Is there a Bitcoin bubble? Jason Kuznicki thinks so and believes that he has conclusive proof. He blogs three graphs that show more or less that there is a lot of speculation in Bitcoin. But does speculation prove that there’s a bubble? Let’s use Bayes’s rule to think about this carefully.

Bayes’s rule is a mathematical tool for thinking about the incorporation of new evidence into subjective probabilities. Let’s suppose that there is some proposition A for which you have a prior belief. Somebody offers evidence B for or against A. How much should you change your belief in A based on evidence B?

Bayes’s rule boils the answer down to a simple mathematical form:

In English, the probability of A  given B equals the probability of B given A, times the probability of A and divided by the probability of B.

So to evaluate Jason’s argument and see how much we should change our estimate of a Bitcoin bubble based on the evidence that there’s speculation, we can simply assign the proposition and the evidence to A and B. In this case, A is the proposition that there’s a bubble, and B is the evidence that there’s speculation in Bitcoin. If we figure out our subjective probabilities for B|A and B, we can use those to determine how different P(A|B) should be from P(A).

So what is B|A? Since B is the evidence that there is speculation in Bitcoin and A is the proposition that there is a bubble, B|A simply states the proposition that  given that there is a bubble, there is speculation. It seems pretty much impossible to have a bubble without speculation, so I’ll go with a subjective probability of 1. Picking a different value here will only work against Jason’s argument.

So what is the probability of B, the fact that there is speculation in Bitcoin? The Bitcoin ecosystem isn’t built out yet. Most of the protocol’s most exciting uses haven’t even seen the light of day yet. As I blogged last week, multisignature transactions are barely in use yet, but they form the foundation for a decentralized architecture of arbitration. Ed Felten at Princeton is working on decentralized prediction markets. Jerry Brito points to microtransactions, or even nearly-continuous transactions, as another exciting future use scenario.

Given that we don’t know whether this ecosystem will ever materialize, holders of bitcoin are  necessarily speculating. If the ecosystem matures and is useful, bitcoins will be worth something. If none of these innovations come about, or if we decide they’re not that useful after all, then bitcoins will probably be worth nothing. There’s no way out of speculating, because we simply don’t know for sure if the ecosystem will come along. Almost the entire “fundamental value” of Bitcoin rests on future events.

So the probability of B, I think, is 1. When P(B|A) is 1, and P(B) is 1, what does Bayes’s rule reduce to?

B simply offers no information as to whether A is true.

A similar argument can be made when Bitcoin’s volatility is offered as evidence of a bubble. Bitcoin is a thinly-traded asset where supply does not adjust to accommodate demand. It is going to be volatile. So the fact that Bitcoin is volatile adds no new information to the question of whether it’s a bubble.

What  does provide information? I think the most reliable evidence is on the maturation (or not) of the Bitcoin ecosystem. If Bitcoin seemed static right now, I would interpret that as evidence of a bubble. But it doesn’t. Every day, people are working to build businesses that leverage some of the unique features of Bitcoin’s protocol. As long as that continues, I think it’s most reasonable to be highly agnostic about the correct price of Bitcoin.

Harvard Berkman Center professor Jonathan Zittrain has published another pessimistic, Steve-Jobs-is-Taking-Us-Straight-To-Cyber-Hell editorial building on the gloomy thesis he set forth in his 2008 book, The Future of the Internet and How to Stop It. His latest piece appears in the Financial Times and it’s entitled, “A Fight over Freedom at Apple’s Core. Concerning the recent Apple iPad announcement, Zittrain warns: “Mr Jobs ushered in the personal computer era and now he is trying to usher it out.”

I’m not going to go into yet another lengthy dissertation about what it so misguided about his thesis that cyberspace is becoming more “regulable” and that digital “generativity” is dying because of the rise of devices like the iPhone & iPad, or sites like Facebook.  Instead, I will just point you to the many things I’ve written before explaining just how far off the mark Prof. Zittrain is on this point. [See the complete list down below + video of our debate.]

But let me just say this… Ignoring that fact that he is an iPhone user himself — which makes no sense considering that he thinks of Apple as the font of all cyber-evil — he can’t muster any substantive empirical evidence proving that the Net and digital devices are being more “closed, sterile, and tethered,” as he repeatedly claims in his book and editorials.  And that’s not surprising because the reality is that the digital world is more open and generative than ever, and even if there are some “closed” devices and systems out there, they are actually quite innovative and not perfectly closed as Zittrain suggests. The spectrum of “open vs. closed” systems and devices is incredible diverse and nothing is perfectly “open” or “closed.”  We can have the best of both worlds: many open systems with some partial “walled gardens” here and there (or hybrid systems combining both). Regardless, we are witnessing greater digital “generativity” and innovation with each passing year. Until Zittrain can prove the opposite, his thesis must be considered a failure.

Finally, I want to associate myself with this excellent critique of the Zittrain thesis by Prof. Ed Felten, who points out that Zittrain’s argument doesn’t even work for the iPad, which I would agree is a fairly “closed appliance” in the Zittrainian scheme of the things:

For the iPad to become a Zittrain-type appliance, two things must happen. First, Apple must remain picky about which apps are available in the App Store. Second, Apple must limit the device’s browser so that it lacks the features that make today’s browsers viable application platforms. Will Apple be able to limit their product in this way, despite competition from other, more general-purpose tablets? I doubt it. But even this — even an appliance-style iPad — would not be enough to prove Zittrain’s thesis. Zittrain argued not just that appliances would exist, but that they would replace general purpose computers. Amazon’s kindle is an appliance, but it doesn’t prove Zittrain’s thesis because nobody is ditching their laptop in favor of a Kindle. Instead, the Kindle is an extra device which is used for its purpose, while the general-purpose device is used for everything else. If the iPad ends up like the Kindle — a complement to the laptop or netbook, rather than a replacement for it — this will not prove Zittrain’s thesis. It seems unlikely, then, that the iPad, even if it succeeds, will provide strong support for Zittrain’s thesis. General-purpose computers are so useful that we’re not likely to abandon them.

Exactly right. And here’s a few more things you might want to read to see why Zittrain’s thesis doesn’t add up (the first and the last one probably provide the best overview):

• Review of Zittrain’s “Future of the Internet” (3/23/08)
• Apple, Openness, and the Zittrain Thesis (3/30/08)
• Another Problem for the Zittrain Thesis — Old People! (4/12/08)
• [AUDIO] NPR “On Point” Debate over The Future of the Internet (5/13/08)
• iPhone 2.0 Cracked in Hours… What Was that Zittrain Thesis Again? (7/10/08)
• Enough anti-iPhone rants… just get another phone! (8/11/08)
• Another Review of Zittrain’s “Future of the Internet” (9/20/08)
• [VIDEO] My Debate with Jonathan Zittrain at New America Foundation (11/6/08)
• Zittrain’s Pessimistic Predictions and Problematic Prescriptions for the Net (7/20/09)
• Code, Pessimism, and the Illusion of “Perfect Control” (5/8/09)[1st part of Cato Unbound Debate “Ten Years of Code“ (featuring Lessig, Zittrain, Declan McCullagh, and me]
• Our Conflict of Cyber-Visions (5/14/09) [part 2 of the Cato Unbound debate]
• Cyber-Libertarianism: The Case for Real Internet Freedom (8/12/09)
• You’d Have to Be Smoking Dope to Believe the Zittrain-Lessig Thesis (9/15/09)
• Oh Farts! The Droid, the iPhone & the Lessig-Zittrain Thesis (11/12/09)

Terrific piece here from Ed Felten on how new technologies and cultural trends are undermining traditional conceptions of “media localism.” It’s a theme I have written on at length, most recently in this essay on “Our Continued Wishful Thinking about ‘Media Localism‘.” Anyway, as Felten correctly notes in the conclusion of his essay:

New technologies undermine the rationale for localist policies. It’s easier to get far-away content now — indeed the whole notion that content is bound to a place is fading away. With access to more content sources, there are more possible venues for local programming, making it less likely that local programming will be unavailable because of the whims or blind spots of a few station owners. It’s getting easier and cheaper to gather and distribute information, so more people have the means to produce local programming. In short, we’re looking at a future with more non-local programming and more local programming.

That’s exactly right. As Grant Eskelsen and I argue in Chapter 6 of our new Media Metrics book:

The decline of “localism” in media is a much-lamented but quite natural phenomenon as citizens gain access to news and entertainment sources of broader scale and scope. Although it is impossible to scientifically measure exactly how much “local” fare citizens demand—and defining the term is another challenge—we know that they still receive a wealth of information about developments in their communities. However, it is also evident that, left to their own devices, many citizens have voluntarily flocked to national (and even international) sources of news and entertainment. […] [But] the demise of “localism” has been greatly exaggerated. The relative decline in local media is simply a natural development resulting from the voluntary choices made by millions of American citizens, but the tools for producing, distributing, and acquiring local content are more robust than ever.