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Paul Krugman has blogged not once, but twice, on the subject of Bitcoin, in the last week. The most definite thing that can be ascertained from his writing is that he is not a cryptologist and may not appreciate the specific way Bitcoin differs from other virtual currencies, many of which are not much more than virtual debts. This lack of insight undermines his arguments (for example, Bitcoin is not as perfectly anonymous as he suggests) while also leaving another argument, the contention that Bitcoin has no intrinsic value, built on a shaky foundation.

There are many pieces of the crypto-currency puzzle and it would take a thesis to address them all thoroughly. To call Krugman to account, it is sufficient to focus on whether Bitcoin serves any useful purpose other than speculation and funding illicit activities.

Krugman correctly points out the huge rise in electronic, Internet based payments - quoting 16 percent of total sales in the US during 2012 - most of them without the aid of Bitcoin. Anybody who has ever operated a business online can attest to the transaction costs involved in accepting card payments, waiting for money to be released from time-delayed merchant accounts and the inevitable cost of chargebacks. Keep in mind, for merchants with cross-border sales, further money is lost on exchange costs, up to 10% of the price paid never reaches the merchant. Just as 60% of fortune 500 companies have incorporated in a single state (Delaware) to get the best tax deal, it seems inevitable that most rational Internet merchants will want to accept Bitcoin or something like it (once questions of price stability are resolved) to eliminate the burden of card processing/Paypal overheads. That 2-3% minimum saving is one sign of Bitcoin's potential value.

Krugman goes on to generalize about society's willingness to accept a currency as the most critical factor in its success. Although he didn't, he would be right to point out that there were societies who did not even see gold as a valuable: the Aztecs treasured cacao and feathers more highly. Try sending a US dollar wire transfer to Latin America today: for most destinations, 10% or more is gobbled up by the intermediary banks in fees and exchange costs. It doesn't appear necessary to look far beyond the US border to find societies that would happily accept an alternative. With bank fees so damn high, they don't need to be Nobel Prize winners like Professor Krugman to see the value. Not only does Bitcoin appear to offer better value than the bank, it appears to give great hope for the biggest victims of the banks, small business, the catalyst of economic success.

That's not to say that Bitcoin is ripe for speculation: I personally have no holdings at all for that purpose and I never have. The people (or businesses) who will truly become wealthy from Bitcoin (or an improved alternative) are those who succeed in developing solutions for every day trade and payment transactions in a practical way that can be widely adopted.

Source: Krugman Missed Bitcoin's Value