01/03/2014 08:45 pm ET | Updated Mar 05, 2014

Bitcoins, Tulips and Libertarians

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What is it about the libertarian infatuation with bitcoins? Ron Paul announced in early December that the bitcoin could "destroy the dollar." He seemed to be gloating. In Chile, a collection of "anarchists, libertarians, and Ron Paul supporters" have founded a libertarian utopia they have named "Galt's Gulch," which will accept payment in bitcoins. Sensibly, the "farm workers and suppliers" who service this community "still want to get paid in pesos."

Is it an innate libertarian quirkiness that drives this fascination with bitcoins? A kind of universal libertarian contrariness? Or is there something else about bitcoins and libertarianism that makes for this mix?

First, a word about bitcoins. It is a digital currency that is independent of any state. It is unclear who invented the bitcoin. Paternity is attributed to a certain Satoshi Nakamoto, but is not known whether this is the actual name of an individual, a pseudonym, or a title masking the identity of a larger collaboration. Joshua Davis in The New Yorker and Adam Penenberg on his website each propose plausible candidates for the real "Satoshi Nakamoto."

Bitcoins bear at least some comparisons to gold. Like gold, they are an extractable product, not from the bowels of the earth but from complex algorithmic computation. Like gold, there is a finite supply of bitcoins -- in theory something like twenty-one million total. And, finally, also like gold, bitcoins have become progressively more difficult to mine. The days of panning for gold have passed, replaced by deep in-ground shafts a mile or more beneath the surface of the earth. So also, the days of discovering a few bitcoins through some simple equations on your home computer have been replaced by industrial strength computer programming in remote locations like Iceland.

The idea seems to be that as bitcoins become more familiar, they will pass as currency in preference to state-based currencies, since, unlike state-based systems, which are subject to changes in money supply, the supply of bitcoins is permanently capped.

This ambition serves as a partial explanation for the popularity of the bitcoin among libertarians, but there is a missing piece of the puzzle in this standard account. And that is the subjective theory of value.

The subjective theory of value, as developed by Austrian economists such as Ludwig von Mises (1881-1973), proposes that all economic activity is premised on differing subjective value judgments of individuals. I may value the new car more than the $10,000 I have to spend on it. The seller values the $10,000 more dearly. And so, thanks to these differing value judgments, an exchange is made possible.

In its final form, the subjective theory of value suggests that all external constraints to contractual freedom must be removed. I may truly desire, for sentimental reasons, for reasons known only to me, to have that dusty broomstick in the closet and I am willing to pay a king's ransom for the privilege of calling it my own. In a truly free society, none should question even doubtful value judgments such as these.

A radically subjective theory of exchange, the logic continues, should include the underlying medium of exchange. What is money, after all, but a medium of exchange? We should be as free to impute our value judgments to the medium we use for our exchanges as we do to the objects and services which we ultimately obtain.

This principle underlies libertarian revulsion towards state-based currencies. Reviled as "fiat" currency ("fiat" in Latin colloquially means "made up"), any state-based system is bound to cause theoretical problems for the libertarian. After all, with a state-based currency the value is by definition imputed by an external source -- the state. The state decrees the existence of dollars, or yen, or pesos, and the state can deflate or inflate the currency's value at will through restricting or expanding the money supply. Judgments that rightfully belong to the individual are thus made the province of the state. So, at least, libertarian logic would have it.

It is this underlying theory of subjective value that makes bitcoins so attractive to libertarians. But my own guess is that the current libertarian passion for bitcoins will end badly. Bitcoins, it must be noted, go beyond even von Mises' account of currency, which associated money with scarce commodities that were usable and desirable in some tangible form. Thus gold has decorative value, spices and salt (used as currency in early forms of trade) were scarce consumables, while beaver pelts (used historically as currency in Western Canada) had very practical utility in the subarctic cold.

Mere digital inscriptions, bitcoins serve none of these purposes. They will not ornament you, feed you, slake your thirst or keep you warm at night.

Bitcoins might end in a mania like tulip bulbs in seventeenth-century Holland. Tulips were newly introduced to Europe at the time. They were attractive and the multi-colored varieties were considered scarce luxury goods. Their novelty and beauty were enough to spur a speculative frenzy, as the price of the scarcest tulip bulps reached extraordinary heights in 1637. And then the prices crashed back to earth. But bitcoins need not end this way. They might, on the other hand, simply morph into a small, niche product, presenting a non-threatening alternative to some credit-card transactions.

Most likely, however, bitcoins will die a slow death, their weaknesses steadily revealed. The inside operators, those with the awareness and sophistication to have staked their bitcoin claims early on, will cash out, leaving more naive and credulous market participants holding the bag. For a while, these small-time investors will buoy one another's spirits, assuring one another that the bitcoin souffle will indeed rise again. And when the souffle remains as flat as a pancake, these duped "investors" will recite the time-worn verses of recrimination -- it's a conspiracy, it's all the government's fault, bitcoins would have worked but for some duplicitous central bank manipulation. And so the beat goes on.

Bitcoin true believers really do hope, even perhaps intend, that their new currency subverts and supplants a state-based system they believe to be non-consensual and coercive. In the end, however, the state's role will be vindicated. As much as libertarians are discomfited by the fact, the state actually does play a useful role in shielding us from manias and outright fraud. Indeed, if the libertarians actually ever realize their stateless paradise, they will discover that the first thing they will need to invent is the state. And so for those Chilean farm workers who want pesos, not bitcoins, as payment for their labor -- they will be the winners in the end.

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