiat," Fiat Lux in Genesis 1.3, translates to Let there be light (the indicative version would read There is light). So in Latin, fiat effectively means “let it be done” or “may it happen.” Later, fiat entered the English lexicon as a noun, denoting a decree or a command. It connotes authority, but much of its modern usage implies a certain weakness in that authority. “To rule by fiat” suggests the ruler has lost the power to persuade and must rely on dictatorial and arbitrary measures to impose their will.

Thus, "fiat money" typically refers to money that has value because a government decrees it. Of course, governments cannot simply declare that pieces of paper have value and expect that to stick. In practice, they backstop their currencies with legal tender laws, which elevate a particular currency in commerce, and by creating demand for that currency through the creation of a tax liability (Americans must pay taxes in dollars).

The U.S. encourages the primacy of the dollar by imposing capital gains taxes on the fluctuations of foreign currencies (but not the dollar), and only selling Treasury bonds for dollars and maintaining mutual defense treaties with commodity producers who agree to price their exports in dollars. Some states even try and trap funds within their borders and outlaw currency conversion.

So, adhering to this definition, it’s evident that bitcoin (and gold, and other collectible or commodity-based monies) is not fiat. Much like gold, bitcoin has value because millions of people worldwide find merit in its particular qualities, and so choose to transact with it and hold it as a savings and investment device. There is no state or single authority that guarantees the value of gold or bitcoin. No one is forced to use bitcoin. It is truly non-coercive and opt-in.

And far from being a shortcoming, this lack of backing is a useful quality for monetary assets, because with backing inevitably comes risk. The legitimacy of state regimes is fragile, and sometimes governments decide to plunder their currency to finance spending. With currency, benevolence from a state benefactor is not guaranteed. While some currencies like the dollar are long-lived and relatively stable, many others are highly inflationary or periodically devalued. Just recently, Argentina defaulted for the ninth time, crushing the peso. And due to mismanagement and state indebtedness, Lebanese savers have been effectively expropriated by devaluations this year. This is the flip side of fiat. Guarantees can turn to betrayal in short order.

This point is worth dwelling on because it’s the market-driven nature of bitcoin’s rise that is so remarkable. While many commodities have undergone spontaneous monetizations over time to serve as monetary goods, Bitcoin’s rise has been particularly rapid and well documented. Many monetary goods have been monetized and de-monetized (often as cheaper ways to manufacture them were invented, reducing their scarcity).

The authors’ ultimate mistake is to fixate on this distinction between intrinsically worthless monies versus intrinsically valuable ones. In the final calculus, nothing is intrinsically valuable – not even gold. Value is a function of a third party’s ability to derive utility from something. Monetary goods are useful because of their role in society, as savings instruments, ways to demonstrate wealth, as settlement media in trade, and as units of account. Their societal context is inherent.

It’s a quirk of our nature that we have spontaneously settled on particular types of shells, patterned glass, chemical elements, or even slots on a virtual ledger and elevated them to the status of money. Without being thrust into a very human context of commerce, trade, and wealth storage, they would not have the primacy that they do. The more useful distinction is not between inherently valuable and worthless monetary goods. It’s between those that the market spontaneously chooses to use for trade, and those that governments coercively impose upon us.

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