Power & Market

Bitcoin Hodling and Gresham’s Law

In 2013, a bitcoiner posted “I AM HODLING” on a bitcoin forum, intending to write that he was holding during a large price drop. He was explaining that most people are not successful traders and as a result they will inevitably just lose out in the process of trying to time the bear market, so instead he encouraged that bitcoiners should hold and trust bitcoin. Since that day, this typo, “hodl,” has worked its way into the everyday vernacular of bitcoiners. It now represents the stance that not only should one not attempt to trade bitcoin through bull and bear runs, but also should not sell bitcoin under any circumstances because whatever asset it is one may purchase with it will one day be outperformed by bitcoin. For some purposes, this may be helpful, but for the adoption of a private money, this is exceedingly dangerous.

Gresham’s law is what makes this such a threat to bitcoin adoption. Gresham’s law is colloquially stated as “the tendency for bad money to drive out good money.” This happens because the consumer will find it preferable get rid of their “bad money” and as a result when they have to spend something, they will spend the “bad money” and it will end up being the money that is most widely accepted. It is used regularly to argue against private currencies with individuals like W.S. Jevons even citing it as the reason that “there is nothing less fit to be left to the action of competition than money.” Friedrich A. Hayek, however, dismantles this claim in his essay Denationalisation of Money: The Argument Refined:

What Jevons, as so many others, seems to have overlooked, or regarded as irrelevant, is that Gresham’s law will apply only to different kinds of money between which a fixed rate of exchange is enforced by law. If the law makes two kinds of money perfect substitutes for the payment of debts and forces creditors to accept a coin of a smaller content of gold in the place of one with a larger content, debtors will, of course, pay only in the former and find a more profitable use for the substance of the latter.

With variable exchange rates, however, the inferior quality money would be valued at a lower rate and, particularly if it threatened to fall further in value, people would try to get rid of it as quickly as possible. The selection process would go on towards whatever they regarded as the best sort of money among those issued by the various agencies, and it would rapidly drive out money found inconvenient or worthless. Indeed, whenever inflation got really rapid, all sorts of objects of a more stable value, from potatoes to cigarettes and bottles of brandy to eggs and foreign currencies like dollar bills, have come to be increasingly used as money, so that at the end of the great German inflation it was contended that Gresham’s law was false and the opposition and the opposite true. It is not false, but it applies only if a fixed rate of exchange between the different forms of money is enforced.

Sure, the consumer would have the desire to spend their “bad money” in order to get rid of it in exchange for preferable products, but the producer would have a desire to not accept this “bad money” and thus would require more of it in exchange for any given good. That’s why, as Hayek explained, Gresham’s law is not true with variable exchange rates, as bitcoin has with the dollar.

Under the natural system that Hayek lays out, if bitcoin really is the so called “good money” then because the exchange rate between these two currencies is variable, bitcoin should be able to drive out the “bad money.” However, if there is a widespread cultural discouragement of giving up bitcoin in exchange for other assets—put more simply, using bitcoin—there is an inverse effect to that of the variable exchange rate as it relates to Gresham’s law. Instead the average bitcoiner returns to the image originally painted in Gresham’s law where the owners of “good money” hold it away in a safe while the actually circulating money is the “bad money.” For all intents and purposes, the bad money ends up driving out the good again when bitcoiners over commit to hodling.

This all comes with one final disclaimer: there is nothing wrong with holding/saving. In fact, as Austrians we know that saving is vital to the economy. I am by no means saying that bitcoin has reached some objective value that makes it worth selling and using now. Obviously, bitcoin’s value is subjective and thus one should not spend it on things which they hold lower in ordinal value than that amount of bitcoin. I’m simply saying that as long as the bitcoin community pushes a narrative of hodling no matter what and spending that bitcoin under no circumstances, it will push more and more a scenario in which the “bad money drives out good.”

Note: The views expressed on Mises.org are not necessarily those of the Mises Institute.
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