The “pain point” of payments in the developed world

paymentsVitalik Buterin is one of the smartest writers and developers in the digital currency space. At the ripe age of 20 he has put together a repertoire of code, articles and most importantly challenges that the “cryptocurrency” world faces.

He recently penned an article that argues what Bitcoin needs today is usage by employers, not just more merchants.  That one of the ways to subdue and mitigate the high levels of volatility is for employers to pay employees in the digital currency whereupon employees then can pay for wares from existing merchants whom in turn pay their employees in bitcoin.

This sounds nice in theory — a fully enclosed system — but there are a number of problems with it, namely that in practice bitcoin is treated as a commodity or collectible (not a currency) by market participants and its deflationary allocation + inelastic money supply makes it a poor modern medium of exchange.

This point is argued in a recent paper by Ferdinando Ametrano:

The unfeasibility of a bitcoin loan is similar to that of a bitcoin salary: neither a borrower nor an employer would want to face the risk of seeing their debt or salary liabilities grow hundredfold in few years. A manufacturing firm cannot accept an order in bitcoin with the risk of its value doubling or halving on a single bad day. Even the development of a derivative market could only hedge these risks with an implausibly high price. This is the cryptocurrency paradox: arguably the best ever kind of money by any metrics, marred by the severe inability to serve as reliable unit of account.

Perhaps this will change over time, maybe one solution is through hard forks involving “growthcoin” (as proposed by Robert Sams) and “stablecoin” (as proposed by Ametrano).

However, one of the challenges will always be the “pain point” — what incentive do people have to switch to a competing platform in the first place?  Why should consumers or employers want to adopt bitcoin the currency?  For instance, most users in the developed world do not have to deal with double-spending or rampant inflation.  Credit card fraud rates represent roughly just 7 bps and some cards provide other types of incentive like cash-back rewards or frequent flier miles — something that bitcoin cards (if they existed) would have a uphill task of providing.  Similarly many modern savings accounts provide some form of interest rate plus deposit insurance — trying to on-board these types of users would be difficult because there is no current equivalent with Bitcoin (yet).  [Note: savings is different than speculative hoarding, see discussions here and possibly here.]

Two days ago Ben Edelman explained how in most circumstances, customers pay more just to use bitcoin yet without gaining any additional benefits.  By “use” he means using it for actual commerce and not holding on to it for speculative purposes.  Because of this friction, because bitcoin users typically need to spend more than the alternative forms of payment, despite the large increase in adoption by merchants over the past 6 months there has been very little corresponding transactional volume.  Instead it is being treated as a novelty, a speculative collectible.

Or as a friend of mine, Bob, calls it a “My Little Pony” toy.  In a nutshell Bob compares the bitcoin currency system with the My Little Pony collectible.  Bob has a daughter and according to her each Pony has its own story in its own little special universe filled with cartoons, video games, clothes and toys and that’s how bitcoin the currency is treated: many early bitcoin adopters enjoy the ever grander mythos and backstory, that it was created by an anonymous developer, the ledger entry cannot be double-spent, its distribution and promotion involves volunteers organically threaded together via Meet-ups and bulletin boards and is purportedly impervious to political whims.  This brings it to life in a more colorful way that other systems like Square or Stripe have not similarly created (see Seth Godin’s Purple Cow).  And according to Bob, My Little Pony characters can also have plight-filled adventures, though none involving subpoenas (yet).  See also: Bitcoin: a Money-like Informational Commodity

Perhaps Buterin’s solution will gather momentum over the coming years, however unless the average consumer needs to spend less (not more) to gain the same level of advantages and protections that current platforms have, it is unlikely that a snowball effect in payments will take place anytime soon.  Incidentally, one crowdfunded innovation that could likely move beyond “toy” phase soon is the Trezor hardware wallet because it fulfills a real pain point today, horribad security issues with protecting private keys.

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