Great Leap Forward


In a very nice piece, Paul Krugman blasts the anti-social orientation of those who tout gold or bitcoins as an alternative to state money (see here).

You see, Uncle Sam is hell-bent on generating hyperinflation through President Obama’s run-away deficits and Chairman Bernanke’s money-dumping helicopters. To protect yourself, you need to buy gold and bitcoins—like NOW!

Of course, gold sellers as well as the Winklevoss twins (you remember them from the Social Network film—they are big investors in bitcoins) love to hype the comparison of the US today with Weimar and Zimbabwa of the past. Sure, very soon you will need to take wheelbarrows of green paper money to buy a loaf of bread from your local Hannafords or Safeways. The goldbugs and bitbugs have been rushing to the safety of gold and bitcoins, respectively.

I had been encouraged to write a blog on bitcoins by commentators, and had been accumulating some research to do a column. Whoops. Too late. Bitcoins are collapsing faster than internet stocks in the dotcom collapse.

Krugman correctly fingers the problem with these “alternative” currencies: no State stands behind them. In the case of State money, as Krugman says, “paper currencies have value because they’re backed by the power of the state, which defines them as legal tender and accepts them as payment for taxes.”

Note how he slipped in MMT’s claim that “taxes drive money” (without attribution, of course, but no matter—if he gets it right, that’s good enough).

Our claim: legal tender laws are neither necessary nor sufficient to drive a currency. They are not sufficient because they are extremely hard to enforce—Kings used to heat coins fire-hot and press them into the foreheads of those who refused to accept them, but I doubt we’d let President Obama do that to our goldbugs and bitbugs today. Nor are they necessary because a legal obligation to pay taxes in the form of the currency is sufficient to drive it.

So, as we say, while taxes might not be necessary to “drive” a currency, they certainly are “sufficient”. Impose an obligation to make payments to the state in the state’s own currency and the trick is done.

Now, what drives gold and bitcoins? Well, gold does have nonmonetary value, and so only a fool would turn down an offer. The question is at what value. You know you can always resell the gold at the dentist’s office or at the jewelry. So, on the margin, you will accept gold at the value determined in the market for nonmonetary use of gold. As I recall, the total global volume of gold bullion is only something like nine meters cubed. A bit big to store in your basement, but small relative to global population. Gold will remain valuable until alchemists learn how to make it out of common elements.

What about bitcoins? Well, the supply is limited by some mathematical formula (confession: I do not know what it is, and most likely could not solve it even if I knew it so I won’t be counterfeiting it). That was supposed to be the beauty of it.

Krugman quotes Winkledinker as follows: “We have elected to put our money and faith in a mathematical framework that is free of politics and human error.” So, the supply will be kept scarce, unlike dollars that the Obama-Bernanke team is printing up by the boatload. No human errors will destroy bitcoin’s value!

For that reason, with demand continually outstripping supply, bitcoins can only go up in value. At an accelerating rate. Better buy them now!

Whoops, something happened on the way to blissful riches. Before I could write a blog, the darned speculative bubble burst.

You see, bitcoins have no use other than to circulate illegal products. And while there’s still plenty of illegality in the world, 500 euro notes work just fine to keep those illicit drugs and arms circulating.

(By the way, Uncle Sam, why not print up $1000 notes to keep abreast of the Europeans in helping to finance the drug trade? Heck, make it even more convenient with some $50,000 notes—issued through HSBC’s ATMs. Who needs trillion dollar coins to “solve” the US budget deficit problem?)

The thinking was that bitcoins are the perfect “fiat” money. No hyperinflationary government destroying their value. Let the market determine value.

But why would you accept them? Because everyone else does. I accept bitcoins because I know that BillyBob accepts them. And BillyBob takes them because BuffySue takes them. And so on. As long as we’ve got cokeheads, bitcoins have value because cokeheads will take them.

I’ve always called it the “infinite regress” argument. For the past 20 years, the critics of MMT have always argued that we’ve got it wrong. Dollars are NOT accepted because of the tax liability that stands behind them. No, they are accepted because we all believe they willbe accepted.

We don’t need no stinking taxes (or State) to back them up. It is just some sort of mass delusion that gives them value. They have value because we think they have value. And so long as we all think they have value they will be accepted. And because they are accepted they will have value. Nice circular logic there.

Indeed, that is the main alternative story about money’s origins. You see, Robinson Crusoe and Friday agreed to use seashells as a medium of exchange. The otherwise (nearly) worthless seashells were accepted because they agreed to accept them. It was more convenient, you see. And so on, up to the present day. Monetary systems rely on BillyBob and BiffySue and the trust that they will continue to accept dollars and yen and euros and marks and pesos and on and on and on.

Right. Bitcoins were the real world experiment to test the infinite regress view of money.

How’s that working for you?

Me, I’ll stick with tax driven money.



David WishartApril 16th, 2013 at 3:18 pm

Even the Austrian school isn't big on bitcoins. The way they put it, there's no limit on bitcoin substitutes entering the market. Although the original bitcoin has a mathematical algorithm and finite supply limiting how many of them will exist, there's no theoretical limit to the number of alternative competing currencies that are functionally identical to bitcoin. So basically the stability and technological infrastructure surrounding bitcoin is the only barrier to entry that supports its price. Some people make an investment in that technology and are in a sense captured by bitcoin rather than its competitors due to the fixed cost they've incurred to deal with a particular exchange. As the technology improves, and the communication between exchanges becomes more smooth, with multiple digital currencies moving between them, I would expect the value of bitcoin and its competitors to gravitate towards their marginal cost of production.

RichApril 16th, 2013 at 5:45 pm

I am a huge fan of MMT as the *only* theory that logically encapsulates the state of economics today. I like bitcoin because I'm a geek. The algorithm allows for double entry accounting between untrusted endpoints. I think that is cool. The folks loving it as a commodity, currency, and/or path to freedom from evil central bankers (heh) are missing the point that it is really just a protocol.

Good article, but I think attacking bitcoin for being a currency of the drug trade is similar to attacking email for being the vector for spam. On the other hand, the crazy things bitcoin users say I don't want to associate myself with.

Vp rippleApril 16th, 2013 at 6:19 pm

There's no limit on gold substitutes entering the market as well… Money is a social construct, nothing more.

Andrew GormanApril 16th, 2013 at 6:39 pm

Professor Wray, I have been interested in Monetary theory for a few weeks now, and I was wondering if you have read the MMT critique at the following link:
That organization seems similar in economic outlook, just differing as to a monetary theory. Is their critique sound? Have you addressed it in a post? I am new to all this and I am trying to understand the arguments of both sides fairly.

Tom HickeyApril 16th, 2013 at 11:01 pm

Rich, I said it before Randy, and others have too. What has driven Bitcoin is the black market. That is sufficient. However, what drive the currency in the sense of creating demand for it doesn't give it value in terms of purchasing power — what it exchanges for. The value of state currency is determined the cost of borrowing it, set by the govt generally through its bank, the central bank, as well as the prices the govt pays in the market to move resources from private to public use. The recent run up and crash of Bitcoin reveals that the value was established through speculation.

ReginaldApril 16th, 2013 at 11:49 pm

The point of mentioning the drug trade, Rich, was not to discredit bitcoin by association. It was to point out that the drug trade is the ONLY place in which bitcoin has any utility. Prof Wray was very clear about this. If email were used only for spam and nothing else it would be as useless as bitcoin, or a yahoo chat room.

circuitApril 17th, 2013 at 12:16 am

Thanks for the explanation about how taxes are sufficient yet not necessary with respect to money. This helps to shed light on a possible misunderstanding by others of MMT's position on money. Namely, it seems circuitistes like Parguez thinks MMT is saying that taxes are necessary (rather than sufficient). From Parguez's standpoint, money (and money creation) is a necessary element in capitalism and not specifically related to taxation. What do you think is the difference between his view and MMT?

Also, any thoughts on Reinhart and Rogoff's fiasco? I recall from your 2010 paper with Nersisyan that you asked R&R for their database.

L. Randall Wray L. Randall WrayApril 17th, 2013 at 1:29 am

I was mostly joking, taking off from Krugman who argued much of the bitcoin trade is to finance drugs. Me, I have no idea.

L. Randall Wray L. Randall WrayApril 17th, 2013 at 1:33 am

I’m not really sure what Alain’s view is, but if he thinks we argue taxes are NECESSARY then he’s got it wrong. We NEVER argued that. We’ve always been clear: taxes are SUFFICIENT to drive the currency. If somone finds an example of money without taxes, driven by something else, then I am all ears. But it does not discredit MMT

L. Randall Wray L. Randall WrayApril 17th, 2013 at 1:38 am

As I’ve replied before, AMI and Zarlenga do not understand money. At best, their proposal for “debt free money” is a non-sequitur. All “money things” are money of account denominated IOUs. At worse, they are purposely misleading

jack strawApril 17th, 2013 at 2:00 am

in order to have value money must have State backing? "then why bail out banks ever" would be my retort. bticoins still interest me because when ever i see a market collapse i see a free market at work. gold is gold. nothing ever changes. "the price only moves in one direction." nuff said. of course "financiers" and "anti social behavior" never go hand in hand. you know how those Bankers love to be the life of the Party! right up there with Communists and arsonists when it comes to "the fun factor" in my book. still…"nothing more money their way can't solve." at some point we'll successfully recreate society after having saved capitalism from it's own excesses. thank God no one else treats money like that!

SMOBApril 17th, 2013 at 5:55 am

Professor Wray, I read your book and recall you explaining the demand for currency in nations that do not tax such as Qatar, Saudi Arabia and United Arab Emirates due to services such as power and water as sufficient to drive the demand for money. It might be worthwhile talking more about the function of taxes and how demand for a currency is driven again for such nations -they are members of WTO and G20 with thriving economies yet very little to no taxes and openly accept dollars -peg- yet the local currency is in demand and used pretty much exclusively.

Johnny GarzaApril 18th, 2013 at 2:51 am

Professor I'm also a big fan of MMT-PP I don't know much about economics but what I have learned is from you outlaws over there in Missouri. Two thousand union members are going to find a reference about MMT-PP in there monthly newsletter this month.. I tell all the people I know about it and direct them to your website, no this may be off topic, but I was hoping you could address this concern or you may say criticism of mmt, and that is; MMT presupposes reasonable monetary policy or you can say reasonable and responsible politicians, if we don't get that first than we will never see such a good policy put forth for the benefit of our society. Without campaign finance reform we will never see such a good idea implemented. How do you suppose we get around this dilemma Professor? Any ideas? or recommendations?

L. Randall Wray L. Randall WrayApril 18th, 2013 at 12:14 pm

Democracy is messy. MMT applies even if you have a screwed-up government, one essentially bought-off by vampire blood-sucking squids. But obviously you will not get very good policy out of such a govt. Here’s the deal: if you won’t hold your representatives accountable then you won’t get good policy. Are Americans going to quietly sit back and tolerate 2 decades of Japan-style no growth? I don’t think so, but we’ll see.

TzctinteApril 23rd, 2013 at 9:41 am

Uhm. The bailing out of banks is a shining example of the State backing money (or the whole monetary system to be more precise).

When the state doesn't rescue bad banks you have a regression to bartering at best, as it happened in Argentina when the financial system collapsed a few years ago, or plain thuggery, as in Somalia, where with no discernible banking system warlords and pirates become the ultimate regulators.

Joe MellonApril 23rd, 2013 at 9:49 am

The trust comes from belief that there will be a 'always' be demand for the currency. The same applies bubble products: property, gold or tulips.

The choice between preferring to trust in demand from BuffySue the crackhead or in the Fed is at least currently a no-brainer.

However a sovereign government can also lose trust disastrously: e.g. the Weimar republic or Zimbabwe.

Lets imagine a revived Drachma… the aggregate demand from crackheads probably inspires more trust!

Denis BiderApril 24th, 2013 at 6:17 am

Randall, you called a burst of a bubble much prematurely.

A year ago, I had the knowledge as well as opportunity to buy Bitcoin at $5, and didn't.

The demand for it has since risen enough to put the price at $15, then $100, then recently as much as $260. Yes, this was bubble, yes, it burst.

It burst down to… $50.

Today, the value is nearing $150 again, and rising.

Bitcoin is volatile, because so far, it is small. But you were jumping to conclusions in your article, and this will bite you.

I expect the most likely future of Bitcoin is that it will die, because the governments will kill it. It will become too much of a threat.

However, as things go, it seems foolish not to buy some Bitcoins as a hedge.

Denis BiderApril 24th, 2013 at 6:26 am

David, I think this is a misunderstanding. Yes, there are already multiple digital currencies based on Bitcoin. But:

– There's no reason for them not to coexist. USD and EUR coexist, without either collapsing.

– Demand will be highest for that digital currency which is perceived as most reliable. The one perceived as most reliable will be the one accepted by most people. Absent government action, this will not be multiple currencies, but one.

Keep in mind that the way Bitcoin is designed – and therefore also its sister currencies – its technical stability directly correlates to the amount of mining power behind it. The mining investment behind Bitcoin is not exceeded by any of the alternative currencies, and is poised to zoom by a factor of 10x this year.

Bitcoin is gaining traction, and at this point, no other digital currency is likely to overtake it on its own. The only means of overtaking Bitcoin would be if some significant authority, such as a government, pledges support for a sister currency.

L. Randall Wray L. Randall WrayApril 24th, 2013 at 6:06 pm

Denis: good luck with that. I’ve got Tulip Bulbs, too, if you want more hedge against hyperinflationary dollars.

L. Randall Wray L. Randall WrayApril 24th, 2013 at 7:46 pm

Go for it McBob! Is it a stable currency or a device for separating stupid people from dollars? Time will tell.

L. Randall Wray L. Randall WrayApril 24th, 2013 at 7:48 pm

Noe Joe: the trust is in the IRS, not the Fed. Taxes drive money, not Uncle Ben’s helicopters or trust in BobbySue.

Trond AndresenApril 27th, 2013 at 11:43 am

There are three inputs determining the exchange value of regular money:

1. transaction demand (stabilising)
2. tax demand (stabilising)
3. speculative demand (destabilising)

For bitcoin, the very important stabilising factor no. 2 is absent. This strengthens the impact of speculative demand, which will often overwhelm transaction demand, and the currency will persistently suffer booms and busts. This dominance of destabilising speculative demand will be strengthened by speculation-motivated agents being attracted to this specific currency because of this aspect. The lack of control and ease of transaction on a global arena – toted by bitcoin adherents as an advantage – is a further incentive for speculative behaviour.

The conflict between the stabilising and destabilising character of bitcoin resembles that of stock markets*, more specifically such stock markets where real-economic considerations are secondary to speculative motives, as seen in the dotcom bubble before March 2000.

My prediction is therefore that the inherent instability and boom/bust characteristics of bitcoin will not taper off even with more agents using it.
* A paper on that topic:

RyanJune 5th, 2013 at 4:35 pm

I agree that the site is bull**, but I don't understand why debt-free money must be a non-sequitur. Can't we consider a commodity to be money too?

Perhaps you could direct me to a relevant paper if you do read this.