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One of the topics that comes up again and again with regard to Bitcoin is the idea of “intrinsic value”. Unlike nearly all other goods which we interact with on a day-to-day basis, whether they are tables and chairs, apples, theater tickets, digital books or even financial derivatives, bitcoins seem to have no value in and of themselves – they are simply entries on atn arbitrary database. And yet, at the same time, each one of these entries is now worth roughly $1000 on Bitstamp and even more on MtGox and BTCChina. This strange duality, the unique property of simultaneously being completely valueless in one sense and yet so exremely valuable in another, is perhaps the biggest psychological barrier for many individuals to accepting Bitcoin as a legitimate economic instrument; the feeling that one’s wealth in BTC has no solid “floor” to stand on, aside from an ill-defined and foggy entity known as “the market”, is notably difficult to overcome.

Some economists even go so far as to say that Bitcoin cannot become a true currency for this reason, and is doomed to blow up and eventually permanently pop as a speculative bubble. But at the same time, others argue that Bitcoin does have intrinsic value, and still others claim that intrinsic value is not just unimportant, but is in fact a completely useless mental construction with no economically valid definition – all value is subjective, as many have become used to saying. The purpose of this article will be to explore this question in more detail; what is intrinsic value, and to what extent do both Bitcoin and other currencies that we use today have any?

What Is Intrinsic?

The first definition of intrinsic value, and the one that economists of the “subjective value” tradition are the most keen to strike down, is the literal one – the idea that there is some kind of inherent “value” property in objects and substances, that can be scientifically measured and defined much like density and temperature. This theory is obviously false; the best thought experiment to see why is to imagine oneself on a desert island with a thousand automobiles and no water. If, in those conditions, someone were to offer you a glass of water (~$0.00001 in modern society) in exchange for an automobile (~$10000), chances are eventually you would take it.

Why? Because of the concept of marginal value. Normally, water is so cheap because it is already so plentiful – although the difference between having zero litres of water and one litre of water per day is that of life and death, the difference between 99 and 100 litres of water per day is only a slightly less comfortable shower. Similarly, having one automobile as opposed to zero is a significant boon for personal transportation, whereas if you already have 99 the 100th is nearly useless. Also, the value of an automobile is situational – even the first one is nearly useless without a source of gasoline. As another example from the real world, up until about 1800 the Middle East used to be one of the poorest parts of the world, but ever since the technology emerged to make oil useful it has become one of the richest, at least for that portion of its residents that had the weapons to seize and defend oil reserves at the time that they became lucrative.

However, most educated people understand the above, even if not everyone has fully absorbed it psychologically. Thus, there is another meaning to the concept of “intrinsic value”, one that does not fall down in the face of philosophical scrunity so easily as many subjectivist economists are keen to believe. And the idea is this. In mathematics, there is a concept of well-foundedness – for example, the sets {1}, {1,2,3} and {1,2,{3,{4,5,6},7,{8,{9}}}} are “well-founded” – you can only descend a finite amount, and eventually you hit rock bottom. However, the object {1, {2, {3, {4, ... }}}} is not well-founded – it descends forever, and in fact under standard set-theory axioms mathematicians do not even consider it a set.

With intrinsic value, the idea is similar. Here, however, we check whether the chain of justification for why something is useful has a foundation. With a chair, for example, the chain has only one step: you want a chair because it makes you comfortable. The desire to be comfortable is a fundamental human primitive – it does not depend on the existence of anything else. With an object like a robotic arm in a factory, the situation is more complex. The factory owner buys (or builds) a robotic arm because it lets the factory produce screwdrivers more quickly. The factory owner wants screwdrivers because he (or she) can sell them to distributors. The distributors want the screwdrivers because they can sell them to consumers. Finally, the consumer buys a screwdriver because they van use it to repair furniture, which supports their desire for comfort. The chain is longer, but at some point it ends. With a bitcoin, the situation is different. Alice wants a bitcoin because she can give it to Bob in exchange for products and services. Bob wants it because he can similarly use it to obtain goods or services from Charlie. Charlie wants to do the same with Dave. And then, finally, Zachary wants to spend the bitcoin with Alice. The chain of justification never ends. Hence, Bitcoin’s value is not “well-founded”.

An alternative, and equivalent, definition of intrinsic value is this: a product has intrinsic value if a hypothetical godlike agent can change its value only by changing people’s memories – without changing their preferences. If, tomorrow, the mischievious Econo-God decided to change everyone’s memories and all of the price signs in the stores so that chairs were worth 10 times less, the resulting economy would not be stable. People would still have the same level of desire for comfort, and the difficulty of producing chairs would not change, so there would be an excessive demand for chairs at the lower price, causing the price to adjust back up – in fact, it would adjust all the way back up to something close to the original price. Now, consider the experiment with Bitcoin. Now, the Econo-God changes people’s memories so that Bitcoin was invented in July 2013, and Primecoin came first in 2009. Also, the Econo-God would change the value of a bitcoin to $4 and the value of a primecoin to $1000. Would anyone realistically suggest that the value of a bitcoin would quickly spike up back to its original levels, or even ever reach a value one fifth as large as Primecoin? Likely not. Thus, Bitcoin’s value is inextricably tied to arbitrary details of history – hardly something that can be called “intrinsic”.

What Is Intrinsic, Really?

However, at this point, we encounter an interesting philosophical roadblock: what exactly is the difference between a preference, infrastructure and a memory? Alternatively, at what point is something an intrinsic preference, and at what point does it need to be justified? Consider the following three cases:

  1. The Econo-God adjusts the value of some high-end furniture designer’s furniture down to $10, and IKEA furniture up to $3000
  2. The Econo-God adjusts the value of Gucci bags down to $10, and some particular currently unknown Chinese vendor up to $10000
  3. The Econo-God adjusts the value of bitcoins down to $4, and primecoins up to $1000

What is the difference here? We can clearly see the difference in case 3 – the difference between BTC and XPM is an arbitrary product of memory, whereas in cases 1 and 2 we are dealing with clearly different physical goods. However, even between cases 1 and 2 there is a difference. The difference is this: in case 2, Gucci bags are what’s known as a Veblen good – a good whose value increases as a consequence of its price goes up. In layman’s terms, a status symbol. Thus, if the price of a Gucci bag goes down to $10, people stop valuing it as much because everyone has one and it loses its exclusivity property. However, in the case of the high-end furniture, their products are objectively superior – the fact that high-end furniture is more comfortable than the average produce from IKEA is based on built-in human preferences for comfort, not any kind of emergent value generated by society. Thus, case 2 seems to be actually closer to case 3 than case 1 by the second definition of intrinsic value.

However, looking through the lens of the first definition, there is a slight difference. In the case of a bitcoin, Alice desires a bitcoin because she can use it to pay Bob, who can use it to pay Charlie, and so on ad infinitum. In the case of a Gucci bag, Alice desires a Gucci bag because she can use it to impress Bob (or perhaps Betty), who actually has the property of being more impressed by Gucci bags than those of the unknown Chinese vendor as a preference – albeit one caused by the Gucci bag’s high price and limited supply. Thus, the chain of justification is actually well-founded, although the economic effects of a Veblen good make the situation identical to an infinitely descending chain in practice.

In Bitcoin vs Primecoin, we see another effect. Bitcoin does not only have more public renown than Primecoin; it also has a higher level of network security, and more merchant adoption. If the Econo-God makes the Bitcoin/Primecoin switch, many Bitcoin miners will stop mining because mining will no longer be profitable at $4, but because there was already capital invested into Bitcoin mining the network’s computing power will not decrease to quite the same level that it would be at had the price originally been at $4. Similarly, many merchants will feel silly that they had somehow decided to accept the new and obscure Bitcoin and not the more mainstream Primecoin, but much more will end up simply accepting both than currently accept them now. Thus, taking the second definition of intrinsic value, it seems like Bitcoin actually does have some limited intrinsic value from the invested capital.

How do we translate the above reasoning into the first definition of intrinsic value? The simplest approach is this: Alice wants to send bitcoins, and not primecoins, to Bob first of all because Bob values bitcoins 250x more, but also because Bob has some existing infrastructure to accept them, and the payment is more secure because the Bitcoin network is stronger due to its higher level of capital investment – both of which are properties of the real world, and not Bob’s memories. Thus, Bitcoin seems to have some intrinsic value in a relative sense, although it is difficult to see in an absolute sense.

Finally, as it turns out, Bitcoin does have some limited “absolute” intrinsic value: the Bitcoin protocol can be used for other purposes than just money. For example, there is now a service that allows you to use the Bitcoin blockchain to provide cryptographic proof that you had created a certain document before a specific time. A similar service on top of Primecoin would be less useful because Primecoin has less computing power in its network, and so is less secure. It is important to make one point here: we are talking about the intrinsic value of bitcoins and not the Bitcoin protocol. However, there is a simple patch: the intrinsic value of a bitcoin is its use in paying transaction fees for these kinds of alternative blockchain uses.

So what is the point of all this? Why do we even care about intrinsic value? Why is the subjective value of a bitcoin, and indeed any currency, not enough? One answer is stability – in practice, preferences usually change more slowly than social prejudices, so a bitcoin is more likely to lose 99% of its value in a year, and stay there, than a chair. This is indeed an issue; however, this is true of all currencies. Although gold is often praised for its intrinsic value, in reality its intrinsic value is extremely low. This can be seen both analytically and empirically. From an analytical standpoint, gold’s three main functions are as a store of value, electronics and jewellery. As a store of value, gold’s value is non-intrinsic. As jewellery, gold’s value is intrinsic, but because it is a Veblen good it is de-facto non-intrinsic; if gold necklaces could be bought from any dollar store no one would care about them. And finally, in electronics gold is used largely in wires for its electrical conductivity – and there in minute quantities. If its non-intrinsic value and Veblen good value was stripped away, gold would likely be worth no more than $30 an ounce.

And we can see this empirically too – as recently as 2001, gold was only worth $275 per ounce, and now it is worth over $1200. Are we to believe that people used gold for electricity five times less back then? Even Ayn Rand, perhaps the most famous proponent of gold as the one true currency, praised it not because it is shiny and electrically conductive, but rather because it has been used as a medium of economic trade for the past six thousand years. Thus, perhaps Bitcoin may have even more intrinsic value, relative to its market value, than gold does; an even if it does not, Bitcoin has a trump card that even gold does not – its absolutely limited supply of 21 million units. With Bitcoin, there is no risk that we will find billions of new bitcoins on the moon, or that some nuclear fission alchemist will figure out a way to cheaply transmute new bitcoins into existence out of primecoins. Thus, once Bitcoin matures from being a startup currency to a more mature alternative, with enough adoption to ensure that it cannot grow by another factor of 1000 and enough infrastructure to ensure that it cannot instantly disappear, there is reason to believe that be at least as stable in value as gold. Will it be? Only time will tell.