Banking / Traditional finance (#tradfi) is ripe for disruption (and perhaps needs to be disrupted). Why 👇
- Fiat Currencies: Store of Value/Mobilize Savings
Inflation is Taxation Without Legislation -Milton Friedman
- Government issued currencies (fiat) are prone to debasement – losing value every year
- Rely on a central government that controls supply (and value)
- The central government has an incentive to create more money every year (steal from savers)
- Checks & Balances in the form of a link to gold / something with limited supply (scarcity) have disappeared
- Predictably supply increases every year (and in times of crisis, by massive amounts)
- ==> The USD has lost 95-96% of its value over the last ~100 years (at the FED’s current inflation goal of 2% the USD would loose half its value in ~34 years). If inflation is closer to 7% then the USD looses half it’s value in just 10 years!
- “Fiat” cannot be stored without the use of intermediaries (banks, regulated by Central Banks)
- Your money is just some banks’ liability; you have exposure to a bank’s creditworthiness (and the banks in turn are exposed to the creditworthiness of the central bank)
- One can store “cash/gold/diamonds/paintings”, but this is inconvenient at scale; susceptible to seizure; susceptible to demonetization; susceptible to theft etc.
- Gold/cash can be faked; BTC cannot, easily verifiable by anyone.
- If banks go poof, then the money they created/owe you also goes poof
- FDIC / Government insurance of this money, makes the government liable to pay when/if banks go poof
- So the government protects the banks from going poof (systemically important)
- This means banks are immune from failure; so they do not innovate and improve customer service; instead they find new ways to tack on “fees”.
- Original intent: Bitcoin was created after the 2008 bank bailouts; https://news.bitcoin.com/a-deep-dive-into-satoshis-11-year-old-bitcoin-genesis-block/ (Note the bailouts were required because 95-96% of all dollars/rupees/pounds (fiat) are actually just bank liabilities not physical “notes”/real money.)
- Fiat Currencies: Medium of Exchange
- “Fiat” currencies cannot be transferred without the use of intermediaries (payment networks like Visa/Mastercard/Amex which are susceptible same regulations as banks)
- Banks are exclusionary. Only a few have access to the SWIFT network.
- You can move “cash” without using a bank, but this is difficult to do at scale (inconvenient form factor, susceptible to seizure, theft etc)
- Regulations limit innovation at banks (and now bank’s culture), because they are systemically important entities.
Bitcoin is many things; digital gold; a commodity with limited supply; a medium of exchange; a store of value
The core innovation is the lack of central “authority” (aka gatekeeper, that can be corrupted). Central authority is distributed and yet no participant can just claim all the coin. Scarcity without a single authority! Incredible.
- Medium of Exchange:
- Easy to transfer anywhere in the world, where there is internet; code is open, network is open
- No permission needed; every single participant (node) can verify & create transactions without requiring any permission from anyone
- Becoming a participant is permissionless too; no gatekeepers
- DOES NOT work without internet; sure you can write down long codes and use pigeons, but really it does not work. (In times of crisis, governments like to cut off internet access; see Kashmir, Yemen, Syria ….)
- Store of Value
- Supply is “algorithmically” limited; cannot be debased – (not without a hack/security flaw/corruption of the core BTC dev-team);
- There can never be more than 21M Bitcoin*; in fact some will get lost every year in abandoned wallets, so the supply is likely to decrease YOY.
- No insurance (FDIC); if your money is stolen no government will help. May be alleviated by private cos offering insurance?
- No plunge protection team like the US FED (i.e. no Bernanke PUT)
- No one to kill competitors (the US has an army and uses stronger army diplomacy when folks want to supplant the USD as the reserve currency)
- OTOH the army of bitcoin maximalists grows every day and is quite a strong force
- Similar to say physical steel; supply is limited; mining is needed to mint new coins; has high volatility;
Risks to participation as a speculator
- A single double spend, or other weakness in the core consensus algo would destroy all value.
- Competition: Competition among peers, BTC vs ETH vs Doge vs CumRocket etc.
- Is this a winner take all market? Will there be one global ledger (blockchain) or many? Will some be more important than others?
- While easier to transfer if you have internet, physical stores like gold/diamonds/guns don’t need internet or electricity …
- Central Banks could also create their own “coin”, and thus compete. They’d have the resources to force compliance, esp. from institutions & companies.
- IMHO Crypto is anti-fragile, regulation will spur innovation and make crypto even more resistant to threats.
- Something with this much demand is more likely to be taxed than outlawed; but heh, Cocaine has demand and it outlawed, so …
Risks that I don’t think are really risks, but hey, I could be wrong
- High volatility ; the USD exchange rate is volatile
- Has not hurt adoption so far; # of wallets, nodes, transactions all rising
- High vol is good, it removes paper hands.
- Excessive Power Usage / Inefficient
- The network will and can vote to change from Proof of Work to say Proof of Stake or Proof of Space or something else
- This can be solved.
- Stability: 2.5 trn of crypto recently went thru a 30-50% drop in price; no FED/SEC stepped in to save the “banks”. No vultures (economists) jumped in to save the rich by stealing from the plebs (or Is the Fed meant to the opposite, protect the plebs? I get confused sometimes). Nothing bad happened, no systemic risk. There was plenty of leverage and those who took the leverage paid for it. No one else was affected. Imagine if the SPX plunged 50%; there would be carnage and the losses would be socialized. Crypto market cap is now > than top 2-3 banks I think – which should be considered systemically important! and yet nothing untoward happened when it tanked. The fact that Central Banks want to get in on the game, by making a digital currency (crypto) just legitimizes the model. It works. If you can’t beat ’em join ’em.
- Lack of Utility:
- What is the utility of money if it cannot be exchanged for good & services? BTC is liquidateable at scale (100’s of M/day)…
Risks to adoption / Technical Risks
- Low transaction speed; since every transaction must be broadcast / verified by every node, there is an inherent limit to the number of transactions per second. There are solutions like Bitcoin lightning, but there is no one clear winner as yet. This is also a problem for Ethereum and similar chains;
- Poor UX: Wallets are not terribly easy to use; much easier to use hosted wallets like Coinbase, but then the distributed, pseudonymous nature of Bitcoin is lost.
- Trust / Anti-fraud: For example there is no reliable service that provides trust; #Bitcoin has the carrots that incentivise good behaviour but none of the sticks. Cannot kick out / ban bad actors especially since pseudonymity makes it harder to identify a bad actor.