Bit gold markets

The basic idea of bit gold is for "bit gold miners" to set their computers to solving computationally intensive mathematical puzzles, then to publish the solutions to these puzzles in secure public registries, giving them unique title to these provably scarce and securely timestamped bits. These titles to timestamped bits will be more secure and provably scarce than precious metals, collectibles, and any other objects that have ever been used as money. In a description of bit gold, which was mostly an overview of the technology, I wrote about how, because the algorithms and architectures for solving computationally intensive mathematical puzzles to create bit gold will often be dramatically improved, the bits (the puzzle solutions) from one period (anywhere from seconds to weeks, let's say a week) to the next are not fungible. But fungible units can be created from non-fungible ones:

bit gold will not be fungible based on a simple function of, for example, the length of the string. Instead, to create fungible units dealers will have to combine different-valued pieces of bit gold into larger units of approximately equal value. This is analogous to what many commodity dealers do today [pooling commodities with a wide variety of qualities into a handful of standard grades] to make commodity markets possible.

Bit strings (puzzle problem/solution pairs) are securely timestamped by their time of publication. More recent solutions that have been produced in greater quantities will be discounted by markets. To create fungible units dealers will bundle strings of different value into pools of a standard value (i.e. collect strings into a pool so that the sum of the market values of the strings in the pool add up to the standard value).

It's a bit indirect, but computers can easily handle these logistics. Leaving aside the gold metaphor for a minute, one can think of these bit strings as digital rare postage stamps. Each stamp might trade for a different price, but one can sort stamps into pools so that the prices of stamps in each pool add up to the same total price. Then divide each pool into tranches to create your standard currency denominations.

The rare stamp metaphor is, however, in other ways very misleading. Unlike stamps, but like gold, there are no ongoing changes in subjective valuations between bit strings to worry about, but instead the demand for bit gold is purely for its monetary functions, and thus purely based on how scarce the supply of puzzles solved during a given time period was and is. As a result, pooling and tranching will work far better for bit gold than it does for actual rare postage stamps.

This deserves more elaboration. It seems to be a common objection to bit gold that the mere difference in the price of a bit from one time period to the next produced by technology improvements introduce intractible subjective valuations, making the matter of comparing one week to the next subject to too much uncertainty and transaction costs, as occurs with many collectibles. Just as pooling and tranching rare postage stamps would be a somewhat risky affair as subjective valuations of the underlying stamps change, so too this is supposed for bit gold.

The problem that would occur if we tried to turn most collectibles into a standard currency by pooling and tranching is that, besides a subjective aesthetic component in the demand curve that doesn't come into play with computer bits, their scarcity is uncertain. Art can turn out to be forged, rare stamps thought to be lost or to have never existed might be found, and so on. The supply curve, in other words, can be highly uncertain and in danger of elasticity. Since the supply and demand curves of different pools can change differently over time, the relative values of pools would diverge from their initial values, so that trying to use tranches as standard denominations of a currency would create arbitrage opportunities.

By sharp contrast bit gold will be entirely public: no one gains secure title to any puzzle solutions until they are published. Thus, the exact amount and kind of puzzle solutions during a given period are well known, and perfectly define the supply curve relative to future weeks for all time thereafter.

There will be, in other words, a perfectly objective, measurable, and inelastic supply curve, completely derivable from the relative scarcity of bits (puzzle solutions) on the week (or the day, or the hour, or the minute, if necessary) of their publication. Arbitrage to set the different prices of different weeks (or minutes) can be computerized on this basis. The demand curve, the demand for puzzle solutions for the monetary functions they can perform as a store of value and medium of exchange, will be based on recognition of the superiority of bit gold as a form of money that is more secure and has a far less elastic supply curve than traditional commodities such as precious metals. Since there are no aesthetic differences, the demand curve will be the same function of scarcity for all weeks (or minutes), so it won't affect the simple scheme of automated arbitrage between epochs with different supply curves. The supply and demand curves of different pools will change in the same way over time, and the relative values of pools will not diverge from their initial relative values. Using tranches as standard denominations for a currency does not create arbitrage opportunities.

For most of history collectibles were used for as stores of value and media of exchange; aesthetics played an important role. But before we can separate out the roles of scarcity and aesthetics, we must ask why humans evolved such aesthetic values. The aesthetic instincts, for example the instinct to collect shiny things, evolved just because in the evolutionary environment they approximated an instinct to collect scarce things, and to distinguish hard-to-find from easy-to-find things, i.e. an instinct to recognize and collect objects that can best perform monetary functions, as I describe here, in the "Evolution..." section early in the paper, and the "Attributes of Collectibles" section late in the paper.

As a proximate matter, the contribution to the demand curve from demand for monetary functions (store of value or medium of exchange or both) and the contribution from aesthetic considerations are completely separable. One can demand a commodity for its aesthetic value, or for its value as money, or for both, or for neither. Thus a check for a million dollars might have a design that is utterly philistine, yet the check is still worth a million dollars.

The value of gold today is almost entirely based on its monetary value rather than mere aesthetic value. There are plenty of metals that are as shiny and smooth as gold, but people don't demand them as a store of value or medium of exchange because they are common. There are plenty of rocks that look as good as diamonds, but "diamonds are a girl's best friend" because they are hard to obtain and thus hold their value. Value comes to attach to the unique aesthetic features of gold or diamonds because these features signal scarcity. The value of precious metals or gems as stores of value, media of exchange, or even as cultural icons does not come from these aesthetic features, it is only signalled by them. It is their secure scarcity, not their aesthetic features, that allows them to be more securely used as a store of value and thus gives them a monetary value, and often a corresponding emotional and cultural value, far above the often trivial value they would have if they had the same aesthetics but were common.

There will be a problem defining futures contracts for yet-to-be produced bit gold: how much it might cost to solve a given puzzle a year later, or even a month, will be a very uncertain matter. But the pools that define currencies will be based on spot prices for already produced bit gold, not on futures.

[These comments edit and add to comments of mine under previous blog post(s)]