After months of flat-lining, the price of Bitcoin has experienced a sharp incline over the past few weeks as you can tell from this chart. When Bitcoin sky-rockets, so do articles about Bitcoin and people start hypothesizing why the price increases. Is it Venezuela’s inflated economy? India’s new currency policies? Or, as I’ll argue, impossible to tell?
Terminology
First, we must start with a couple of terms, efficient market hypothesis (EMH) and praxeology, the study of human action.
Efficient Market Hypothesis, as explained by Burton G. Malkiel:
The efficient market hypothesis is associated with the idea of a “random walk,” which is a term loosely used in the finance literature to characterize a price series where all subsequent price changes represent random departures from previous prices. The logic of the random walk idea is that if the flow of information is unimpeded and information is immediately reflected in stock prices, then tomorrow’s price change will reflect only tomorrow’s news and will be independent of the price changes today. But news is by definition unpredictable, and, thus, resulting price changes must be unpredictable and random. As a result, prices fully reflect all known information, and even uninformed investors buying a diversified portfolio at the tableau of prices given by the market will obtain a rate of return as erroneous as that achieved by the experts.
Praxeology, as explained by Murray N. Rothbard:
Action implies that the individual’s behavior is purposive, in short, that it is directed toward goals. Furthermore, the fact of his action implies that he has consciously chosen certain means to reach his goals. Since he wishes to attain these goals, they must be valuable to him; accordingly he must have values that govern his choices. That he employs means implies that he believes he has the technological knowledge that certain means will achieve his desired ends. Let us note that praxeology does not assume that a person’s choice of values or goals is wise or proper or that he has chosen the technologically correct method of reaching them. All that praxeology asserts is that the individual actor adopts goals and believes, whether erroneously or correctly, that he can arrive at them by the employment of certain means.
Takeaways
EMH and praxeology, as outlined by Malkiel and Rothbard, both point out an important idea. Information changes each and everyday, markets employ the knew knowledge efficiently, and the users of that knowledge are individuals who believe that the knowledge they possess “will achieve his desired ends.”
Because individual actors make up the aggregate, one cannot extrapolate in reverse. For example, 10 people buy apples from a store. Each person bought the apples for a different reason. One to keep the doctor away, another to bake a pie, another to play bobbing for apples, etc. But the store only knows it sold 10 apples, it doesn’t know why the consumer bought them. It would be foolish to extrapolate in reverse. To make claims of why the apples were bought based on knowing 10 apples were sold is the same logical fallacy as making the claim for Bitcoin.
Although Bitcoin prices have sky-rocketed recently, it’d be foolish to extrapolate reasoning for why. Every person has a different reason. Investment purposes, economic instability, for fun, who knows? Individuals act in their best interest, but with imperfect knowledge. Each data point is valid only if we know the thoughts of the individual. In aggregate we do not, thus making extrapolations of data is a fools-errand.
Technology Doesn’t Eliminate Natural Laws
With the introduction of smarter technology: AI, machine-learning, data-mining, etc. people assume we’ll live in an information-perfect world. The problem is, the order of the world is based on individual’s action. No matter how much data can be collected, it’s impossible to tell why people act the way they do. If everyday for years I go to the same coffeeshop you could probably assume I’d go there the next day. However, there’s nothing to say one day I’ll decide to switch it up.
With the influx of technology it’s more important than ever to remember we are individuals acting in our own best interest. Whether in the Stone Age or the great technology era, we are, and always will be, individuals acting for ourselves. Simplifying the world into aggregates, simple phrases, or cool news headlines is nice, but not reflective of the laws of nature. We are our own decision makers and no aggregation can claim to know exactly why we do things.