John McAfee recently went on CNBC Fast Money to defend Bitcoin against Jamie Dimon’s assertion it is a fraud.
Unfortunately, he did it by perpetuating one of the most pervasive myths about Bitcoin, namely that Bitcoin derives it’s value from the amount of energy burned by Proof of Work to create bitcoins.
Here’s what he had to say:
While I appreciate him going to bat for Bitcoin and cryptocurrencies in general, it is not helpful to do so with a lack of understanding.
It seems John McAfee doesn’t understand the value mining brings to the network, as it’s certainly not “creating bitcoins”.
This misunderstanding leads to attack posts like this one, which can with some measure of reasonableness claim Bitcoin is a fraud.
If the only reason Bitcoin has value truly would be that “miners pay $1000 per bitcoin to be created” then it would really be a stupid system.
What does John get wrong?
There are quite a few misconceptions about mining, and this is partly because the term “mining” is kind of a blind. It focuses the attention on the introduction of new bitcoins into the network, while this is actually rather a secondary effect of the mining process itself.
From a network perspective, the first and foremost function of mining is making it anti-fragile and censorship-resistent by ensuring that we can be sure transactions are verified by random miners, as well as creating a method by which it is easy to check whether a block has truly been created by the network protocol’s rules.
The creation of bitcoins itself is just an incentive for miners to do so, and has nothing at all to do with securing the network, nor with the actual process of mining.
By trying to defend Bitcoin by the argument that bitcoins derive their value from the energy burnt in PoW, McAfee perpetuates the myth that Bitcoin is just a Ponzi, which it would be if this were true.
Bitcoin’s value is in its security
The value of the Bitcoin network is not in “burning energy to get coins”, but in having a system that is secure, and which cannot be attacked without a massive investment which would need to be continually defended against the rest of the network if attempted.
For that, PoW is a remarkably good way of securing it. Yes, it burns massive amounts of energy. That’s what it costs to have a secure system. It means that for someone to attack it, they will need at least half of those resources to succeed.
Just for fun, let’s refute some of the allegations Natural News came up with after John’s less than correct mining descriptions, using how bitcoin really works as a basis:
The problem with John McAfee’s explanation, of course, is that it admits Bitcoins can only be created through the practice of computational wheel spinning operations where the difficulty and duration of such wheel spinning is artificially made needlessly complex by the Bitcoin algorithm.
Bitcoins could be created through hardly any work at all. Many cryptocurrencies do, in fact. That’s not the point. the reason Proof of Work is complex, is because the network demands blocks to be created approximately each 10 minutes. As Bitcoin currently incentivizes mining by block rewards, competition is fierce for winning blocks, which increases the hash rate, speeding up the system. Each 2160 blocks, the network re-targets the difficulty to ensure ~10 minute blocks. Usually this means an upward correction, but if there is less hash-rate on the network, it will adjust downwards. A high hash-rate means there is a higher threshold for attack, thus the system is more secure.
tl;dr: bitcoin creation has nothing to do with difficulty.
This admission should be shocking to all Bitcoin holders for the simple reason that if Bitcoin drops below $1,000, mining now becomes unprofitable, rendering a very large part of the entire Bitcoin mining infrastructure instantly obsolete.
This admission should indeed be shocking! Hell, get out while you can!!
But wait, last year Bitcoin’s block reward went down by half, and what happened to the hashrate? It has risen from 1,5 to 8 Exahash! Going by the assumption that miners are smart people looking to make a profit, something else must be going on here. One of these things is of course that miners are taking an educated gamble on future price, and they are informed about how Bitcoin works and what it represents. Another is that while block rewards go down, aggregated fees have been going up, supplementing it. The statement above only holds water if the price of a bitcoin were the only way of making mining operations profitable and if the value of the network was only this silly little unit “bitcoin”.
Furthermore, the “artificial work” aspect of Bitcoin mining and its artificial computational complexity is the digital equivalent of paying people to dig ditches and fill them in again while claiming the activity boosts economic output.
This statement is completely true, if one accepts McAfee’s representation of mining. Luckily, that is not correct. Mining is done to secure the network, by miners who have an economic incentive. Currently, this incentive is divided in a block reward (which is essentially a predetermined subsidy) and the accumulated transaction fees. the Bitcoin protocol progressively lowers the block reward by half each four years, moving to a fee based market.
In both cases, McAfee and Krugman ridiculously claims that work along has intrinsic value, even if little or nothing is actually accomplished in the real world. According to McAfee, computational expenditure automatically equals value, even when the notion is patently absurd to any rational person.
Once again, McAfee’s statement is just wrong, and if taken as truth, it is indeed absurd. Work on the Bitcoin network does have value: it ensures the security of the network. That definitely can be given a value and is what most people who see the worth of cryptocurrencies would name.
Any belief in such a system is, of course, irrational and absurd. There is no such thing as a perpetual wealth-generating machine unless you own the money supply itself and can hoodwink others into trading their effort for your currency.
Once again, this statement would hold up against scrutiny if McAfee’s statement would represent what mining is and does. However, it doesn’t. Bitcoin is no perpetual wealth-generating machine. It’s a secure system of transacting without intermediaries, secured by easily verifiable, but hard to compute values.
When high-profile people like John McAfee make statements, they matter. Refutations should be made with correct information, or they lead to massive amounts of misunderstanding, which take time to correct.
Right now, there are likely plenty of people completely agreeing that McAfee’s representation of Bitcoin and its digital coins are a ridiculous proposition that needs to be exposed as the scam it is.
Dear John, please don’t do this again. Read up, take some courses, whatever. It’s exciting to learn, and Bitcoin and cryptocurrencies are a LOT more interesting than you just portrayed them!
Once again, thanks for sticking up for them, but sometimes the defense can be worse than the attack. In this case, it was.