Welcome to Money Reimagined.
These past two weeks have seen some very big price swings in crypto markets as investors shift their outlook on U.S. interest rates. That’s driving authorities to speak disparagingly about the speculation that goes on in bitcoin and other tokens. In this week’s column, we take apart that “speculation” word and come out with a less ominous interpretation of what it means.
In this week’s “Money Reimagined” podcast episode, Sheila Warren and I talk to Serey Chea, director general at National Bank of Cambodia, and Makoto Takemiya, co-CEO of Tokyo-based blockchain technology provider Soramitsu, about Cambodia’s “Bakong” new central bank digital currency and payments system. It’s a fascinating look at how small economies can use such technology to leapfrog their otherwise underdeveloped financial systems into something far more advanced.
Have a listen after reading the newsletter.
Speculation is not a dirty word
Don’t look now, but I’m told there’s speculation going on in crypto markets.
Treasury Secretary Janet Yellen, European Central Bank President Christine Lagarde and U.S. Sen. Elizabeth Warren all recently called bitcoin a “highly speculative asset,” with the latter adding this week that it’s “going to end badly.” Bank of Canada Deputy Governor Tim Lane, commenting on the surge in cryptocurrency prices in early February, said it was “speculative mania.”
This puts these officials in bed with economist-turned-full-time crypto troll Nouriel Roubini, whose diatribes on this industry’s danger to humanity frequently cite the “S” word.
It also aligns them with hedge fund billionaire Paul Singer, who in a Jan. 28 letter to his investors singled out the bitcoin “fraud” as the biggest of all bubbles in an investing market consumed with “head-smacking craziness.”
(Below we look at Singer, the Elliott Management founder, more closely. I’m not sure this “vulture investor” is the kind of company that an anti-Wall Street crusader like Warren would want to keep.)
But I digress.
The word invites allusions to tulips in 17th century Netherlands. It evokes images of innocent, Mom and Pop investors duped into buying at unsustainable hyped-up prices and losing it all. It signifies emptiness. Nothingness. Hot air. Fakery.
So, while it’s worth noting that both Yellen and Lagarde, to their credit, have also acknowledged the potential in crypto’s underlying technology, let’s recognize the message their language sends: that this industry, unlike traditional finance, is not to be trusted.
The truth is, well, yes, of course there’s speculation in crypto. I’d say it’s currently the technology’s primary use case. But I’m here to tell you that’s not a bad thing. After all, in embracing speculation, crypto is engaging the central force of American capitalism.
The impossible conspiracy
The “speculation” language here fosters the impression of a clique of “in the know” actors who hoodwink everyone else, pumping up investments of no fundamental value, all so they can dump their holdings at the peak and leave the duped holding the bag.
If that’s the case, if it’s all a “fraud” as Singer says, then crypto would be the most complex pump-and-dump scheme in history. It would mean that over the past 12 years, tens of thousands of open-source developers have somehow conspired to create a giant public record of raucous debate over Twitter, GitHub and chat rooms, all to suggest that no one is in charge of an otherwise fully orchestrated operation.
It would also be the most egalitarian fraud in history. The Cambridge Center for Alternative Finance’s latest survey of worldwide crypto usage, conducted in spring 2020, when cryptocurrencies were at their lowest levels in two years, estimated there were 101 million distinct holders of crypto assets worldwide. Bitcoin has delivered them a 15x return since then. Are they all in on the fraud, too?
Contrast that with the exclusivity of Elliott Management’s winnings. Over the years, Singer’s hedge fund has earned payouts on bonds far and above their going market prices with strategies that, while legal, function much like extortion.
In 2016, Elliott exploited a favorable ruling from a judge – not in a Buenos Aires court but in New York – to turn a 2004 bet of $117 million on a small subset of Argentina’s defaulted bonds into a $2 billion profit. For 12 years, it refused to participate in a global debt restructuring that the vast majority of creditors had accepted and, by using the judicial ruling to seize national assets, it denied Argentina access to the international capital it badly needed. The government eventually had to give in. A single U.S. hedge fund, with a few insiders behind it, had successfully demanded a ransom from 45 million Argentine hostages.
It’s in stories of rent extraction like this, not in gyrating crypto prices, that you find grand-scale manipulation in financial markets. On Wall Street, as Warren thundered after the 2008 financial crisis, they are so commonplace they are part of the system.
The power enjoyed by Wall Street’s too-big-to-fail investment banks and their hedge fund clients stems in large part from the dollar’s centrality in global debt markets and from the hold they have over government policy. That is the problem bitcoin and decentralized finance are trying to fix.
The speculation engine
So, let’s please drop the hyperbolic “fraud” language.
But let’s also give Yellen, Lagarde and Warren their due. Yes, of course, there’s speculation in crypto markets. No one could look at the price volatility and conclude otherwise.
But so what?
Speculation is the basis for a capitalist economy. Without it, we’d have central planning.
Speculation is what property developers do when they invest in up-and-coming neighborhoods. It’s what your insurer does when it promises to pay you if your house succumbs to fire. It’s what Silicon Valley’s venture capitalists do, day in, day out.
Speculation is the engine of American finance. Interest rates, that system’s foundational layer, arise from the mediation of a multitude of competing short- and long-term bond market investments, and from the arbitrage bets that straddle them, that are placed by major financial institutions. As explained by the economist and innovation theorist Carlota Perez, who spoke at CoinDesk’s Consensus conference last May, financial speculation also plays a vital role in amplifying the economy-wide waves of innovation that happen during periods of rapid technological change.
Crypto can now take both aspects of that speculation engine and apply it to a new model that’s free of rent-seeking intermediaries. It’s not clear how it will evolve, but our future financial system could well involve some combination of bitcoin as an underlying source of programmable collateral and decentralized finance (DeFi) as the governance framework for establishing credit, insurance, interest rates and payment systems.
For now, the difference between speculation in traditional markets and in crypto is that the former occurs in a more liquid, efficient environment. The arbitrage opportunities posed by price volatility tend to narrow more quickly, so prices are relatively more stable and more viable as reliable benchmarks.
In both markets, the process by which arbitrage gaps narrow is always ongoing, and it tends to be accelerated by a positive feedback loop between speculation and technology. On Wall Street, we saw this acutely in bond markets when electronic trading simultaneously boosted volumes and narrowed the bid-ask price spreads that banks charged.
In DeFi, the same is occurring only faster, with the breakneck innovation in DeFi. Speculators know that getting in on the ground floor now, before the technology evolves, will allow them to ride the future efficiency gains to profit. The more they enter, the more the incentive for innovators to perfect the technology, the more valuable the system becomes.
Speculation? Bring it on.
Having just extolled the virtues of speculation in crypto, I’m going to add a caveat.
That is to say the current nature of the speculative activity, with investors hardly bothering to distinguish between assets, not only in crypto but also in broader markets, is less than ideal. The past week, in which the overall market mood shifted back and forth in response to rising U.S. bond yields and fears the Federal Reserve will move to tighten monetary policy, has left investors lumping anything other than dollars into “risk assets.” Whenever those interest rate concerns grew, everything from stocks to bonds to crypto assets fell (and rose when fears subsided.) This is a reflection of the all-encompassing dependency on the Fed’s quantitative easing policies that has developed over time.
This lack of nuance appears especially acute within crypto. It’s frustrating to see that investors looking for an outlet for their excess dollars treat digital assets such as bitcoin and ether as the same, as if the underlying technology behind Bitcoin and Ethereum is identical. The past week’s chart shows such a strong correlation that I can’t help describing a seemingly monolithic bitcoin-ether trade as “bither.”
Now, more than ever, Bitcoin and Ethereum should be differentiated. Bitcoin is establishing itself as a programmable store of a value, a reserve asset that’s described as “digital gold.” Ethereum is aspiring to be a universal protocol on which decentralized applications are built to enable new systems of value exchange and organizational structure. Their fortunes are obviously somewhat aligned, but they are very different projects.
Speculation is, as I argued, a necessary element of our financial system. But it works much more effectively when speculators make their bets based on expectations for differentiated assets. The issue may not be that there’s too much speculation in markets. It’s that the Fed made itself into the only subject of speculation that matters.
The conversation: Gladstein vs. Scott
For this week’s edition of “Coin Toss,” CoinDesk TV’s new weekly debate show moderated by Adam Levine, we stage a discussion between two people with passionate interests in human rights and financial inclusion but diametrically opposed views on bitcoin.
We pitted Brett Scott, a writer and activist who warns that cashless digital solutions hurt the poor and is highly critical of bitcoin’s deflationary qualities, among other issues, against Alex Gladstein, the Human Rights Foundation’s chief strategy officer, who is a vocal advocate of bitcoin for financial inclusion. The two went at it in a heated debate that you can watch here.
Scott said bitcoin is not money and that transactions involving it in return for goods or services are not “sales” but “counter-trades” intermediated real money, such as dollars. The lawyer Misha Guttentag said that argument was mere semantics:
After the show, Scott took up Guttentag’s request for elaboration:
Which prompted Gladstein to try to catch Scott in what he saw as an inconsistency:
But Scott was adamant:
And then it was on, with Gladstein calling Scott’s phrase that bitcoin is an “object priced in dollars,” as a “subjective definition [and] a purposefully diminutive one at that.” Scott said Gladstein couldn’t understand him because he was seeing everything through the “ideological tools of the crypto prophets,” who have a right-wing agenda that cares little for the financial inclusion and freedoms that Gladstein cherishes.
With both accusing each other of being captured by their own narrow definitions, it was never going to get resolved. So, the conversation raged for another 24 hours, drawing in a variety of figures on both sides of the Bitcoin divide.
These included Rohan Grey, the author of a widely criticized bill that proposed requiring stablecoin issuers to register as banks. He sided with Scott, tweeting this at Gladstein:
The conversation also drew in crypto fund manager Jacob Eliosoff, who shared Gladstein and Guttentag’s disdain for language games:
Things really got heated, eventually drawing in Bloomberg journalist Joe Weisenthal, who has become a big proponent of Modern Monetary Theory (the idea that, because governments control money, it’s impossible for them to run out):
In all, it was a classic Crypto Twitter melee. A lot of ego. Quite a bit of entertainment. Nothing resolved.
Relevant reads: Custody battle
With institutional and corporate interest in investing in bitcoin and other digital assets growing, big business opportunities are emerging in the field of crypto custody services. Last month, we learned that BNY Mellon, the biggest custodial bank for regular financial assets, had launched a crypto custody service.
Now, this week’s news flow shows the competition heating up.
First, in another scoop from CoinDesk’s Ian Allison, we learned that digital payments giant PayPal is buying crypto custody firm Curv.
Then, news emerged that State Street, BNY Mellon’s number one custody competitor, is playing a key role in VanEck’s pending application to launch a bitcoin exchange-traded fund, for which it would be the fund administrator.
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