How history explains bitcoin, Mt. Gox bankruptcy

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Dutch tulipomania and the future of crypto-currencies

 

Bitcoin and other virtual currencies are worth the same now that they were a week ago, before bad news headlines, hints at possible government or regulatory intervention and more dramatically changed market conditions.

 

Oh, in practice that’s not right. The prices for all crypto-currencies went tumbling this week with the evaporation of Mt. Gox; the largest bitcoin exchange vanished amid swirling troubles, acknowledging bitcoin losses of roughly $475 million, then resurfaced to declare bankruptcy in a Tokyo court.

But in reality, the intrinsic value for these virtual monies was unchanged; they were—and are—worth whatever someone will pay for them or give in return for them at any given moment.

And for as much as supporters suggest that bitcoin and other currencies represent the future of money and a massive change to the global payment and transaction system, people should be looking toward the past as they consider how the story of bitcoin, dogecoin, litecoin, namecoin, mastercoin and any other fabulous new moolah could play out.

Also see: Mt. Gox loses customers’ bitcoins, files for bankruptcy

While traders and true believers say all of this coinage represents a new day, in truth it’s an old story.

For proof, consider that while the largest bitcoin exchange was suffering this week, you could go online and find a “tulip exchange” (read: online retailer) willing to sell tulips for anywhere from 34 cents per bulb to about four dollars per bulb. Tulips are out of season, however, making them hard to get right now; if prices of lilies, now in season, are an indicator, tulips will actually be on sale and available more cheaply at some point in the future.

The reason that tulip bulb prices are important is that they, too, are worth what someone will pay for them.

And during tulipomania in Holland in the 1630s, the price of a common tulip bulb more than doubled in value to three florins, or about a week’s earnings for a craftsman from that era. More rare bulbs—those priced at 40 florins prior to the run-up—increased nine-fold; one of my college textbooks describing the phenomenon recounted the tale of a single tulip being sold for a dozen sheep and four oxen, two tons of butter, 1,000 pounds of cheese and more.

It got to where single bulbs of mid-range tulips had the value of a small house, and the rarest bulbs grew to be worth thousands of florin, the equivalent of more than $750,000 today for just one flower.

Traders got together in taverns—often in organized discussions—to discuss trading trends, current prices and all the ways they could make a fortune.

Because tulips had potential profit built in—each bulb could be the progenitor for future generations of flowers and additional bulbs—the price obviously got to where it had no basis in reality; when Dutch government officials stepped in to calm the market—believing the wild speculation could hurt the entire economy—tulip merchants decided they needed to protect their profits, starting a selling frenzy.

In a matter of days, the tulip market was pretty much gone.

True believers who simply hoped to get back to break even are still waiting, long after their families and all of their heirs could have consumed two tons of butter.

While bitcoin is a modern-day equivalent—with Internet chats and user groups having replaced taverns—that doesn’t mean the story must end badly. – next page HERE