EP11 Narration - Author - Conner Brown - Stop Calling Bitcoin Deflationary.

Welcome back to the bit by bit podcast. In today's episode, I'll be reading through the second of four articles written by Connor Brown, and as always, if anyone has any questions, please feel free to reach out, either on Twitter or by email, and I'll be happy to answer any questions if I can.

So let's jump straight in. Stop calling Bitcoin deflationary by Connor Brown, published October 29, 2019. Bitcoiners reject inflation. We believe it represents a regressive, silent tax, slowly siphoning wealth from the average person to the politically well connected.

In response, Bitcoin critics claim that while inflation may be frustrating, the alternative is much worse, a stagnant deflationary economy.

This article will one, begin by laying a conceptual foundation for what deflation is. Two, move on to address critics, concerns with falling prices, and three, conclude by showing how Bitcoin's monetary supply actually guards against deflationary spirals.

Part one, Bitcoin is not deflationary, its money supply is relatively constant. First, we need to establish what deflation refers to.

While decreasing prices are colloquially referred to as deflation, deflation is formally a decrease in supply of money or money substitutes. This is an important distinction. Deflation is not a decrease in price itself, but a monetary phenomenon that sometimes causes decreasing prices.

In this sense, Bitcoin is not truly deflationary. Bitcoin's supply will not decrease, but will instead continue to increase until the block rewards run out sometime around 2140.

At that point, Bitcoin will reach a hard cap of 21 million coins. Below, you can see a graph of Bitcoin's emission rate, starting with a relatively high inflation rate, and slowly leveling off over time to a hard cap of 21 million coins.

Okay, so you won't be able to see this, obviously. If you'd like to, I'll put a link in the show notes for the media article, but I'll talk you through every image anyway.

So Bitcoin monetary inflation, and we have a chart here on the y-axis, so the one going up vertical one, we have 0 to 21 million coins in blocks 0, 3, 6, 9, 12, 15, 18, 21, and then along the x-axis, we have the amount of coins coming into circulation.

Basically what it shows is that over time, the amount of new coins that are released have stepped down and become less and less over time.

Okay, so let's read on. The Bitcoin protocol is not inflationary or deflationary in the long run. It is instead programmed to be disinflationary, culminating in a constant monetary base without changes to the supply.

Some may argue the following. Despite the projected constant base, lost coins create deflation as they are functionally coins removed from the circulating supply.

This should not be a concern. Coin losses will decrease over time as coin custody becomes more professional and user friendly. As a result, the highest rate of lost coins were in the earliest days of Bitcoin, and this will continue to decrease over time.

Thus, as expansion of Bitcoin's supply approaches zero, so will decrease in supply from lost coins, culminating in a nice middle ground.

Another argument from critics is while Bitcoin's supply may be constant, populations are growing, therefore a rigid monetary supply will lead to deflationary pressure as a growing number of people chase a fixed monetary pie.

This is also a dubious claim. Across a variety of cultures, population growth declines as societies experience urbanization and higher levels of education.

This downward pressure will continue into the future as regions with the highest levels of population growth continue to industrialize.

Growth rate in the y-axis and years time passing in the X and the total population in billions are just basically showing the curve. So yeah, I mean, have a look at it if you need to, but you get a basic idea.

Above are the latest estimates for population growth from the United Nations. These figures predict population equilibrium by 2100. It's quite ideal, really, a leveling of the world population that coincides with the Bitcoin emission rate approaching zero.

Could we have asked for a better match? Bitcoin is not deflationary in the formal sense of the term. Its supply will continue to increase on a curve that should account for lost coins and a growing population over the next century, with a constant monetary base, Bitcoin will not have any inherent pressure towards higher or lower prices.

It will function as a pure foundation where prices will fluctuate solely based on signals from market participants. While this is a tidy way of showing Bitcoin is not deflationary, it still doesn't address the crux of the credit's arguments and concerns about decreasing prices.

Part two, addressing concerns about falling prices. So, when critics are concerned about Bitcoin being deflationary, they actually mean Bitcoin will make prices go down. Generally, critics have three main concerns about these deflationary prices under a Bitcoin standard.

Workers being outraged at nominal Bitcoin wages falling, ever increasing real debt burdens on Bitcoin-denominated loans. Lack of growth from savers hauling appreciating Bitcoins instead of investing or consuming.

But before addressing these specific cases, let's establish a basic understanding of how prices function. Price basics. Falling prices are natural. Imagine a simple item in a competitive marketplace. Let's say a toothbrush.

Now assume every year this toothbrush gets a little bit easier to produce. Perhaps machines get a little bit better at manufacturing, or supply chains get slightly more efficient. If our consumer demand doesn't change, what should happen to the price? It should decrease. This should not come as a surprise.

Free markets cause product prices to fall as industry becomes more productive and competitors fight for consumers with the lowest possible prices. This is a process that has been happening for thousands of years as humans applied their ingenuity to fulfilling the wants and needs of others.

To prices always decrease. Certainly not. Plenty of common occurrences that hamper production or spike demand can cause price increases. My point is simply that on long timeframes, as humans invest their labor into becoming more productive, items that were once difficult and expensive become cheap and easy to produce.

Thus, decreasing prices are natural and intuitive. Despite this understanding, for decades prices for basic consumer goods have increased and quality decreased.

This is because increased productivity requires a constant monetary base to be fell through prices. Money is the unit that measures this process in a monetary measuring system with a constant base, i.e. Bitcoin.

Increased productivity will translate to decreased prices. However, if the monetary measuring stick is tampered with, i.e. printing presses, then prices will increase year after year despite massive increases in productivity.

With this theoretical understanding, let's turn to specific instances critics are concerned about. Concern one, decreasing nominal wages. Critics are concerned that falling consumer prices under a bitcoin standard will spill over to workers' wages, leaving workers frustrated and demoralized.

The problem is critics forget that wages represent human time. With a toothbrush, it's natural that technological advances make them easier to produce each day, but human time is different.

It is truly scarce and irreplaceable. While one type of work may be automated, a new role opens up for other advances. Jobs are not finite. Thus, while the price of a toothbrush should be expected to fall with constant monetary supply, there is no reason to think the same with the price of human time.

Let's look at data points on this. Below is a chart for prices in America over the 1800s. Right, another chart, so prices on the y-axis, time on the x-axis.

As you can see, this was an era with rapidly falling prices, so what happened to wages? They went up. Bureau of Labor Statistics noted. Overall, the trend of wages were upward, and the movement of the cost of living was downward.

These divergent movements of wages and retail prices combine to produce a substantial rise in real wages. This dramatic rise is all despite a labor supply that multiplied almost 10x from the beginning of the century and a brutal civil war, devastating economies and killing hundreds of thousands.

Now you may be tempted to argue that prices fell so dramatically because America was young and being developed for the first time, but we can see the same action occurring in the technology sector today. Prices for electronics have been falling for decades, yet companies still manage to pay employees competitive wages.

So it's certainly possible that even when prices are naturally falling from increased productivity, that the cost of labor could stay the same or even go up. But if the critics' fears come true and wages do go down nominally, what matters is purchasing power.

To say workers will get upset despite being able to purchase larger amounts of higher quality goods treats them like children unable to do basic arithmetic. In comparison, inflationary money loses value every year, leaving the average person without a safe place to stall their savings, while the wealthy profit of financial assets.

This is especially painful, giving the phenomenon of sticky wages. Below is a chart demonstrating a complete decoupling of productivity and compensation that cleanly lines up with leaving the last remnant of sound money.

When companies put the brakes on worker pay, growth in productivity and hourly compensation since 1948.

Ooh, okay, so another chart here is basically showing that between 1948, 2017, productivity has just steadily risen, very constant, up 246%. And compensation rose with it right up until 1971, 1972, and then has just absolutely flatlined.

Again, if you want to have a look at this, you can, but I think basically what he's trying to say here is that something happened in 1971, and I'm sure we'll find out a little bit more about that shortly.

The trends shown above lead to predictably dire outcomes, serious and increasing levels of income inequality, populism and social unrest. If critics were truly concerned about workers, they would support Bitcoin as a savings technology for the average citizen to protect their savings from involuntary, silent dilution.

Concern two, increasing real debt burdens. Critics also claim that as Bitcoin appreciates real debt burdens from Bitcoin-denominated loans would increase. They fear this will create debtors who are unable to pay the lending rendered impossible. This take is naive at best. It assumes that Bitcoin will appreciate forever.

Here it's helpful to recognize the evolution of Bitcoin as money. A new superior money cannot simply come into the world perfectly formed. It requires time.

The early stages involve Bitcoin slowly absorbing value from traditional stores of value on its assented global reserve status. This initial phase of price discovery may take decades as Bitcoin gains liquidity and market capitalization against other traditional reserve assets,

due to its superior monetary attributes. As Bitcoin slowly wins the monetary competition, it will transition to a reliable standard for accounting and exchange value as well.

At these later stages, Bitcoin will become a reliable unit of account as it stabilizes against other assets. Those concerned about pricing debts in Bitcoin are confusing the timeline.

But the good news is, no one is suggesting that. However, later in Bitcoin's adoption, once value has slowly stabilized, debts will be easy to price and their real value will remain stable as the asset itself will have matured into a reliable unit of account.

In turn three, stagnant growth from decreased investment or spending. Finally, critics worry that Bitcoin will create a stagnant economy as people hoard appreciating money rather than invest in businesses.

This is another case of confusing Bitcoin's evolutionary trajectory. As mentioned above, once Bitcoin price discovery phase comes to an end, it will slowly stabilize relative to other assets.

At that point, it will function as a global value constant for communicating prices and making investment decisions. At these later stages, investors will certainly still be motivated to invest Bitcoin for Bitcoin returns,

while simply hodling would be akin to a low risk-free rate. This shift will actually promote better investments due to inflation, high net worth individuals and financial institutions are forced to harbor their money into speculative ventures just to protect themselves from inflation's decay.

With Bitcoin functioning as a storage vehicle that cannot be diluted, the manic hunt for risk-free safety from inflation will be a thing of the past, leading to more accurate and measured investment decisions.

But what about spending when prices are decreasing? Will people spend less and slow growth? Let's look at the research. This makes intuitive sense as well. Decreasing prices do not mean people are suddenly going to stop spending.

People still have needs and will spend their money to meet those needs. This holds for non-essential goods as well.

The technology industry has experienced a profound deflationary trend in prices for decades, but consumers keep lining up for new releases. In fact, we should expect people to spend more as prices drop due to the wealth effect of feeling their purchasing power increase.

Consumers love seeing prices go down. There's a reason everything in target is perpetually on sale. Part 3. How Bitcoin prevents systemic deflation? The deflationary spirals that keep mainstream economists awake at night will be much less common and severe under a Bitcoin standard.

Again, money is the measuring system that market participants use to convey prices. When a money can be manipulated through central banks printing money out of thin air, altering reserve ratio requirements and raising and lowering interest rates, this measurement system is distorted.

By creating a series of artificial market signals and manipulating the price of credit, inflationary monetary supply leads to overleveraged and mismanaged investment. Risk is mispriced. People can consume more than they produce, and market excess, a la we were, can continue for longer than would have happened absent intervention.

Unfortunately, what goes up must come down, artificially stimulating an economy leads to poor investments, and a bubble that must eventually burst with more painful and pronounced swings.

Some notable examples. The roaring 20s sparked by central banks creating artificially low interest rates and an immense foreign bond binge. This intervention prompted unsustainable credit creation, which eventually culminated in the Great Depression.

Japan witnessed this in the early 1990s, where years of expensive monetary policy primed a massive uptick in asset prices before their markets eventually created. Equities fell over 63% in a few short years, and many real estate markets were cut in half.

Continued intervention had led to decades of slow growth and zombification of many firms. The Great Financial Crisis of 2008 also was a deflationary crisis, where a massive liquidity crunch completely froze credit markets and pricing mechanisms.

This was exacerbated by easy money policy and artificially low interest rates, along with highly leveraged euro-dollar deposits breaking down. The truly terrifying deflation bubbles of overconfidence suddenly bursting in these markets is made much worse when currency can be manipulated at will by large financial institutions.

The short-term interest of elected officials causes central banks and politicians to routinely engage in expansive monetary supply for temporary gains, despite disastrous long-term consequences, as Ray Dalio noted in his book of case studies on big debt crises.

In many cases, monetary policy helps inflate the bubble rather than constrain it. This is especially true when inflation and growth are both good and investment returns are great. In such cases, central banks focusing on inflation and growth are often reluctant to adequately tighten money.

This is what happened in Japan in the late 1980s and in much of the world in the late 1920s and mid-2000s. So we got a tweet here from Donald Trump.

The economy is doing really well. The Federal Reserve can easily make it record-setting. The question is being asked, why are we paying much more in interest than Germany and certain other countries?

Be early for a change, not late. Let America win big rather than just win. To make matters worse, inflationary money supplies also make recovery harder after the fall, despite engineering the collapses, authorities often then immediately intervene to bail out firms.

Once again, providing short-term aid and devastating long-term prospects. As a result, zombie firms with chronic mismanagement linger in the economy for decades will Bitcoin end these credit cycles.

Not entirely, but a steadfast monetary foundation would prevent authorities from artificially large credit bubbles and the horrible deflationary consequences they bring. Instead of violent swings, Bitcoin will smooth out credit cycles to their natural rates and form an economic backbone for consumption in line with productivity.

Conclusion, Bitcoin supply is not deflationary. Its monetary supply is programmed to be one thing, constant. As the world coalesces around a Bitcoin standard, our new monetary base will facilitate economic signaling in profound ways, bringing sustainable, healthy growth like never before.

As a side effect, prices will naturally fall as humans are more productive while avoiding the truly horrifying deflationary spirals caused by artificial monetary injections.

Okay, that was summed up very well in the conclusion, so I don't need to go on too much here, but I just wanted to make a couple of points and reiterate some of the points that have been made.

Bitcoin supply is not deflationary. People's purchasing power will increase. The inflation rate for Bitcoin is predictable. This helps people to plan.

The concerns critics have about nominal wages will probably not actually frustrate them. I think what's going to frustrate them more is if they knew the current system, if they understood that money is being taken from them every day and it's going to the wealthiest people on the planet.

I just don't think people have woken up to this yet, so I think people will be much more happy to know where they are and what the inflation rate is going to be, rather than what we've got now.

The other point that really you have to look on the graph, but what happened in 1971. We've talked about it at length on this podcast, so if you're not familiar, probably go back to episode one. We'll go through it on further episodes as well, but this is where, in my opinion,

and I think Conner's as well is where a lot of things started going wrong for people. Going back to a sound money, something like Bitcoin would resolve a lot of these issues.

So, I think that's it. Thank you very much for listening. Like I said, if you have any questions, you want to run through anything with me, just reach out on Twitter or by email.

If you want to have a look at the charts, I've tried to describe it, but it's a little bit difficult on audio. If you want to have a look, the link is in the show notes so you can read through and have a look at them in the article. Thank you once again.