\ For most people, money means banknotes and coins. Of course, we also know that a banknote is just paper, and a coin is just metal. But what is money really? Money is nothing more than embodied trust! To understand this, it's worth taking a brief look at the history of money.
\ Around 2.5 million years ago, our ancestors lived in small communal groups. The members of these small communities lived together, gathered together, hunted together, and shared the work among themselves. This kind of cooperation provided great security for the members. For example, if someone returned empty-handed from a gathering, other members of the community would share their produce with them. Today, I give you some of the fruit I’ve collected, and tomorrow you’ll give me some in return. Although there was no money, there was still a kind of “economy of favors.” In fact, the main purpose of organizing into a community was to create and maintain this “economy of favors.” This kind of moneyless “economy of favors” is as old as humanity itself, and it can even be observed among animals. Of course, this “economy” has its limitations. Since there is no “official” accounting, it is entirely based on personal relationships. Observations show that a person is capable of maintaining personal relationships with approximately 150 other people. This is known as Dunbar’s number, which sets a limit on the size of the community and, with it, the size of the “economy of favors.”
\ Transactions beyond the community could only occur in the form of barter. While transactions in the “economy of favors” can be extended over time (you saved my life, and years later I will save yours), barter transactions are instantaneous. After the exchange, the participants have no further dealings with each other. There is no need for a personal relationship, as there is no need to maintain a “cognitive ledger.” Barter does not require trust!
\ Of course, barter has its limitations, as the needs must be met in time and place for an exchange to occur. I might want to buy fur and have many apples to trade, but if no one who has fur needs apples, I won’t be able to get the fur. To solve such problems, commodity money emerged, which was the earliest form of money. It refers to goods that anyone would gladly trade for anything at any time because they are always in demand. The first known money of this kind was the Sumerian barley money, which appeared around 3000 BC in Sumer. Barley money was simply barley, measured in sila. One sila was approximately 1 liter of barley. Barley was accepted by everyone as payment for any goods, just like we can use modern banknotes to pay in any store.
\ Of course, barley is a rather cumbersome form of currency. Imagine going shopping with huge sacks of it. Throughout human history, people have experimented with many types of commodity money, but precious metals proved to be the most effective for this purpose. Initially, precious metals were also measured by weight, like barley, but coins only appeared around the 7th century BC. The oldest surviving coins date back to the reign of Croesus, king of Lydia. Coins are useful because they don't need to be weighed, as their precious metal content is guaranteed by the king. This provided a significant guarantee. If someone was caught counterfeiting money, it was considered a direct attack on the king, and the punishment was death.
\ The banking system evolved alongside money. Around 2000 BC in Ancient Mesopotamia, there were already institutions that managed deposits of gold, silver, and grain, as well as provided loans.
\ The first paper money appeared in China in the 7th century, during the Tang and Song dynasties, to facilitate payments. Using paper money was much simpler than using heavy coins.
\ In Europe, the use of bills of exchange and letters of credit for payment began to spread around the 12th century. These were receipts issued by the bank that could be exchanged for coins at any time, allowing them to function as money themselves.
\ The first central bank was established by the Swedish government in 1668. The bill of exchange issued by the central bank is the banknote, which is the official currency of the given country. The banknote is what most people think of as money.
\ Until the mid-1900s, it was true that banknotes were backed by gold, meaning the bank guaranteed that banknotes could be exchanged for gold and vice versa. Then, in 1944, the dollar replaced gold's role, and while it still had a gold backing, by the mid-1970s, the gold backing behind the dollar disappeared as well. This gave rise to fiat money, which is no longer backed by precious metals; its value is guaranteed by the issuing country.
\ It's worth pausing for a moment here, as this is the point where trust took over the role of money instead of physical carriers. We’ve returned to the state from 2.5 million years ago, with the significant difference that this trust is no longer personal. Instead of trusting our fellow humans, we trust the central bank and the state. We trust that these institutions will preserve the value of money. Thus, the economy has become trust-based, but the decentralized personal trust has been replaced by centralized trust.
\ There's another major twist in the system: in most countries, the banking system is two-tiered. This means that in addition to the central bank, there are also commercial banks. These are companies that provide banking services. Commercial banks cannot issue banknotes (that is the monopoly of the central bank), but they can create money. Since private individuals cannot have accounts with the central bank, if we want to open an account, we can only do so with a commercial bank. Our salary is deposited into this account, and we spend money from this account when we pay by credit card or transfer. When we look at our account and see that there’s $1,000 on it, we think that the $1,000 exists somewhere in a vault at the bank. However, this is not true. What we see in our bank account is just a promise from the bank. It means that the bank owes us $1,000 and will pay it to us in banknotes whenever we request it. In reality, banks only have a small portion of the money deposited in accounts (the required reserve ratio is less than 10%). This is not an issue because people typically don't need banknotes. For example, when we move money within the bank, nothing happens physically—only two numbers change in the database.
\ When we take out a loan from the bank, the bank checks our creditworthiness and then simply credits the amount to our account. If we take out, say, a $10,000 loan, an additional $10,000 promise from the bank simply appears in our bank account, which we can then use. The bank creates this money out of thin air. Since we’ve taken out a loan, we owe the bank $10,000, and in return, the bank credits $10,000 to our account, which we can then spend in a store. As I mentioned earlier, this $10,000 also represents a promise—the bank’s promise. So why do we need the bank? Why can’t we just pay in the store with our own promise? The simple reason is that the store clerk trusts the bank, but they don’t trust us. The money created by the bank has guaranteed value, while there is no guarantee for the value of money created by us.
\ Banks are often accused of creating money out of thin air. At first glance, this seems strange, as if there were no backing behind the money. However, this is not true. Banks are very strictly regulated, and they are supported by the power of the state and the law. Because of this, when a bank owes us money, we can be quite confident that it will be able to fulfill its obligation. For example, if someone takes out a loan to buy a house, the house serves as collateral for the loan. If the borrower cannot repay the loan, the bank has the right to take possession of the house and sell it. Additionally, deposits in banks are insured up to a certain amount, so even if the bank goes bankrupt for some reason, the insurer will still return the money to the depositors. Therefore, the bank is a reliable debtor. The money it creates out of thin air has value because we can trust it!
\ So, the banking system is a very smart and well-constructed system. Perfectly reliable, right? Well, not exactly. The 2008 global financial crisis showed that this system is only perfect in theory, but in practice, it is very vulnerable. It was only through serious and still-debated government interventions that an even bigger disaster was prevented. In response to the malfunctioning system, the cyberpunk community introduced its own solution in 2009: Bitcoin.
\ Bitcoin is a decentralized database operated by the community. The database is similar to the banks' databases, where the money in individual accounts and the transactions between accounts are recorded. The number of coins is fixed at 21 million, and a few are distributed every 10 minutes. Who receives these coins is decided by a decentralized lottery, where the more computing power we "burn," the greater the chance of winning. So, to acquire coins, we need to burn computing power and energy—essentially putting our hardware to work. This process is called mining, as it resembles real mining: we invest labor, and if we’re lucky, we find some gold. The more work we invest, the higher our chances of success. It’s clear that Bitcoin’s logic is built on the logic of old gold-based currencies. This is why it’s often referred to as digital gold. But what gives Bitcoin its value?
\ Let’s think about what actually happens during Bitcoin mining. We burn a certain amount of energy and a number increases in a database entry. What gives this value? There’s no state guarantee, no deposit insurance, no one guarantees that Bitcoin can be exchanged for banknotes, yet currently (October 2024), one Bitcoin is worth $64,000. Bitcoin’s value is purely based on trust. Not trust in the state or the central bank, but trust in Bitcoin as a system. Those who buy Bitcoin believe that they will be able to exchange it for money or goods at any time. No one guarantees Bitcoin’s value, and yet it works!
\ With Bitcoin, we have the first digital currency built purely on trust. Its core philosophy is that neither the state nor the banking system can truly guarantee the value of money, so something else is needed. The Bitcoin algorithm guarantees only one thing: the scarcity of coins, which makes it similar to gold. This is the only thing we can trust. Or as they say: "In code we trust!"
\ Of course, Bitcoin is not perfect. Due to the enormous energy demands of mining, it results in significant CO2 emissions, which harm the environment. Additionally, because of its speculative price and gold-like operating logic, it is not suitable to replace modern money. However, Bitcoin has given us something very important: blockchain technology!
\ Thanks to blockchain technology, we can create decentralized databases and systems where members don’t need to trust each other. It’s enough if more than 50% of the nodes operate according to the rules, and then we can be sure that the entire network will also function according to the rules. Building on this technology, we can create other trust-based currencies.
\ Of course, it’s hard to predict what the future holds. Many alternative blockchain-based currencies similar to Bitcoin exist, but they face similar problems as Bitcoin itself. I believe the best solution is to return to the roots and build systems where trust is as decentralized as possible. DAOs and personal trust should take the place of banks. Initiatives like Trustlines, Circles, and my own concept, Karma money, aim to do just that. But that’s another story…
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