Saturday, March 15, 2014

How to fix bitcoin

There are many things to be admired about bitcoin - its simplicity, the convenience, the ability to create plaforms for new forms of transactions, its flexibility and the public nature of the block chain.

However, I'm not a fan in its current form and I've written about the negative impacts of bitcoin if left unchecked (i.e. no strong Government intervention) because there is one unfortunate side effect - its impact on taxation. The problem is bitcoin addresses can be used to obfuscate ownership. After a $100 million heist last year and despite the efforts of the community, the thief has yet to be found. Regardless of the public nature of the block chain, identity can be obfuscated effectively.

This creates the problem because bitcoin represents a cash based society where who owns the cash is difficult to determine and the cash can disappear across legislative borders almost instantaneously. It's like a 'cash in hand' environment but without the risk of being caught with a pile of cash in your safe at home nor caught handing over a wad of notes in the middle of a transaction. In practice at scale, it is relatively easy to transact in bitcoins in a way to obfuscate your involvement such that it becomes impracticable for anyone to trace this even though the block chain is public. Taxation on goods and income in such an environment becomes 'voluntary' and competition creates pressure for the avoidance of taxation especially because of the ease in which this can be done. The net result of bitcoins growth will be a reduction in taxation for income and goods with an increased reliance on land and citzenship tax. But not everyone makes a good living and how can you have a welfare state when everyone can claim income poverty regardless of whether they have millions in value from bitcoins?

Bitcoin in its current form will lead to the future dismantling of all such state apparatus.

Now, whilst some might welcome the reduction in the state caused by a loss of taxation, the state is THE key economic driver of innovation, prosperity and social mobility. The laissez faire economic system is an extreme mindset of some of the more ardent supporters of Freidmanism and the Chicago School. There is no basis for assuming a beneficial society can be created without the state and in all likelihood it'll lead to a future consolidation of wealth, extremely low levels of social mobility and weak economic performance compared to countries that use a more mixed method. From a competition viewpoint this is not a good position.

So how do we fix bitcoin? Well, the state could introduce its own state backed crypto currency but an alternative solution is to simply ensure that ownership of the addresses are public and state verified. This can be done with bitcoin as it stands through draconian legislation requiring all addresses owned by its citizens to be a matter of public record. In China, this is already happening and traders are required to register their addresses.

Yes, this means high levels of transparency on what you spend and buy. You might accuse the state of surveillance but by making the addresses a matter of public record then everyone can use the public block chain to see what others are buying. The advantage of such transparency is that taxation (in terms of income, goods bought and wealth) becomes more feasible. We can have the benefits of transparency with a flexible, convenient and platform based currency along with a strong state, taxation and welfare.

The downside - a loss of privacy. 

However, given a choice between :-

Option 1) privacy, flexibility, convenience and a platform for further innovation VERSUS a lack of transparency on ownership, lack of taxation, a weak state, poor social mobility and poor economic performance.

Option 2) flexibility, convenience, platform for further innovation, transparency, taxation, strong state, better social mobility, better economic performance VERSUS a lack of financial privacy.

Then I go with Option 2) every time. I take the view that a loss of financial privacy through greater transparency is a small sacrifice compared to the potential benefits gained. 

Hence, I'm not a fan of bitcoin in its current form, left unchecked I consider it a form of economic weapon with likely severe consequences for the state. But even such a system can be manipulated to public benefit and I am in favour of crypto currencies in general.  The more disastrous impacts of bitcoin can be mitigated by creating a public register of addresses with state verified ownership and requiring by law all transactions to use such addresses.

It's time that this Pandora's box was fixed to benefit the state. I'd strongly recommend all Western Governments to follow the example set by China and start to bring bitcoin and other crypto currencies under a measure of control through the use of transparency. In this case, by public registers of addresses.

It is better to do this now than to wait until bitcoin and other cyrpto currencies spread further and the introduction of such measures becomes politically unfeasible. At this moment in time - though there will be lobbying against such transparency - the introduction of a register is an option. With such measures then at least we have the opportunity in the future to apply transaction taxes to a citizens use of the currency. There are other issues with bitcoin but the worst effects can be mitigated if Governments act now.

Of course, such a choice would lead us along a path of radical transparency should crypto currencies succeed and dominate. All financial transactions would be public record. Hiding wealth and avoiding taxation would become difficult at best. With a few clicks I would be able to discover the inner workings of most companies, who they paid, who they were paid by - from lobbyists to the normal course of business.  There's probably a lot that people don't want to share but the choices are bleak - either a laissez faire system and all that it creates or a level of radical transparency that we've never experienced before.  I'm in favour of the latter.