The reactions to my opening post illustrate how easy it is for otherwise intelligent people to start sounding like an echo chamber once they have financial or ideological reasons to promote a certain worldview.

Many of the definitions that people are using are normative rather than descriptive. It is begging the question to say "cryptocurrency can't be issued by a central institution" or "cryptocurrency can't be backed by tangible assets." Obviously, most people posting here are libertarians who strongly favor decentralization. Nobody expects a centrally issued cryptocurrency to appeal to you. But it seems like some of you can't even wrap your mind around the business model.

The point is that right now: (1) all transactions performed using distributed block-chains are done in cryptocurrencies; and (2) existing cryptocurrencies are not issued like fiat currencies. But neither of those two things has to remain the same. Distributed network authentication is a new technological paradigm, just like paper money was. The fact that paper currency became the dominant means of exchange did not mean that the first form of paper money prevailed over all the later ones.

The high price of bitcoins is a giant disincentive for the network to prevail, because it raises the cost of using the network to confirm transactions. (i.e., miners are being paid huge amounts of money, because BTC are so valuable) The major financial institutions will want an opportunity to mine a large percentage of whatever cryptocurrency will take off as the dominant paradigm. Imagine how easily banks like Wells Fargo could create financial incentives for merchants to take their bank-backed crypto-currencies instead of BTC.

When people say that these currencies will be less "free" than Bitcoin, because they can be controlled and manipulated by governments, they simply make the case for why these are the currencies that will prevail in the end. Within their sovereign territory, governments can easily prevent merchants from publicly accepting certain forms of currency, like BTC. Governments use their control over the money supply as one of their primary means of retaining power, and they will not give it up without strong resistance. They will find a way to make public cryptocoin logs their newest tool of panoptic surveillance, by using the legal system to force the adoption of their favored coins. This will be easy to do under the guise of preventing money laundering, combating terrorism, etc.

Crude historical analogies are not helpful, because you can always pick an example whose facts suit your argument. I could claim that BTC is like MySpace and we haven't seen Facebook yet, but that doesn't mean that is a valid take on the facts. What matters is the technical and economic nuances.

Here, the Bitcoin protocol can and has been cloned to allow for alternative coins. It way well continue to be the dominant model for how coins should be tracked. But that doesn't mean that the original denomination will remain relevant. The barriers to entry for alternative coins are just too low. So far, those coins have mostly been weak imitations. But the launch of a GoogleCoin or BOACoin could instantly change that and create a crisis of confidence in BTC.

All of us are tired of hearing the same weak arguments made against Bitcoin by reporters and mainstream economists who don't understand the fundamentals of cryptocurrency. Two weeks ago, I began my own exhaustive research into BTC valuations, because I was trying to determine whether to make a significant investment after the China-induced price dip. Unfortunately, I have come to believe that Bitcoin is significantly overvalued.

In order to understand why, we need to recognize that Bitcoin challenges two distinct aspects of the existing financial order: (1) the issuance of banknotes and (2) the use of centralized clearinghouses to transfer funds electronically. The vast majority of public attention has been focused on the first factor. The perception of Bitcoin as a deflationary alternative to fiat currencies has contributed to its ideological popularity and caused many people to drive the price up by hording it like gold.

But what is actually revolutionary about Bitcoin is the second factor: the creation of an alternative electronic network for authenticating transactions. That network has been extremely secure and reliable, while offering two giant advantages over legacy competitors like PayPal: transparency and irreversibility. For the first time ever, there is a form of online payment that is as reliable as cash. Clearly, that was an unmet need in the marketplace, and it is the most thrilling and satisfying part of conducting transactions with Bitcoin.

The problem is that in the future there will be no intrinsic reason for Bitcoin to be the unit of currency used to conduct financial transactions using distributed blockchains. Alternative cryptocurrencies like Litecoin and Peercoin offer the same advantages over traditional means of transferring funds electronically. The fact that these currencies trade like pennies compared to Bitcoin indicates that the current BTC price has more to do with the perception that BTC is a store of value than it does with its actual technological merits. This value disparity can only be justified if BTC is essentially preordained to remain the world's dominant cryptocurrency.

The primary argument in Bitcoin's favor is the network effect — i.e., that it will obtain an insurmountable advantage by being the first cryptocurrency accepted by most merchants. But once merchants understand how to integrate cryptocurrencies into their businesses, they won't have any incentive to remain loyal to BTC instead of also accepting the 2nd or 3rd most popular cryptocurrencies. That will only require a Bitpay clone to make it easy and remove most of the risk.

Worse, Bitcoin's design actually creates a sort of 'reverse network effect' in which its success makes it impossible for most miners to participate in authenticating transactions. The use of alternative proof-of-work algorithms to allow CPU mining of alternative coins will allow them to claim a potential security advantage by building diverse networks full of competing nodes. It also remains to be seen whether the absence of any proof-of-stake algorithms will come to be viewed as a significant flaw in Bitcoin. Even if Peercoin's divided block structure proves suboptimal, there may be other ways to implement proof-of-stake that increase security while also decreasing future transaction costs by limiting energy expenditures.

Some believe that the dominance of ASIC rigs in BTC mining is advantageous because it increases the expense of interfering with the BTC network. But competing currencies can make themselves attractive to the same ASIC miners simply by adopting the hashcash proof-of-work standard.

I foresee a collapse of BTC value when the first large financial institutions release cryptocurrencies of their own, which are actually backed by tangible assets like gold or by fiat currencies. Those will not be ideologically appealing to most people who post here, but the business model makes perfect sense. The fear that the public and media have about BTC is that it is an attempt to create wealth out of thin air. Having a trusted bank issue individual coins representing actual assets will allow them to be more valuable than BTC is today, making them more attractive to mine. These bank-backed cryptocurrencies would look to many like the 'best of both worlds': the guaranteed value of a traditional bank note with the transparency and irreversibility of distributed block-chain logs.

The nature of all attempts to disrupt existing power structures in society is that the elites first resist and then join and co-opt. Bitcoin will go down in history as the first proof-of-concept for distributed financial authentication, which is going to emerge as a serious competitor to PayPal and its ilk. But the financial establishment is not going to sit back and accept the idea that a bunch of anarcho-libertarian first adopters are entitled to be millionaires. The very things that attract most people on this forum to BTC, like its edginess and anti-authoritarian image, will be its downfall when it has to compete for mass market support against bank-issued cryptocurrencies that will pay miners/stakeholders handsomely for their authentication services.

These are realities that people on Wall Street know and believe. But they aren't being priced into BTC right now because there is no real way to short the currency's value, at least not with the scale and reliability that hedge funds demand. If there were, I guarantee there would be a significant amount of money willing to take the opposite side of bets against the BTC community's true believers.

Ultimately, the entire Bitcoin story will reinforce the truest aphorism of all: "Nothing is ever as good or as bad as it seems."

Imagine when 2,000 years from now, some alien civilization uses its advanced technology to reverse engineer all the private keys and take the BTC. 

Think of it like an intermediate step for the 99% of the world that doesn't "get" BTC yet. A "dollar" cryptocurrency would be easier for them to understand. Once they had more familiarity and comfort with cryptocurrencies, they would hopefully be interested in acquiring BTC.

The deflationary version would not implicate any of those problems.

So do you guys have any good ideas for how to lock up the payments? Would a trustee have to be setup, who would oversee an escrow account?

The "burning" analogy was just that: an analogy. This would involve zero physical destruction of currency. There is no law against locking digital currency into a lockbox that is is not cryptographically feasible to break.

The dollar-burning mechanism is totally independent of whether or not there are a fixed number of coins. I could see three potential implementations of a CannibalCoin-style cryptocurrency:

(1) Inflationary version: Allow an infinite number of CannibalCoins to be minted, as long as each new one is purchased for a fixed-percentage of a USD. This would stabilize prices near the dollar. It wouldn't make the coin a good source of storing value, but it could make it a more practical medium of exchange by reducing price volatility.

(2) Deflationary version: You mint a finite number of CannibalCoins, but allow people to acquire those finite coins by destroying a dollar. This is actually a method of locking in the intrinsic value of the dollar against future inflation by the Fed.

(3) Upgrading BTC: If there are features that people want out of BTC but are not getting, such as a different proof-of-work method or the incorporation of proof-of-stake algorithms, a CannibalCoin could be set up that would only be sent to people who took their existing BTC and publicly destroyed them by sending them to this address, which is the public-key hash of zero: 1111111111111111111114oLvT2  Nobody has the private key, so those BTC are destroyed forever, allowing CannibalCoin to adopt new cryptocurrency features without inflating the overall cryptocurrency market.

This is a brainstorming idea, based on my failed attempts to get my friends and family excited about cryptocurrencies. The primary issue that seems to freak them out is the idea of the global money supply being inflated by the issuance of BTC or any other new currency.

If we are serious about making a dent in fiat currencies, we have to find a way to convince the masses that cryptocurrencies' value comes from SOMEWHERE. I have an idea for how to go about that, but I don't know if it's feasible given the existing technologies.

My hypothetical currency is called "CannibalCoin." Instead of trying to generate new value, CannibalCoin EATS the "intrinsic value" that people believe is somehow trapped inside their fiat money. It is the online equivalent of creating a private coin and making someone burn a dollar in front of you in order to get it.

How can we accomplish this using existing methods? The problem is that there needs to be some way of recording the existence and destruction of the USD in the CannibalCoin block chain. The challenge is finding a decentralized method for documenting that someone has irreversibly enrolled fiat currency into the system.

A bank could simply accept a deposit and certify that it was destroying the cash. But I am curious if anybody here can think of a way to accomplish the same thing without banks getting involved.

I understand now. Thanks for explaining! Well, that is easy to do! Yet another cool feature of BTC.

Thanks for the tip. I am looking into how they did it.

The problem would be that there is no guarantee you didn't back up the private key. Essentially, I want to know if there is some way to record in the block-chain that certain BTC are transferred somewhere that they can never be retrieved from.

One of the great things about BTC is the reversibility of transactions. If you lose your private key, then your BTC are essentially destroyed because there is no way to access them.

My question is whether there is a way to INTENTIONALLY destroy BTC so that other users can tell that the supply of BTC has decreased? I realize that you could always claim to have destroyed the private key. But my question is whether there is any conceivable means of proving that to be true.