WBD606 Audio Transcription
What Do Economists Get Wrong About Bitcoin with Josh Hendrickson
Release date: Monday 16th January
Note: the following is a transcription of my interview with Josh Hendrickson. I have reviewed the transcription but if you find any mistakes, please feel free to email me. You can listen to the original recording here.
Dr. Josh Hendrickson is an associate professor of economics and chair of the Economics Department at the University of Mississippi. In this interview, we discuss how Bitcoin has influenced his economic teaching, the importance of Bitcoin in the current unprecedented global debt bubble, and why people continue to dismiss Bitcoin.
“There’s this weird thing with economists: we always talk about ‘monopoly is bad, competition is good,’ but then when it comes to money, we’re like: ‘oh, no, just the Federal Reserve can do the money.’”
— Josh Hendrickson
Interview Transcription
Peter McCormack: Josh, hi, how are you?
Josh Hendrickson: Really good.
Peter McCormack: Thank you for coming and doing this. You came in from Mississippi, right?
Josh Hendrickson: Yeah.
Peter McCormack: So, that's the spelling bee word that kids learn?
Josh Hendrickson: Yeah, every kid in the United States, I think that's the first big word they spell.
Peter McCormack: Can you spell it, Danny?
Danny Knowles: I just googled it!
Peter McCormack: Would you have got it right?
Danny Knowles: Probably not.
Peter McCormack: All right, I'm going to have a go. M-I-S-S-I-S-I-P-P-E.
Danny Knowles: E?
Peter McCormack: Mississippi, oh is that an "I" at the end?
Danny Knowles: Yeah, and you missed an "S" as well.
Peter McCormack: So, it is double S, double S, double P?
Danny Knowles: Yeah.
Peter McCormack: There must be a song for it.
Josh Hendrickson: Everybody just kind of memorises it. When I was a kid, even I grew up in Ohio and everybody, it was the first big word.
Peter McCormack: So you're a Buckeye?
Josh Hendrickson: I have a bad relationship with Ohio State. That's the thing that everybody learned, their first big word. We didn't have a song. I think there are parts of the United States that have a song. We just learned the rhythm, M-I-S-S-I-S-S-I-P-P-I. It's very easy to get the rhythm down.
Peter McCormack: You know why I said the "E" at the end, because it's Mississippi, "E". I've got to stop bringing up, "You're a buckeye"! Everyone who lives in Ohio, I'm like, "You're a buckeye", because I dated a girl from Ohio and she said, "You're an honorary Buckeye". I've got to stop bringing that up, man. Welcome to the show. Danny is a big fan of yours. Danny was like, "Dude, we've got to get Josh on, I've been reading his articles. Well, you give your background. If people on the show don't know you, tell us what you do.
Josh Hendrickson: So, I am an Associate Professor of Economics at the University of Mississippi. My research and things and how I got involved with Bitcoin is just my main field has always been monetary economics, just a variety of different aspects of it, theory, policy, history, that kind of thing.
Peter McCormack: Okay, and as a professor, what's your remit when you're teaching; do you have to follow a certain syllabus, or can you go a little bit rogue?
Josh Hendrickson: I mean, I don't want to say you can do whatever you want, but you have a lot of freedom to determine what you want to teach and what you want to talk about, and what materials you want to use. So, there's a lot of leeway to teach your brand of economics, I guess.
Peter McCormack: And does that evolve over time? I mean, how long have you been doing this?
Josh Hendrickson: Absolutely. So, I've been doing it, I guess this is my 12th year, and I would say most of my classes, other than maybe the introductory classes, are never the same from one time to the next, because there's always something new that I want to talk about, or there's some way of explaining something that I didn't think of before, or that I think might be easier for students to understand, or something like that, or that might better relate to what the students are interested in, or what's going on in the world, things like that.
Peter McCormack: So, the students will come in and bring things they will want to discuss?
Josh Hendrickson: Well, a lot of times you can figure out what they're interested in. One of the things I used to do with my syllabus is I used to just list too much stuff; there would be too much stuff to cover in one semester. But I would put it there and then just gauge what the students were interested in, then we would just drop certain things that they didn't seem to be interested in, and just focus on the stuff that they just either wanted to learn, or that they had some inherent interest in before they even came in the class.
Peter McCormack: And did you major in economics yourself?
Josh Hendrickson: Yeah, so as an undergrad, I started out as a history major, and then I found economics. And after I found economics, then I ended up making it my minor, then I went and got a master's and PhD in economics.
Peter McCormack: Okay, cool. Well, so I studied economics at A level in the UK; I don't know if you know our education structure?
Josh Hendrickson: I don't understand it and I think I should, because I'm currently Department Chair and occasionally our students go take classes in England, and then they will send it to me and they will say, "What does this transfer as?" I can never figure out what the levels are.
Peter McCormack: Right, so we do, up until 16, you prepare for something called your GCSEs, and you'll do 9, 10, 11 subjects depending on who you are and how hard-working you are; or if you're a dumbass, you might drop a couple! Your main GCSE years are 13 to 16.
Danny Knowles: Well, 11 to 16, isn't it? But it gets more serious at 13, I think.
Peter McCormack: Yeah, it's two main years where you do your mock exams, and then some people, like if you're a maths genius, you might take it a year early. And then once that's done, when you're 16 to 18, you go into 6th form, which is two years, and you study something called your A levels, where you tend to pick three or four subjects.
Danny Knowles: That's what we call college.
Peter McCormack: Do we call that college?
Danny Knowles: Yeah, it's like 6th form college, yeah.
Peter McCormack: It's still school for me.
Danny Knowles: Oh, is it? Okay.
Peter McCormack: Yeah, they did call it school. Interesting. Yeah, so if you're less intelligent, you go to college and do your A levels, but if you're super-smart like me, you stay in school!
Danny Knowles: I didn't do A levels.
Peter McCormack: Didn't you?
Danny Knowles: No.
Peter McCormack: What the fuck?!
Danny Knowles: I went to college and did audio engineering.
Peter McCormack: If you're really dumb, you go specialise in something like audio engineering! No, so A levels, you do for two years, or you go to college. But the A levels is where you choose to kind of specialise, and that's before university. So, I did economics, classical civilisation and geography. But when we studied economics, it was split into two sections: micro and macro. And the entire macro part was Keynesian Economics, nothing else. I'd never even heard of Austrian Economics until I discovered Bitcoin.
But with what you're doing, what schools of economics are you teaching; are you teaching schools of economics; are you testing them? I'm really intrigued to this.
Josh Hendrickson: So, I wouldn't say that there's a focus on a particular school, it's more there's a focus on particular things that you want them to learn. I think at an introductory level, people in the US are probably still getting a Keynesian education. So, when they take the principles of macro, most of the textbooks are very Keynesian. If you picked up a text book 50 years ago and you picked one up today for macro, it's probably not that much different. That's why I don't use the book when I teach principles of macro!
Peter McCormack: So, what do you use to teach the principles of macro?
Josh Hendrickson: I usually just use my own notes. So, I've kind of written up my notes over time in narrative form, and I just give them to my students.
Peter McCormack: So, you've probably got your own book in you.
Josh Hendrickson: I mean, probably, but I don't know what the market is for it, because if everybody else is selling the Keynesian textbook, then maybe they don't care about the notes I have, maybe there's no market for it.
Peter McCormack: They might be teaching Josh Economics in the future! Okay, so this is really interesting. They could go to one college and learn -- well, they could go to two different colleges and learn almost two separate ways of understanding economics?
Josh Hendrickson: Yeah. In the US, if you go back to the 1970s and 1980s, there were distinct brands of different schools. So, people would self-select the Harvard, MIT, North-eastern universities, they were all sort of Keynesian; Chicago was very monetarist, like Milton Friedman, his students; and then at UCLA, they had a very distinct UCLA approach to economics, which really focused on things like property rights and transaction costs, and just how markets work in general.
But then also, the people at UCLA were actually really distinct, because at most schools you've always had people who were kind of micro people or macro people, but at UCLA all of those guys were everything. They would write macro papers, they would write micro papers, and I think even when they were writing macro papers, a lot of it was, if you understood micro better, you wouldn't make this bad argument.
Peter McCormack: Interesting. So, when you're grading people -- and you do the grading?
Josh Hendrickson: Yeah.
Peter McCormack: So, are you grading them based on how you believe they've understood what you've been teaching?
Josh Hendrickson: Yeah, so usually the way that I give exams is I usually give short-answer questions that kind of leaves it open, where they can explain how to use economics to answer the question. So, really what I'm grading them on is not so much, did they write the answer that I would have written; it's really, are they using what they've learned about economics to work their way through the question and figure out what it is that -- it's more about learning how to answer questions than what the answer should be, I think.
Peter McCormack: So, there's a certain amount of fluidity to the economics, whereas when I was taught it, it was quite rigid; the questions we were asked were quite rigid, they wanted quite rigid answers?
Josh Hendrickson: Well, I think that it also depends on who teaches it. So, when I teach, I never give multiple-choice exams, or anything like that; everything is always short-answer essay. But a lot of people, if it's a big class, for example, they'll just give a multiple-choice exam, because they don't want to go through 100 exams where there's 10 short-answer questions. That takes a long time.
Peter McCormack: That's a shame though.
Josh Hendrickson: It depends on your teaching load. If you have a really high teaching load, you might literally just not have time to do that. But if you have a smaller teaching load, it lends itself well to being more creative and also allowing for more open-ended stuff when you're giving exams.
Peter McCormack: That's interesting, because say with maths, maths is fairly fixed and the answers are fairly fixed, up until the level I learnt. I mean, I've got no idea what higher maths or university maths is like, maybe there's some creativity in there. But it sounds like you're supporting an idea that people can be creative in their answers, which sounds to me like there's room for a lot of debate within economic theory?
Josh Hendrickson: Yeah, to some extent, yeah. The way that I think about economics is, economics isn't really teaching you what to think, it's teaching you how to think. So, when I'm asking the question, really what I'm trying to figure out is, can you use the tools that you've learned in the class to relate to this particular example? I mean, I don't necessarily think it's that different than maths. I think it's different than maths that's typically taught.
But if you're taking calculus or something and they teach you how to take a derivative, and you learn the rules to take a derivative, you can memorise the rules and things like that. But if they give you some practical example, where you need to know the slope of a curve, then you need to know that you need to take a derivative and you need to know how to do that. So, there's different ways to teach, where you're leaving it more open to the student to show you what they know, rather than just repeating back to you what you told them.
Peter McCormack: Well, it's one of the things I found most interesting about going down this Bitcoin rabbit hole is seeing there's all these different alternative theories on economics, the traditional Keynesian versus Austrian. But also, there's certain kinds of internet personalities who have different ideas, or challenge different ideas. Steve Keen is one, I don't know if you know him, he's been on my podcast; what was it, Rebel Economics or something? There's different people like that who have different ideas. Stephanie Kelton, we had on the show, who's a big MMT fan. I'm going to get into that with you at some point.
Peter McCormack: Jeff Snider, yeah, who talks a lot about the eurodollar system. And that debate around economics, I find super-interesting. You might be wondering why I'm asking you so much about it, being a teacher, but I'm really interested in the fundamentals here. Do you also therefore drive debates within your classes?
Josh Hendrickson: I think it depends on what the topic is. So some of the time, you're just trying to figure out, to give a ridiculous example, if you teach somebody supply and demand and you just draw supply and demand curves on a graph, they can move them around, they can see how prices change and that sort of thing, but you don't really care about whether they can do that or not, or at least you shouldn't. But it lends itself well to questions where you're just like, "Here, draw a supply and demand graph", and that makes it easy to grade and things like that.
But what you would really want to do is actually just say to the student, "Okay, there's a hurricane in the Gulf of Mexico; what happens to the price of oil?" If they understand supply and demand, this is very easy. If they don't understand supply and demand, then they're like, "I don't know". And so, a lot of the open-ended stuff isn't necessarily about debate, it's just about getting you to apply what you learnt; so, "Do you understand why you're learning supply and demand? Do you understand why this concept is useful for understanding the things that you observe in the world?"
Peter McCormack: The reason I'm asking these questions, they're kind of leading questions, but I kind of feel like certainly where I am in the UK, the economy is a bit of a mess at the moment, and I feel like we're there because of the decisions you maybe would point to the Bank of England, you maybe would point to the government. But it seems like either the people making decisions don't understand economics, or they understand it and they don't care about the implications.
So you, as somebody who understands economics, we're obviously in a challenging situation both in the US and the UK and in Europe at the moment, how do you observe this?
Josh Hendrickson: I think it's hard to judge people's motivations for why they're doing what they're doing. I also think it's hard too because a lot of what we observe is not based on single decisions, it's small decisions that add up over time. Most of the time when you have some sort of problem, it's because of a series of bad decisions that happen over time, and those aren't even necessarily the same people. Also, there is an aspect of short-sightedness sometimes with policy, because there's a current problem and you want to solve that current problem. So, somebody has a solution, or says they have a solution to that problem and it sounds reasonable, and so you go ahead and do it and then you realise later that actually, there are these costs that you didn't anticipate. So, sometimes it's just unexpected.
Other times, it also might be that politicians care more about what's going on now than what's going on later because later, they won't be in office and now, they need to keep their position. So, there's a lot of different incentives that go into these political decisions. It's hard to judge their motivation. Mostly, we just have to -- I mean, I see the role of economists as being the people who can stand up and say, "Hey, there's a problem here, you need to do something about this and here are the sorts of things you could do".
But this is also hard, because I see in my own profession there are lots of people who are just as political and partisan as the politicians, so they are not always giving the advice that might be optimal, they are giving the advice that works to push their own political agenda or political party forward.
Peter McCormack: Yeah, we've talked about it a lot on this show, that the political cycle, depending on when you are, the four- or five-year cycle is something that is unhelpful for making sometimes the correct decisions with regards to things that are actually long-term decisions. We had a guy on the show recently, called Dan Tubb, @Kingbingo_ on Twitter, and we were talking about debt and we specifically used the lens of the UK.
So, the UK debt at the moment, I mean was it £2 trillion? That number aside, the annual receipt for the government's about say £1 trillion, but the annual spend's about £1.1 trillion; so, they're running up an increase of the deficit every year by like £100 billion. Servicing the debt itself is £120 billion, more than the UK Government spends on education, and the highest cost outside of that is the NHS, which is £200 billion a year. The NHS itself is failing, but nobody who ever wants to try and change that and fix that or suggest that they need to spend less money on the NHS, is going to be in power because it's these political cycles make it very difficult to make the right long-term decisions. I don't know where I'm going with this; I don't have a question!
Josh Hendrickson: No, but I think that's right. But I also think that if you look at history, there are times when you see countries that have a lot of debt. But the thing that's different about now, if you look across history, people will point to periods where like, "Oh, look how high Britain's debt-to-GDP ratio was". But if you actually know what's going on in history, it's because they had just fought a war. And the thing about wars is they tend to end. So, when the war is over, you're no longer spending money on the war, so there's this natural cut in spending that's going to happen.
If you look at how England historically paid for wars, it was by smoothing out the costs in terms of taxes over time. So you just have this huge increase in spending during the war, then the spending comes back down, then you gradually pay this back with taxes. And if you look at what's happened in the United States and Western Europe since World War II, when you look at those historical episodes, back then predominantly what states were spending money on was the military. And after World War II, states have essentially become insurance companies. We have social security in the United States, we have Medicaid, we have Medicare; these are just big insurance schemes, kind of.
But the thing is is that those don't end, so it's not like a war where we're just all of a sudden not paying these things, these are very long term, and if you don't budget for those things long term, then you're going to see a lot of debt in the future. It's kind of unprecedented because we've never had these sorts of policies before. I mean, frankly countries just weren't rich enough to have these sorts of policies before.
Peter McCormack: Are they rich enough now?
Josh Hendrickson: Well, maybe not. But I think the thing is, if you look at the last 400 years, the modern state is really very young in history, and what the state does predominantly, even the modern state, was just war and funding the military and things like that. A lot of these social programmes are relatively new. And the belief was that we could provide these kinds of things, because at the same time as the state was developing, we had this rapid period of economic growth. So, people were like, "We've developed this state, the state's very good at collecting tax revenue, a lot better than it used to be 200 years ago, and then we have people that we want to help, so we could use these tax revenues to do that".
We can debate whether these are good ideas or not, but clearly this is where a lot of the debt is coming from, and this is where a lot of the constraints on governments right now are coming from, is that they have all of these obligations. When it comes time to cutting spending, cutting spending on the military when the war is over is not that difficult. Telling somebody that they're not going to get social security is not remotely the same thing. You're telling them that you're going to take away a benefit from them that they thought they were going to get, and politically that's far more difficult.
Peter McCormack: But you, as an economist, and this is one of the first issues you've raised, you obviously consider this an issue?
Josh Hendrickson: Yeah. I mean, I think that the level of debt we see, the level of sovereign debt we see is sort of unprecedented, and even when we compare it to these historical episodes, those historical episodes don't really tell us how to go forward from here, because those historical episodes, we were predominantly paying for war, not Medicaid and social security.
Peter McCormack: Danny, can you try and find that OBR -- or, do you have the slide from Dan Tubb?
Danny Knowles: Yeah.
Peter McCormack: I'd just be interested, now you've said that, Josh, to go through the list of items that the government spends money on, to see where it goes, because that would be interesting. Because, I guess the point you're trying to make is, when people didn't have them, they either went without, or they were productive. So, if you didn't have welfare, what were the options? You lived on the street, you lived with family, or you were forced to go and get a job. The same if there's no health support, you have to find a way. But the government has tried to provide so many things.
Danny Knowles: Do you want the list of public spending?
Peter McCormack: Yeah.
Danny Knowles: So, it's national healthcare.
Peter McCormack: Which is an insurance.
Danny Knowles: Yeah, public pensions.
Peter McCormack: Which is an insurance.
Danny Knowles: Social security.
Peter McCormack: Which is an insurance.
Danny Knowles: Education.
Peter McCormack: Where do you put education?
Josh Hendrickson: I wouldn't call that insurance.
Peter McCormack: It's investment.
Josh Hendrickson: But again, it's in sort of the same category as, "Are you going to tell people that you're not going to fund their schools?" It's just as difficult as saying, "Are you going to stop funding the NHS?" I think.
Danny Knowles: Then, defence, state protection, which I don't know what the difference between those two really is.
Peter McCormack: Okay.
Danny Knowles: Transport, general government, other public services.
Peter McCormack: So, transport is probably similar to education, in that it's not an insurance but it is a public service.
Danny Knowles: So, after transport, general government, other public services, and then debt interest.
Peter McCormack: What would you say the total is of those insurance items?
Danny Knowles: It would be roughly £900 billion, something like that.
Peter McCormack: Of the £1.1 trillion?
Danny Knowles: Yeah.
Peter McCormack: You've not included education and transport, right?
Danny Knowles: No, but they're pretty low spends compared to the rest of the things. That was including debt interest as well, so maybe a bit less.
Peter McCormack: Okay, but 10% is debt interest and 80% is insurance. That's really the problem.
Josh Hendrickson: Yeah.
Peter McCormack: And I guess with things like, if people didn't have a pension, a state pension, that's something they'd have to budget for through work. But then also, if the government was spending considerably less, they'll be taxing less, so people will be more productive, have more money to invest in themselves.
Josh Hendrickson: Well, one problem with the pensions is, there are many states in the United States where state workers are entitled to a pension. But you also have mismanagement of these pensions. One of the reasons why these things fail is, they just bake in an assumption that they're just going to make 8% a year, even if they're making 5% a year. And so, then you have all these unfunded liabilities, but the government's made this promise, and then they have this difficult decision; do we tell people, "Sorry, your benefits are going to be lower", or do they just raise more tax revenue from somewhere else, or borrow to pay these people the money that they owe them?
Peter McCormack: I'm going to jump around a bit, bear with me. But in terms of government having to support these outgoings that they've agreed and committed to, and they can't support them through tax, they have found, as you said earlier, creative ways to create money, whether it's borrowing or -- what are the range of ways it can create money?
Josh Hendrickson: I think one of the things in the United States is that there's been a concerted effort, since World War I, on the part of policymakers in the United States, to make the dollar a global reserve currency. The reason for that is there are naturally tax or trade advantages, and things like that, that come with that. But part of that is, if the dollar is a global reserve currency, there's an increase in the demand for dollars. And so, you can create more dollars without necessarily creating inflation, because you've got an increase in money demand and you're just meeting that money demand with new dollars, so you don't necessarily see this in prices.
I think, for the most part, people aren't really holding dollars, they're holding US Treasuries, but again that just makes it easier for the government to borrow. So, there's a demand for these Treasuries, and the constraint is really the interest that you're paying on that debt. So, if there's growing demand for your debt and you're just meeting that demand with more supply, you're not going to see a lot of the changes in interest rates that would convince you to have more constraint on your borrowing. So, things like that have gone on.
If you look at what's gone on since the Financial Crisis, the Federal Reserve has started paying interest on reserves, so what that's done is it's allowed banks to just hold a bunch of reserves and make very passive income from the Fed by sitting on those reserves. But in the process, the Fed has dramatically increased the size of its balance sheet. How does it do that? It goes out and buys government debt. And so, if their balance sheet is growing, that means that they're holding more and more of government debt. In the past, again there were mechanisms to prevent that. But with interest on reserves, banks are just willing to hold onto those reserve. So, you give them the reserves, you take the Treasuries, and there's no real change there.
Peter McCormack: As somebody who is an economist and observing what is happening, do you consider this long term, do you try and map out where you think we're heading with this? I remember growing up, and I certainly remember when I was studying A level economics, we used to discuss surpluses and deficits, the rainy-day fund; I mean, we all have it personally. If you're doing well, you'll save a bit and then maybe, I don't know, I'm not saying you personally, but maybe your wife loses her job, so you have to dip into your funds, or your kid needs something, goes to school or college, you have to manage that surplus or deficit yourself, and sometimes you go into debt. But if you ever get to a place where you cannot service your debt, you lose your house, you lose your car.
Historically, I remember the government used to run a surplus or a deficit. It seems like everyone only runs a deficit now. So, do you map this out long term and are you considering where we might be headed with this?
Josh Hendrickson: Yeah, I think there's certainly reason for concern here, and you already see it when you look at countries like Russia and China, things like that, they're already diversifying their reserves. They're holding fewer dollars and they're holding more commodities like gold, and I think that partly has to do with geopolitical factors. But I also think that it partly has to do with the amount of debt that is being accumulated in the western world. It's very hard to predict what's going to happen in the future, because we don't really know what the trajectories are for these sorts of things, and we don't know if there's going to be some sort of significant event that convinces governments that they have to do something differently, or something like that.
I think that the situation doesn't look particularly good, it doesn't look like something that's sustainable in the long term. And I also think the difficulty here is that this interest rate constraint that governments face when they're accumulating debt, it doesn't tend to happen gradually, it tends to happen all at once. So, countries that have problems that ultimately result in default and things like that, you tend to see some significant event and it causes some major change in the interest rate, and now all of a sudden they have debt that they need to roll over, but it's way too expensive for them to roll over the debt, and now they have to make a difficult decision about what they're going to do.
But those things happen very suddenly, it's not like you just see this gradual increase in your interest rate every year and it forces people to think about it; generally it happens all at once, there's some kind of significant event that pushes you over the edge and now you're forced to make these difficult decisions.
Peter McCormack: So, when you say it doesn't look good, what are the potential risks here? People listen to this show, yes they're bitcoiners, but actually they're also people just generally interested in themselves and how the economic conditions might affect them and their families, that actually interestingly this show we make today might do better than some of the more leading voices in Bitcoin, because people are hungry for understanding about economics and macro. What are the potential risks that you're seeing ahead; and do you see scenarios where even the US will default on its debt?
Josh Hendrickson: Well, I think the US would be last in line, so there would be warnings. I don't think the US will, just because it's much more likely that some other significant western country would go first, and then that would probably scare other western countries into reform. But yeah, I think that government debt is this really difficult thing to think about, because on the one hand we like to compare it to a household, but they're not really like a household, because if I run up too much debt, I can't go to my boss and say, "Hey, I ran up a bunch of debt and so now you're going to pay me 20% more next year so I can pay this down". But the government kind of can do that, because they collect tax revenue. So, they're collecting money forcibly, and so they have that recourse.
Also, in the United States, I don't know that it would ever come to this, but the United States Government does actually own a lot of wealth, so they have national parks and all of these things, and that land is valuable. So, they have recourse for meeting demands that maybe you or I would not necessarily have.
The general thought experiment that you teach students, in an intermediate-level class, is you say, "Okay, let's imagine that the government issued a bunch of bonds today and then never again. They just spend a bunch of money today, they didn't collect any taxes to cover the spending, they just borrowed the money, and then they just kept borrowing over and over again. And so, if they did that, they would just owe the amount they borrowed plus interest and then the interest just accumulates on that debt". And then the question is, "Under what conditions could this be sustainable?"
The condition in which it's sustainable is if the economy grows faster than the interest rate. Then, debt as a percentage of GDP is going to fall and if debt as a percentage of GDP is falling, it's getting easier to pay back that debt and you don't really have to worry about it. This is one reason why people look at the debt-to-GDP ratio, to try to figure out whether government debt is sustainable or not. But it's not really the ratio itself that people care about; it's, is the ratio growing? If government debt is growing relative to GDP, then that's telling you that it's getting harder to pay back that debt.
Even though that's an overly simplistic example, where you effectively have the government running a Ponzi scheme, it's still useful as a thought exercise to think about, under what conditions could you actually do this as a government that's able to collect taxes; how would you be able to operate? I just think that the amount of debt is growing, and I think the reason for concern is there doesn't seem to be any kind of urgency about what to do about the debt. And I think part of that is because there's this difference between households and governments. People know that the government is not really like a household, they have a little bit more leeway to do things that households wouldn't be able to do. They have the ability to collect taxes.
So for them, the constraint isn't the same as it is for the household, and I think that's well known, and I think it's well known among politicians. But the question is, "At what point do you accumulate too much debt; and at what point is even the government bumping up against that constraint?" I think that when you look around the western world, it just seems like a massive experiment to find out.
Peter McCormack: And do you feel like we're heading towards it breaking; or do we not even know whether it will break? When you say it's a massive experiment, is there a potential they just keep increasing debt?
Josh Hendrickson: Yeah, I mean there doesn't seem to be any real motivation to do anything about it. There doesn't seem to be any sort of urgency, even in countries that are of much greater concern than the US, to do anything about it. If you look at Japan, I mean Japan is in the process of just having the central bank buy all of its debt. The central bank owns the majority of the outstanding debt of the government. We've never seen anything like that. So, I mean I don't know what else to call that other than an experiment.
Peter McCormack: I've had a few people on the show come on and discuss inflation and there's never a consistent definition of what causes it. Some people say it's -- when I had Jeff Snider on, he said a lot of the inflation is the increase in prices we're seeing following COVID. We had a supply shock and that led to the increase in prices. A lot of bitcoiners talk about the debasement of currency. Stephanie Kelton would say, "Well, you can increase the money supply, it doesn't always lead to inflation". What is your position on this?
Josh Hendrickson: So first of all, the MMT stuff is like a bait and switch. If we're talking about long term, the answer is actually really simple, it's just excess money growth, the money supply is growing faster than money demand, and so prices are going to go up. The reason I say the MMT is kind of a bait and switch is, there are times you can increase the money supply without generating a lot of price inflation, but that's generally because there's elevated money demand. They even give examples where they say things like, "Imagine the government created this programme to buy every child in the United States a pony and they were going to do so by just printing out money and buying ponies". And they would say, "The constraint here is the number of ponies". Well, yeah.
What that means is there's a resource constraint in the economy, and that's what the quantity theory of money says. And so, the quantity theory of money just says, "If you are growing the money supply faster than money demand, you get inflation". So, it's just a different of saying that, and it's this sort of bait and switch where it's like, "We don't have to worry about the debt, we can pay for it with money creation". "Well, won't that cause inflation?" "Well, not necessarily".
The evidence is pretty clear here, money growth and inflation. If you just take the average of money growth and inflation over the last 50 years, for every country for which data is available, and then you just plot those against each other, it's going to be pretty close to that 45-degree line on that graph. What that means is there's close to a one-to-one relationship between money growth and inflation.
So, the idea that we can just print money and it's costless to do so, I mean there are certain instances where you can do that. Like, in a recession where people are hoarding money, if you're increasing the money supply, it's not really going to lead to higher prices, because people want to hold more money. So, that extra money that's out there in circulation actually just facilitates people's ability to hold additional money balances.
But it's not hard to think about just basic thought experiments that demonstrate that that's wrong. If the President came out tomorrow and said, "We're going to redenominate the currency, and $1 is now going to be $10 and $5 is now going to be $50", etc, if they just added a zero onto every denomination of the currency, prices would just go up by a factor of ten. This is just a nominal unit, so if you increase, if you just add a zero onto everything, then all prices would go up by a factor of ten. So, when you're increasing the money supply, you're doing something like that, just on a smaller scale.
Danny Knowles: But that flaw in MMT seems really obvious. Why do you think it's gained such popularity?
Josh Hendrickson: I mean, I don't know why it's popular. It's popular on the internet, it's not popular in the economics profession.
Danny Knowles: But Stephanie Kelton was working with -- was it Bernie Sanders she was working with?
Josh Hendrickson: Yeah, Bernie Sanders.
Danny Knowles: So, they're obviously taking it quite seriously.
Josh Hendrickson: Well, Bernie Sanders is taking it seriously, but Bernie Sanders also, this is -- I mean, I don't know because this gets to motivation, so I can't speak to people's motivations. But if you want to dramatically expand the size of the government and people are complaining about how much debt there is, if you have somebody who comes along and says, "Well, actually we could pay for it with money creation with very little cost", it seems to me that might be somebody that you might be attracted to as an advisor, even if that's not realistic.
Peter McCormack: Bernie Sanders likes giving away things for free. It doesn't surprise me he wants to give money away for free. We had a chap on the show before called Avik Roy; do you know him?
Josh Hendrickson: I don't.
Peter McCormack: So, he works for a thinktank in Austin called FREOPP. What's it; the something for economic opportunity? Danny will look it up.
Danny Knowles: The Foundation for Research on Equal Opportunity.
Peter McCormack: Yeah. They did a study on inflation and the study highlighted how inflation increases the wealth gap. He said that even at very little inflation, even at, I don't know, 0.1% or whatever the number was, he said it still has a catastrophic effect on the poorest in society. At the same time, I was taught that deflation is bad, deflation is terrible, because people hoard money and they don't spend. Is that true, or have we been gaslighted with that?
Josh Hendrickson: So, it depends on what's causing deflation. So, there are two different causes. One cause is this kind of -- the Milton Friedman, Anna Schwartz story of the Great Depression was essentially that you had these bank failures that were increasing money demand, but that money demand wasn't being met with an increase in the money supply, and so that led to more hoarding of money and deflation, and things like that. There's also an alternative theory of the Depression, which is more focused on the gold market and it was the idea that all of these countries tried to go back on the gold standard, but the United States had most of the gold.
So at first, in the 1920s, as England and then France tried to accumulate more gold, the gold was flowing out of the United States and into Britain and then into France. And the basic idea here is that under a gold standard, the supply and demand for gold determines the price level, because the nominal price of gold is fixed everywhere, so all other prices have to adjust to whatever's going on in the gold market. So, if you have this massive global increase in the demand for gold, you would experience deflation. But you could have potentially mitigated this by just allowing the distribution of that gold to change. So, if the United States had allowed gold to flow out more to England and France, and actually for most of the 1920s, this is what happened; the United States and Britain allowed gold to flow out, initially into Britain and then into France.
But the French had a ridiculously high reserve ratio that was imposed on their gold by their government, and also then the United States started to see stock prices going up, and the Federal Reserve got concerned that their policies were causing a stock market bubble. So, what they started doing is, the United States increased its demand for gold, France continued to increase its demand for gold, and then the British for some time tried to accommodate this. And then at a certain point, they were like, "Okay, we can't accommodate it any more". But the US also wasn't willing to change its stance.
What you then ended up with is, you ended up with this dramatic period of deflation as everybody's trying to get more gold. So regardless of whether you believe the gold version of this story, or whether you believe the Milton Friedman, Anna Schwartz story of the Depression, the basic idea is that this deflation is harmful. But it's essentially harmful because there's excess demand for money. And in the case of gold, it can't be met; and in the case of just bank deposits and things like that, it can't be met because the Federal Reserve isn't increasing the amount of reserves that they were giving to banks and things.
Either story, that sort of deflation is incredibly harmful. And it's incredibly harmful because it's a monetary problem and it's an aggregate problem. But deflation is not always an everywhere band. So, if you live in a growing economy, that's going to tend to put downwards pressure on prices, all else equal. So, under the gold standard, the reason that you had relatively constant prices over time is that the economy is growing at say 3%, and so on average the supply of gold is growing at 3%. But then, the demand for gold is also growing at about 3%, because people have more income and they want to hold more money. What that does is, supply's growing by 3%, demand's growing by 3%, prices are going to stay relatively constant.
Now, gold didn't always grow at the same rate as the economy, and so if you're going through a period of high productivity, that means that these other industries are growing faster than the supply of gold, in which case you would have deflation. And in the United States, we had that in the late 1800s and it was not painful at all. There are actually benefits to that kind of process. So, long term, modest deflation is fine. Policy-induced deflation is very bad.
Peter McCormack: So, as a bitcoiner, we're still in this kind of world where sometimes you meet people and they say, "What do you do?" I say, "I've got a Bitcoin podcast", and I'm sometimes a little bit embarrassed saying the Bitcoin. I even sometimes say, "I've got an economics podcast, we look at economics through the lens of Bitcoin". But it's gone from being something that's just used by nerds to actually being something that's considered a commodity by some people, it's used as money; within Bitcoin circles, it's taken very seriously. But outside eyes can still be very dismissive, certainly people within the economics field.
So, I'm always interested when there's somebody who's an economist who likes Bitcoin or is interested in Bitcoin. A very obviously basic first question, how did you discover Bitcoin and how many touchpoints; like did you dismiss it immediately like some of us?
Josh Hendrickson: I discovered it very early. I found out about it in April 2011, so I basically heard a podcast about it and they were talking about how it worked and what it was. The podcast was actually with Gavin Andresen, and he was just talking about how it works and what the goals were and that sort of thing. It sounded interesting to me, and it sounded interesting to me because at the time, I had just finished graduate school, and one of the things I was really interested in was this literature on monetary alternatives, like free banking and things like that.
What I ended up finding out as I looked more into Bitcoin is that the guys that I was reading, who were working on free banking and things like that, were being cited by Hal Finney on the Bitcoin forums and things like that. I think there's a famous post -- so, one of the guys that I had read on free banking is George Selgin, and Finney had this post on the forums where somebody was saying, "How's this going to scale? You can't just have 21 million coins, it's not going to be enough. You would have to scale. How can you have a trillion-dollar economy and 21 million coins?" or something.
Finney's response was essentially a reference to Selgin's book, "Well, this is just like free banking under the gold standard", and referenced Selgin's book. That sort of piqued my interest and I realised that there was more to this than just some technological innovation. So, as I dug into it, I found out about the cypherpunks and what their goals were and what they were trying to achieve and how long they had been thinking about this topic. Then that convinced me that, "Okay, they're thinking about the same things that I'm thinking about. They've been trying to solve this problem for a long time, this is really interesting", so I was just interested ever since.
Peter McCormack: So interestingly, we covered free banking on the show. My friend, Nic Carter, wrote a paper or an article for Bitcoin Magazine about free banking. So, that is something as an economist, are you a proponent of; do you believe in free banking, we should have free banking?
Josh Hendrickson: Yeah, I don't think it's a radical idea to think that we should have -- so, there's this weird thing with economists. We always talk about, "Monopoly is bad, competition is good", but then when it comes to money we're like, "Oh, no, just the Federal Reserve can do the money". So to me, I was just naturally interested in this question, "What is special about money that would make us think that we want to have a central bank, or that we have to have a central bank that controls the money supply?" That just got me really interested in thinking about competitive alternatives.
Peter McCormack: Well, isn't it a case of whoever controls the monopoly is a supporter of the monopoly? So, if governments control the monopoly of money, it's obviously within their best interest to have that monopoly; but a free market for money would limit the things that government could do?
Josh Hendrickson: Well the thing is, I think it's understandable why the government wants it, but my question is, "Why did economists seem to think that this was the one thing in the economy that shouldn't be subject to competition?"
Peter McCormack: Is it because they like the idea of economic theory around how central banks set interest rates?
Josh Hendrickson: I actually think it's a complete misreading of monetary and financial history.
Peter McCormack: Wow! Okay, let's go!
Josh Hendrickson: I mean, you'll hear people make comments all the time where they say, "Of course we have to have a central bank. Look at all the banking failures that we've had in the United States". So, when you look at it from that perspective, that makes a lot of sense. You say, "Well, there have been a lot of banking panics, there's a lot of banking failures. So, clearly having some central bank that could be a lender of last resort maybe could solve maybe not all of these problems, but some of these problems".
Peter McCormack: Another insurance.
Josh Hendrickson: Yeah. But the problem is, this is a complete misreading of history. One of the reasons why we had so many bank failures in the United States is that there were restrictions on note issuance. So, you literally have problems at banks during harvest time when farmers need more money, because the bank can't print more banknotes to give them during this time. In other words, there's seasonal fluctuation in the demand for banknotes, but banks couldn't always meet them because of regulations that were put on these banks.
Also, I think when they make this argument, they completely ignore why these central banks were created. I mean, the Bank of England wasn't created so that they could micromanage interest rates in the British Economy.
Peter McCormack: It was for war, wasn't it?
Josh Hendrickson: Yeah, it was created because they had just had the Glorious Revolution, they had a lot of debt, there were these Jacobite uprisings, France was supporting the old king, they wanted to go to war, and the new king needed to raise money but he didn't really have a constituency to raise money from, and it was going to be hard for him to issue debt; because what used to happen in these scenarios is a king would get deposed and what does the new king do? He says, "Remember the debt that the old king issued? Well, we're not going to honour that, because that was his debt, that's not my debt".
So, if you are an investor and the king is trying to borrow money, why do you want to lend money to a king that might not last, whose opponent has the support of the French? So, they came up with this scheme to consolidate government debt at a lower interest rate, by agreeing to charter the Bank of England in exchange for them consolidating the debt at a lower interest rate.
Peter McCormack: So, are you one of the supporters of the "End the Fed" idea, and is it even possible?
Josh Hendrickson: I mean to me, I don't even talk about it, because I don't even think that it's feasible at this point. If you were trying to get rid of a central bank, it would be much better to try to allow greater competition, because barring some catastrophic failure, I don't think central banks are going anywhere.
Peter McCormack: And you can make a possible argument that actually, one way to do it would be through something like Bitcoin, an alternative, rather than dismantling?
Josh Hendrickson: Well, I guess it also depends on what you mean, because I hear people say things all the time like, "The thing that Bitcoin's going to do is it's going to return us to responsible governance", and I don't really buy this because a lot of the constraints that Bitcoin places on governments were constraints that the gold standard created on governments, and the governments found ways around this all the time. In fact, they used the gold standard to their advantage. When the British would go to war, they would suspend the gold standard; but they would promise, "Once the war's over, we'll go back at the previous parity". And they did.
But the reason they did this is to allow them a greater ability to finance the war, because what you're doing is, people have a tendency to think, you're going to go to war, you might want to pay for that with money creation. Well, that's true, but also at the same time, you can't destroy your currency by paying for the war, because that creates a whole separate problem and it also makes the funding unsustainable. If you have some sort of hyperinflation and nobody's willing to take your currency, then you're not going to be able to borrow, you're not going to be able to generate any revenue. There is a maximum amount of revenue that you can generate from money creation. So, if you resort to too much money creation, you're actually going to be on the wrong side of that revenue curve.
So, as a government, what you would like to do is you would like to raise as much revenue as possible through those means. But in the process, you have to anchor money demand so that you can prevent inflation from getting out of control. So, the British would promise to go back at the previous parity. Well, why was that valuable? That was valuable because you knew that any period of inflation that happened during the war would be offset by a period of deflation after the war. So, that sort of anchors people's expectations where they're like, "Okay, well this is going to be a turbulent time, but when this over we'll return to gold at the previous parity", so there are people who are willing to continue to hold those banknotes all through the war. They might not be willing to if there was no promise of going back.
So, there are lots of ways that they manipulate the system to create ways around these kinds of constraints, and so I'm not sure it's as easy as just saying, "Bitcoin is scarce, so it will put a limit, especially if states start to adopt this". Well, they adopted the gold standard, they co-opted the gold standard.
Peter McCormack: Is there a slight different here in that with the gold standard, the price can be set or fixed by government; but on a Bitcoin standard, with something that is globally liquid, can be instantly bought or sold in multiple markets, that the price is really actually set by the market itself, it's harder to fix and it's more of a bottom-up standard on a Bitcoin standard than a top-down from gold?
Josh Hendrickson: Well, I would say that this gets back to the difference between real versus nominal. What I mean is, the governments were setting the price -- so, if I define $1 as equal to one-twentieth of an ounce of gold, then an ounce of gold is just $20, and so that's the official price of gold. But that's a nominal price. So, when there's a gold discovery, or there's a change in the demand for gold, supply and demand says that prices have to adjust. Well, the nominal price can't adjust, because it's fixed by the definition of the dollar; but the real price can change, and the real price can change by these other prices adjusting to it. So, I don't know that it necessarily prevents that from happening.
It also depends on what a world looks like if there's widespread adoption of Bitcoin. If states start adopting Bitcoin, what's to stop them from saying that $1 is now worth 6,000 sats or something, and that's how they define the unit of account?
Peter McCormack: But they have tried that in places like Lebanon, Argentina, but you get black markets for money anyway, and I feel like Bitcoin makes black markets for money even easier.
Josh Hendrickson: I think maybe we're talking about two different things.
Peter McCormack: Okay.
Josh Hendrickson: Because what's going on, for example in Argentina, is they will say like, "1 peso is equal to $1", or something, but people can see they're printing too many pesos for this to be possible, so then that starts to break down. I mean, the same sort of things happened under the gold standard. For example, in the United States, prior to the Federal Reserve, you had banks that were issuing their own currencies that were redeemable in gold. But there were discounts on these notes in certain places, and it was just based on the probability that you weren't going to get your gold back if you presented this banknote at that bank. So, I think things like that can always exist, but I think that's a separate issue.
There's this issue of trying to wrestle with, what does the state look like; and do central banks exist; and what are they doing if there's widespread adoption of Bitcoin? I think that's a much harder question to answer than people think. Because, if you have state adoption, what does state adoption look like? Does that just mean that they're holding some on their balance sheet? Does it mean that they're defining the dollar in terms of Bitcoin? All those questions are really important for thinking through what the world looks like under those circumstances.
Peter McCormack: To you therefore, what is Bitcoin and what can it be? Do you think of it as a commodity; do you think of it as a potential reserve asset? Some bitcoiners think it could be all money? Or, is it just this weirdo thing?!
Josh Hendrickson: No, I mean I think it's a little bit of a lot of things actually. I mean, I know it's fallen out of favour, but I still do like the digital gold analogy, because in a lot of ways it is just like a commodity like gold but because it's digital, it has a lot of advantages over gold: you can take ownership over it very easily; you can transfer it very easily without having to physically present anything to somebody. So, I really like the digital gold analogy. But I think there's a reason why a lot of these analogies exist, and it's because there are elements of all of these analogies that work.
Peter McCormack: What would be your main criticisms of Bitcoin; what is it about it you don't like? That's a great answer!
Josh Hendrickson: No, I mean I don't really know because in some sense, it depends on the question that you're asking. So, for what I see it as and for what I see it doing, to me it's just something that exists and it's good that it exists. It doesn't mean that it solves every problem, it doesn't mean that it's the answer to all problems; but I do think there's an element…
I think one of the things that is good about it is that it's giving people a way to store their wealth when they might not have an ability to store their wealth safely, or something. People talk about the volatility of the price and things like that, but the thing is, even if this was something that was only used by people who lived under dictators, to me it would still be valuable for the world. I get this criticism a lot, that people say, "Well, why do you care about this; and why should anybody else care about it? What problem is it solving?" that sort of thing. And a lot of times, I'll give examples of stories.
Alex Gladstein has all these great stories about people living in places, and this is their way of getting around dictators and bad circumstances, and I give people those examples and they say, "Well, yeah, if you live under a dictator, I guess it's good".
Peter McCormack: Half the planet!
Josh Hendrickson: If we're trying to think about things that benefit humanity, helping out people who live under dictatorship is probably at the top of the list of what we want to accomplish.
Peter McCormack: Yeah, and I think actually it's more than half. I'm sure I heard Alex say it's more than half the planet live under some form of authoritarian regime. I mean, if you've got something that can help 50% of the population of the world… I love also the fact that I asked you what was your criticism, and you came back and told me something you liked about it!
Josh Hendrickson: Well, I guess it depends on what we're talking about. I don't think that it's optimal. If we were going to design something that had certain -- if you were going to ask economists, "What is a good money; or what does a good money look like?" you're going to get a lot of different answers, and Bitcoin's not going to be consistent with all of those answers. Now, in some cases that's good, because their answers would be bad. But it doesn't need to be optimal in any sort of sense in the way that I see it.
Also, if you think about those examples, like Finney was talking about, and you think about what's going on in free banking, banknotes under a competitive system, when you have banknote issuance, the banknotes were just ways to scale the system and they were convenient and they allowed it to scale. You could look at that and say, "Yeah, but sometimes banks didn't make good on these promises, or there were all these other problems", and I agree. But the thing is that there are trade-offs to everything.
The thing that was interesting to me about this is that this seems to give people a way of opting out. I mean, I really like Greg Foss's analogy of Bitcoin as like a credit default swap, because in a way that's what it is, even if you don't think of it that way. If something terrible happens to your currency, this is potentially a way to protect yourself against that and to insure yourself against that; and I think that to a large extent, I think that's what the digital gold analogy is like. It's sort of, let's go back to this thing that exists independent of some individual's control and allow people to store their wealth without having to worry about manipulation and the whims of their leader.
Peter McCormack: So, would you say I've observed this fairly when I say, I almost feel like you're telling me, Bitcoin is just what it is, it's just another thing? We have dollars, pounds, we have gold, we have oil. Bitcoin is just another thing and individuals will find their use for it, rather than trying to overthink what it could be or what it should be.
Josh Hendrickson: Yeah, I think periodically it pops up with bitcoiners over the years where certain bitcoiners will say things like, "Bitcoin is, and that's good enough", and I think that's probably a really good way to think about it. I find it really funny actually to think about this, because the whole ethos of Bitcoin is about decentralisation and taking away control of money from people who can manipulate the supply, or whatever, and there are all these narratives about decentralisation and why this is good and how this protects you from things.
But then, a lot of the discussion is about, "How can we just make this something that already exists in our world, but maybe just better?" or something like that. Or, "How can we integrate this into everything that we already do?" and thinking about what that looks like. I just think it's too hard to think about what that looks like. And so to me, I would rather just think about what it is, what it does, and things like that. That's good enough.
Peter McCormack: Does it come up when you're teaching?
Josh Hendrickson: Yes, it generally comes up at some point, because people know that I write about it. So, I have students who stop by my office and sometimes it's because they want to write an undergrad thesis or something and they say, "I've got this idea and I see that you work on this. Maybe you want to talk to me about it". Sometimes I just get students that just show up because they want to talk to somebody about it, and they just see that I write about it and assume that this is a friendly face to talk to, I guess.
Peter McCormack: But that sounds like private conversations. Does it come up when you're teaching a class; has it integrated in?
Josh Hendrickson: When I teach money and banking, I teach about Bitcoin. We usually spend, I would say the last two weeks on thinking about Bitcoin in the context of everything else that they've learned. So, in money and banking, they learn a lot about how the monetary system works, how the financial system works, how we got here, what the monetary and financial system used to look like, how banks operate, how we think about financial crises, that sort of thing. Then we'll get to the end and I just explain what it is and how it works and then I say, "So, let's think about various aspects of what we talked about. What are the costs and the benefits?"
Peter McCormack: A lot of mainstream economists are very dismissive of Bitcoin. Why do you think that is; why do you think some people really struggle with it?
Josh Hendrickson: It's hard to know. I think part of it is just being something new, is actually it's kind of an impediment because I think especially early on, lots of people were like, "Why do you want to write about this; why do you care? It's a fad", kind of thing. But the way I was thinking about it was completely different at the time. What I was thinking about is, everything we've ever written down, in terms of monetary theory, was based on things that we had observed in the world. As economists, we don't get to run experiments, which is a good thing. So, every model we have is based on, if you're going to write down a model of how commodity money works, you can look at the gold standard and you have some idea of how the gold standard worked. So, your theory is informed by these things you've already observed.
For me, Bitcoin was a way that you could kind of test out theory against something that didn't exist when any of these theories were written down. In particular, there was a paper written by a guy named Ben Klein in the 1970s, and it was about the competitive supply of money. It was in the 1970s, he was at UCLA, they were thinking a lot about the end of Bretton Woods, and they were thinking a lot about competition in money and things like that. But one of the difficulties is, would this be competition in fiat money? So, how would you have any sort of competitor to the US dollar or the British pound, or something like that, if it was backed by gold or something, because the government could always just say, "That's not money", or something?
So, Klein's who paper was all about, "Could you have a competitive supply of fiat money?" The interesting thing about the paper is, you think the obvious thing that somebody would say is, "No, clearly you couldn't have this because there's no constraint on note issuance, so everybody would just issue tons of money". And what Klein points out in that paper is, well, that's not exclusively true because by operating your bank and issuing money, you're earning a profit. So, if you were just to print up a bunch of money and just buy a bunch of stuff with it and make yourself wealthy, but then the bank would go under because nobody would want to hold these notes any more, maybe that profit motive would constrain you from printing too much.
But his point, at the end of the paper, was essentially that to have this sort of a system where you have this non-redeemable money, as long as the present discounted value of all your future profits were greater than the benefit from just hyperinflating, then you would just keep operating as normal. But the problem is, he says, that you have to trust that the bank could commit to doing that sort of things. So, one of the things for me when I saw Bitcoin was that I saw it as it kind of solved Klein's problem, and it solve it in two ways: you don't have to trust an issuer; but then also, the supply is determined in the code. So, you can't change the supply, so you don't have to worry that somebody is just going to hyperinflate one day. And then, it's all decentralised, so you don't have to worry about the person controlling the system just hyperinflates it away.
To me, I saw the connections between Klein's paper and Bitcoin, because you have this asset, it's not redeemable for anything. And I just thought this is really fascinating because it relates to this kind of thing. I think that when it comes to academics, a lot of them I think just maybe haven't thought about it in that way. I think some of them are dismissive of it because they thought it was a fad; I think some of them are dismissive of it because they think this is just like a giant bubble and people are going to get rekt, so they just don't have any interest in it; and I think some people just think, "This isn't solving a practical problem for me, so why should I care about it?"
Like I said, my interest isn't about it solving a practical problem for me; I can get by on the dollar system just fine. But for other people, it is much more important.
Peter McCormack: David Zell said we should ask you whether you think Bitcoin is a Ponzi!
Josh Hendrickson: No!
Peter McCormack: Good. When I interviewed Jeff Snider, he tried to describe the perfect kind of money, and he kind of ended up describing Bitcoin, and I told him, "You've basically described Bitcoin", and he said, "Yeah, but the problem with Bitcoin is that it's inelastic and money needs to be inelastic". What are your thoughts on that?
Josh Hendrickson: So, this is what I meant when I said it might not be optimal, is that this is a common criticism that people say, "Well, the supply doesn't change". If you think back to earlier parts of our conversation, some of the fluctuations that we observe in the economy is because you have changes in money demand with no changes in money supply. So, some people argue that this lack of elasticity just makes it impractical. I would say a couple of things.
So, you could imagine Hal Finney's world in which people just, and I know this is going to be heresy to some people, but where people issue claims to Bitcoin and that are redeemable on demand, and that would function something like a gold standard, but that would allow the money supply to expand without the supply of Bitcoin expanding, but it would be entirely demand-determined. So, it would be entirely demand-determined because if you don't have the Bitcoin, then you can't redeem. Now, we're clearly not in a situation where that kind of thing could exist now, because you have all kinds of scammers who are issuing paper Bitcoin and there's no actual bitcoin behind it, and things like that. But you could imagine a situation where that emerges.
The thing is though, if Bitcoin is just a small thing, then the elasticity of supply doesn't matter. If it's going to become another money that competes with other monies, then certainly you're going to have scenarios where people would be issuing those claims, and that solves that sort of problem. It can solve that sort of problem without creating inflation, because you're just creating a claim.
Peter McCormack: Are you talking about rehypothecating Bitcoin?
Josh Hendrickson: No. So, if you think about how the gold standard worked, you had banks and the banks would issue banknotes, and the banknotes were redeemable in terms of gold.
Peter McCormack: Oh, so you're talking about people offering maybe banknotes against Bitcoin; fractional-reserve lending against their Bitcoin?
Josh Hendrickson: Well, I mean whether it's fractional-reserve or not would depend upon whatever emerged in that competitive environment.
Peter McCormack: You'd have different rates, maybe different Bitcoin lenders?
Josh Hendrickson: Yeah. So, in a competitive market, if there's a demand for something, you should have it. So, if some people want 100% reserves and they want to store their Bitcoin, or lend it out at term and then get it back at the end of the term, or something like that, you could imagine something like that. Or, you could imagine something like our current banking system, where the banks are issuing their own notes and the notes are redeemable for Bitcoin, or something like it was in the gold standard. So, you can solve that problem.
But even if it's not that way, there are other scaling solutions that can solve the problem. So, it's hard to predict these things, but one of the things that allows Bitcoin to scale is that it's not like exchanging a dollar. So, if I'm Coinbase and a bunch of people buy Bitcoin and they want to withdraw it to their own wallet, I can send one transaction to a bunch of different people's wallets, and that allows Bitcoin to scale. You think about Lightning payments and things like that, that allows it to scale.
Also, if you think about the gold standard example, suppose we were still on the gold standard and we had reached the maximum supply, just no more gold left, we can't find any more, well then the supply would be fixed and you would have banks issuing banknotes redeemable in terms of gold. But what would happen is you would just have a deflationary economy. Prices would fall on average at the rate of economic growth, year in, year out. So, it would be a huge adjustment. If you were designing a system to keep stable prices, you would not pick something with a fixed supply.
But I think the thing that people ignore about that is that the fixed supply is actually the big benefit. I hesitate to say this. You look at Ethereum --
Peter McCormack: You can say it; it's okay!
Josh Hendrickson: Their supply schedule, it just changes at a whim. The developers say, "Well, now we're going to burn some ETH every time people do a transaction". Well, you're changing monetary policy. One of the reasons that the fixed supply of Bitcoin works is that in order for that to change, you would have to change the code. But in order to change the code, you would have to have consensus.
Well, if you are somebody who's running a node, you have no incentive to change the code to have more Bitcoin because conceivably, if you're running a node, you're holding Bitcoin. So, if you increase the supply, you're diluting the value of the Bitcoin you have, so you have no incentive to do that. But if you have some kind of monetary policy that's working, now you have various different interest groups who benefit from one monetary policy relative to another. And so now, you could get changes.
So on the one hand, is it optimal? Well, no, if I just want stable prices, or if I want the supply to adjust to demand, then yeah, the fixed supply has a cost. But the fixed supply is the thing that makes it work and it's the thing that keeps it decentralised and it solves that Klein problem that I mentioned earlier.
Peter McCormack: I have one final question. What do you think about nation state adoption of Bitcoin, like with El Salvador?
Josh Hendrickson: My attitude on El Salvador is maybe a little bit different in the sense that, when it comes to El Salvador, relying on the IMF is not a long-term solution for them. So, if they want to experiment with Bitcoin, I don't really see a problem with it. But my problem is nation state adoption in general creates a lot of different issues.
When Russia invaded Ukraine, there were these rumours that the Russians were going to start selling oil for Bitcoin, or something like that. I don't think that that's a good thing, because it makes Bitcoin more political. I think if you go back to other things that I said about the creation of the Bank of England, the manipulation of the gold standard, this was essentially done because the state had adopted the gold standard, and they made all of these changes.
I mean, in the United States, the Constitution even says -- there's nothing about monetary policy in the Constitution, but it's been interpreted as, "Oh well, it says here that the government can regulate the value of the money". Well, if you think about the 1700s, what they were talking about was they get to determine how much silver is in a quarter; they're not talking about reverse repos and quantitative easing. But that's what tends to happen with state adoption.
The other thing I'll say about El Salvador, because this is something that I wish more people would talk about is, how do we know how much Bitcoin El Salvador actually has?
Peter McCormack: It's a fair point.
Josh Hendrickson: There's no proof of reserves coming from El Salvador either. I know that they tweet out that they bought more Bitcoin, or there's a story that shows up on CoinDesk or the Wall Street Journal, or something, about them buying more.
Peter McCormack: One a day, wasn't it?
Josh Hendrickson: But we don't have proof of reserves. And, look, I don't live in El Salvador, so they're not accountable to me. But I do think that's one thing that people who are enthusiastic about it should actually think about, is how do we know what they have, and whether they're holding it, and what's really going on there. I think that they should be more transparent about what they're doing.
Peter McCormack: Really, really enjoyed this, Josh. If people want to follow-up, they want to follow you, read some of your work, where would you like us to send them to?
Josh Hendrickson: So, I'm on Twitter @RebelEconProf, so it's mostly shitposting, I think, I don't know! And I have a newsletter that I write with one of my friends, that's just about using basic economic concepts to understand things. That's called Economic Forces. And, whenever there's some sort of crypto scam, I usually write about that on there. I have stuff about FTX and LUNA and all that fun stuff there.
Peter McCormack: Hex?
Josh Hendrickson: No, I haven't written about that! But that is also a scam. So, I guess those are probably the two easiest ways to find me. Also, if you google me, my faculty page will probably come up, although I can't imagine anybody wants to read my journal articles or anything like that, but if they do, they're there, so google me.
Peter McCormack: Well, this was amazing. Thank you, Josh, really, really enjoyed this. I hope we get to do this again some time, and I also know you're involved with the BPI guys. This feels like a BPI trip at the moment!
Danny Knowles: It does!
Peter McCormack: We've had Matthew Pines and David Zell on. So, good luck with that and please stay in touch, I'd love to do this again some time.
Josh Hendrickson: Thanks a lot, I really enjoyed it.
Peter McCormack: Great.
