The Non-Innovation of Cryptocurrency

These days I spend a great deal of my time writing about and helping inform public policy on the global cryptocurrency crackdown. Ending this scourge on civilization is one of most important political problems facing the international community these days, and marks a new era of global cooperation on financial regulation that now necessarily transcends borders and nations. The fight against cryptocurrency and ransomware is now a fight for the cause of democratic norms and the continuation of the rules-based international order.

The consistent pushback many of us see from lawmakers and the tech community is the appeal towards not wanting to stifle “innovation” that might occur as a result of cryptocurrency. This argument is based on a mistaken beliefs and not supported by any evidence, but it begs the need to elaborate on why these quirky ideas about databases and digital money have not yielded any value or successful companies like other technologies have. There is a vast disconnect between how the chattering class, the investor class and software engineers talk about blockchain; with engineers normally being highly critical that there is even any worthwhile technology associated with blockchain.

Appeals to “the potential for innovation” are always amorphous and hand-wavy rhetorical gestures towards the potential for some tech that could exist but which we don’t fully understand the implications of. However bitcoin is a technology which did not arise out of an engineering effort directed towards a specific problem or market inefficiency, but instead out of a anarchist political narrative that views democratic control of the money supply and law enforcement as the problem.

Mark Carney’s description of this situation as the “Uberisation” of money is an accurate description of the problem. Private entities now wish to disrupt the global international order by issuing private money, much like we saw in the 1830s United States Wildcat Banking era, but this time on global scale. It is an attempted financial coup by the anarcho-capitalist wing of Silicon Valley to set themselves up as central bankers but without any accountability or democratic oversight.

The saving grace of this situation is the technology being proposed to do this is neither robust nor particularly useful at achieving their stated political goals. Every Econ 101 student studies that a currency is four things:

  1. A unit of account
  2. A means of payment
  3. A stable store of value
  4. Capacity to act as a single numeraire

Bitcoin and most other cryptocurrencies have none of these features, nothing is priced in it and commerce could never be done in something so unregulated and volatile without recreating an extremely convoluted system of intermediaries to manage the technical and legal shortcomings, which defeats its entire stated ideological purpose. The “digital money” narrative has even been rejected by most crypto acolytes, and those that cling to this narrative do so out of some misplaced faith that volatility and transaction speed will fix themselves through magical thinking and unspecified means or empty appeals to heterodox economic theories.

The second failed narrative is that cryptocurrencies are “digital gold” or “store of value”. This is seemingly plausible but not supported by any evidence. Cryptocurrencies don’t have a consistent relationship with macroeconomic factors that explain their volatility and in order for them to be a store of value they would obviously have to well, store value and be a safe haven in times of market volatility. However the opposite is true, during the COVID-19 shock US equities fell by about 35% and bitcoin collapsed by 50% dragging the entire crypto market (which is highly correlated) down with it. In 2018 we saw an even deeper shock when bitcoin fell by more than 80% in the span of a few months. An alleged store of value has to reliably and consistently be redeemable on long time scales and there is zero evidence that any of these token schemes provide this.

The third failed narrative is the “digital casino model” where cryptotokens are speculative assets that people can bet on detached from any stated purpose, economic activity or utility. This is the predominant view today, however it is highly irrational from an asset valuation perspective. Any non-zero valuation for bitcoin depends on it either yielding some positive cashflows—which is impossible—or depends on an infinite chain of economically irrational actors who will all continue to pour money into the scheme ad infinitum irregardless of fundamentals. There are indeed a lot of fools in this world, but to presume an infinite chain of them as the core of an investment thesis is beyond absurd. So unless all of modern economics is wrong then the market value of bitcoin must converge on its fundamental value of zero in the limit as time tends towards infinity. That makes it a very poor long-term speculative asset and any gains one might make are derived purely from recruiting greater and greater pools of fools into the scheme on short time scales before it collapses, much like a Ponzi scheme. Massively negative sum investment schemes where for every one person who makes a return nine others lose money is not innovation.

The notion that these technologies can transform financial services in any way is laughable, because there is no mechanism or specific problem they aim to address that is not currently better done with a simpler solution. How will crypto fix mortgage issuance, trade finance, commercial lending or underwriting? These are the bread and butter of the industry and it is absurd to think that some highly volatile casino token can transform those lines of business. These subsectors are built on person-to-person interactions, commercial trust and deep amounts of centralisation and intermediaries as checks and balances on risk.

Even the canonical example often cited for a potential successful crypto business model, international remittances, ignores the history that around four dozen companies have all tried and failed to make this business model profitable. The graveyard of these companies is vast and stems from a systemic misunderstanding that actually doing the initial and final leg currency pair conversions and compliance checks which incur a non-trivial cost that needs to be passed down to the consumers and for which margins are absurdly small. This is the original sin of blockchain: trying to find a problem for a solution without understanding why the market hasn’t served the problem already.

For all the bluster about “blockchain innovation” nearly every bank and large financial institution in the world has already tried to find some application for this technology and failed. It is an amazing solution for nothing. Innovation is directing engineering and talent at problems and coming up with novel solutions, while blockchain solutionism is the opposite: taking a solution and directing people to solve non-existent problems they don’t understand.

After 12 years (roughly the same age as the iPhone) all we see being built are extremely byzantine Rube Goldberg-esque slot machines that dispense thousands of varieties of tokens with no purpose other than to enrich the owners of the various casino fiefdoms who issue those tokens, and to keep the actual dollars flowing into the casino before too many people cash out their chips. And just like in Macau the primary purpose of these games is to mask the money laundering, ransomware and criminality of these dark money flows behind the veneer of gambling and false claims of “financial innovation”.

There is zero evidence that crypto is creating any technical innovation connected to the larger economy, and a strong preponderance of evidence it is a net drain on society by circumventing the rule of law, facilitating tax evasion, environmental devastation, enabling widespread extortion through ransomware and incentivizing an increasingly frothy ecosystem of scams to defraud the public. Nothing of value would be lost by a blanket cryptocurrency ban.