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Renowned economist demystifies Bitcoin before upcoming lecture

During his 250-mile drive from a panel discussion at the University of Kentucky back to Kenyon College where he teaches, William Luther made time for an hour-long interview with The Review.

Luther’s website says that he is ranked number 27 on the Social Science Research Network’s Top 8,000 Economics authors. He has published about 10 peer reviewed publications on cryptocurrency – computer-based money systems that emerged in 2009.

“What is it about these alternatives? How do they work?” Luther said.

“There’s just a whole host of questions there that, because [cryptocurrencies] are weird, most monetary economists don’t give them a lot thought.”

There’s another question: “Will Bitcoin survive?” This is the title of the lecture that Luther will give on Feb. 21 at 7:30 p.m. in the Fred M. Rogers Center here on campus.

Bitcoin was the first widely used cryptocurrency and currently has the highest market cap of them all – and economists are not sure about its longevity.

“Some folks at the moment believe that Bitcoin is actually worthless, that it serves no useful purpose, that its fundamental value equals zero,” Luther said.

He explained that this would be a problem since it means Bitcoin would be what economists call a bubble. As a bubble, Bitcoin’s currently high value would fall down to its fundamental value – and if that value is as low as some people think, it would be quite the drop.

“A bubble eventually pops,” Luther said.

So, what is the fundamental value of Bitcoin? Luther said this is difficult to estimate since Bitcoin is not backed by some other asset.

Bitcoin not being backed by an asset means that nobody is contractually obligated to exchange a certain amount of valuable goods for Bitcoin and the currency does not have a use apart from being spent.

This type of currency is called a fiat money. Most modern currencies, like the US dollar and the European Euro, are fiat monies as well. Bitcoin is unique among these, though, since it is arguably the first fiat money not to be issued by a government, Luther said.

“There’s this core support for the dollar that comes from the US government. Bitcoin lacks that support,” he said. “There’s no core group of users that have committed to the same extend [to accept Bitcoin] that the US government has committed to accept dollars.”

The varying support Bitcoin has received has made its value fluctuate.

Does that mean that Bitcoin is inferior to government issued currency?

Luther said this question should be more nuanced.

“Most of us aren’t deciding should we use our local currency or should we use Bitcoin. Rather, we’re talking on the margin: are there some transactions where Bitcoin is a superior medium of exchange? And I think that there are.”

Luther explained how using Bitcoin is likely better when the following problems are a concern: chargeback fraud, stolen account information, and long-distance fees. The respective reasons for these are that Bitcoin does not enable third parties to reverse transactions, hides a user’s authorization code when they make a transaction, and has only a small fee even for international transactions, Luther noted.

“So, if you’re just going down to your corner grocery store, maybe Bitcoin isn’t a great currency for you,” he said, “but I think that there are a lot of uses where Bitcoin could be superior to the currency that you’re using.”

He also detailed a couple other uses for Bitcoin that Americans might not think about.

For countries that are experiencing hyperinflation like Venezuela and Zimbabwe, Luther explained how Bitcoin could be a useful alternative, since it has a predictable supply schedule.

Bitcoin could also prove useful for those living under totalitarian governments as well, according to Luther. While these governments can confiscate a citizen’s physical monetary notes, Luther explained that Bitcoin is more secure. People living under these governments can exchange their notes for Bitcoin, send the Bitcoin out of the country, and the receiver can exchange the Bitcoin for normal currency.

“In that sense, I think Bitcoin is a very positive force in the world for liberalism,” Luther said. “It’s a global cryptocurrency, so we got to keep in mind the unique situations of people around the world.”

But, how does Bitcoin work in the first place? Luther explained Bitcoin’s unique way of processing transactions – or in other words, the manner in which accounts are credited and debited when someone sends money to someone else.

A user’s computer that is running a program called the Bitcoin protocol will be selected randomly to process the transaction. Bitcoin rewards the user that processed the transaction with a small amount of new Bitcoin to encourage users to help this system work like this.

But Bitcoin is far from the only cryptocurrency using this kind of system.

Nathaniel Hoffer, adjunct professor of computing, was introduced to Bitcoin in 2011 and became more interested in it a couple years ago. Although he currently holds some Bitcoin, his cryptocurrency of choice is Ethereum, which has different features for transactions.

Ethereum currently has the second highest market cap of the over 500 cryptocurrencies in existence.

Luther explained that even if all competition from the different cryptocurrencies may seem to detract from one another, he thinks they will help bolster innovation in the long run.

“In the grand scheme of things, we’re rich today because we found marginally better ways of doing things over time,” he said. “And, in large part, that’s driven by competition.”

As for the upcoming lecture, Luther said that he looks forward to it since he enjoys discussing Bitcoin with engaging college students. He said he hopes students will better understand what Bitcoin is, the extent of its value and why its price fluctuates as much as it does.

“So that when I pick up the paper or turn on the TV and hear people talking about Bitcoin they have a better understanding of what’s going on in the world,” he said.

Hoffer admitted that he’s “a little sad” he will be busy teaching during the lecture and will not be able to attend.

“Enthusiasts believe [cryptocurrency] is a brand-new asset class that can take on existing stocks and bonds. Many traditional financial advisers believe this is the largest bubble of our lifetime,” he said. “Love it or hate it, cryptocurrencies are something we should at least discuss.”


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