Vigna & Casey: Bitcoin and economic decentralization

The authors argue that bitcoin reflects a wave of decentralization, and will advance decentralization as well. However, they are not very clear about what decentralization means. They use the term to refer both to the elimination of big firms, including monopolists, and the elimination of certain functions of government. This is puzzling because often it is government centralization (antitrust laws) that counters economic centralization (monopolies). I will discuss the first meaning here.

Vigna and Casey think that if bitcoin became a worldwide currency, banks would go out of business. This is wrong. Banks would stay in business; they would accept bitcoins as deposits and make bitcoin-denominated loans. We know that this is the case because banks existed on the gold standard; indeed, gold was the original basis of fractional reserve banking (by goldsmiths who stored gold for customers and made loans backed by a portion of that gold). Theory tells us this as well. People won’t want to hold bitcoins in their wallets if they don’t plan to use them immediately. They will deposit them with banks, and banks will turn around and lend most of their bitcoins to borrowers while retaining reserves to service the short-term depositors. Banks exist not because of some property of fiat money; they exist because people with short-term money surpluses gain by lending them through an intermediary who can check the creditworthiness of borrowers and monitor repayment.

The effect of technological change like bitcoin on economic centralization is unpredictable. The home computer was supposed to be a great decentralizer: anyone could afford one and so computing power was no longer monopolized by giant firms like IBM. But then came Microsoft. The Internet was supposed to decentralize, but then came Google and Facebook. Bitcoin might weaken banks (because people wouldn’t need check-writing services and credit cards), but it also might strengthen banks or bank substitutes (because people need a service to keep track of their bitcoin transactions, and to insure them against mistakes and fraud).