Thick & Thin: Why Crypto is in your Future

“First they ignore you, then they laugh at you, then they fight you, then you win.”

-         Mahatma Gandhi

Whether it was spontaneous or contrived, authorities seemed to bring the hammer down on Bitcoin (BTC) last week. Its price in US dollar terms fell almost 50 percent at one point after China banned domestic Initial Coin Offerings (ICOs) and then announced it was going to shut-down domestic trading of BTC on Chinese exchanges (but not international trading). As if on que, Jamie Dimon pronounced Bitcoin “a fraud” and Western articles appeared simultaneously in major media news outlets arguing the same.

To leave no room for doubt, cryptocurrencies are here to stay and will gain market share of the global monetary universe at the expense of fiat credit-currencies (“fiat”). Nothing banks, governments or their agencies can do will prevent international savers, commercial interests and trade partners from using distributed networks and cryptocurrencies to oblige their best interests.

Crypto in Perspective

The US financial economy was about the same size as its commercial economy in 1977. Today it is over three times the size. As we have argued, a balance sheet recession and its central bank-administered inflationary solution are inevitable. Economies like the US and China with highly leveraged currencies will suffer because they are susceptible to the “risk-off” incentives of aging populations needing to de-lever their balance sheets and consume less. When economy-wide leverage begins to choke balance sheet liquidity and output growth, fiat oligopolists – global banks, monetary authorities, and their debt-dependent parliaments – are at risk of being hoisted by their own petards.

The unstated exit strategy has always been to devalue fiat to gold. We know this because global central banks and treasury ministries retain the barbarous relic on their balance sheets and are buying more. As was the case in 1933 and 1971, gold would take a central role again to maintain currency credibility during a devaluation. Ironically, this makes gold the political solution to combat the threat from a technological Black Swan monetary authorities did not see coming – distributed networks and cryptocurrencies.  

Indeed, the presence of cryptocurrencies would likely challenge the hegemony of central monetary authorities and the viability of any unconventional policies they might conjure to fight the next recession. Ramping up the QE machine again after a decade of zero interest rates could only help output and employment marginally. The advent, logic and growing global interest and popularity in distributed networks, block chain technology and cryptocurrencies should lead to significant market share gains. Long and short investment opportunities loom large.

Thin & Thick Protocols: Why Crypto is in your future

Amazon, Google, Facebook, etc. operate on the internet, a thin protocol (i.e., http) that allows value to be built on top of it. In other words, the internet is an information channel on which commercial activity can be developed and expanded, and on which the developers of portals, websites and storage facilities receive value for their services – things like goods, logistics and information storage (AMZN), or high-tech billboards (GOOG, FB). It is important to recognize that the internet today is a communications roadway that transfers value from its travelers to developers that create tolls on it.

Block chain technology was theorized in 2009 and is just beginning to roll out as the next generation of the internet. It sits atop the internet as a thick protocol, an open source channel that allows disparate entities across the world to develop and hold value for themselves. Individuals and businesses can build their own networked communities together and, through that production, be compensated with related tokens. They are decentralized, transparent, unbiased, apolitical open source network communities with various commercial functions. Value flows to the participants themselves, who own the tolls.

Consider that Facebook executives monitor their website and determine its functionality, rules, who may use it, who may advertise on it, and how much to charge them. With a distributed network, all functions are conceived and executed by the wisdom of the crowd, disparate parties that build a community for a function of their choosing, and are compensated for it and through it. There is no government or majority shareholder at the helm. It is commercial anarchy that transfers value from plutocrats to producers.

Let your imagination run. In a few years you may want to swap some of the contents in your garage for holiday gifts for your kids. As it stands today, you would sell your old gold clubs and patio furniture on eBay. Once the proceeds (say, US dollars) are transferred to your bank account, you could begin shopping for gifts on Amazon. That process is much more efficient than it used to be, but what if all three functions were combined? Soon you will access one network, post your items, receive crypto in exchange from people in parts of the world without dollars, and simultaneously use your crypto proceeds to buy gifts for your kids. The whole affair could take a few minutes and there would be very little friction. You could keep any left-over crypto (as is) in the network, and you would not have to involve a third-party to warehouse and facilitate monetary exchanges. (No wonder Mr. Dimon seems a bit concerned.)

In an effort to maintain their market shares, commercial businesses used in the example above – say, EBay, FedEx, Amazon, and UPS – would have incentive to accept whatever cryptocurrency was being used by participants that developed and use it on the distributed network. Block chain ledgers would make bookkeeping superior to any offered today.

A world with ubiquitous block chained networks would allow banking systems and governments around the world to maintain their monopolies over their specific currencies, but demand for those fiats would naturally wane. There is little monetary authorities can do about the march of technology, just as there was little brick and mortar retailers could do about Amazon.

Radical Disruption

In the end we doubt governments will be able to repress worldwide individual human incentives to gather peacefully online and exchange value. Online borderless networks seamlessly marry desire and function. They bring the true promise of the internet to the masses without centralized, exploitive filters. Social, economic and political value will begin to better reflect human incentives. With the help of a forward-thinking friend, below are a few applications for which cryptocurrencies are essential in creating new networks destined to disrupt commerce as we know it. [1]     

·        Fog Storage: Imagine Cloud Storage, but with information stored and duplicated on thousands or millions of distributed servers and laptops around the world. Block chain technology ensures information safety and accessibility better than any single server farm controlled by one entity.

·        Regulatory Arbitrage: Entities can operate businesses in any jurisdiction, casinos for example.

·        Peer-to-Peer Commerce: “I’ll trade your Mickey Mantle autograph in return for help with your income tax filing and two and a half Fancoins.”

·        Distributed Credit: Loans from your uncles across the world, none of whom you’ve met.

·        Private identity, document storage and transmission: Eliminates Equifax, enough said.

·        Money & Currency: Tokens of value that scale across borders and provide users with more robust, less political and more accessible wealth storage than available in local fiat currencies.

The only constant is change. Distributed networks, ledgers and cryptocurrencies, which are already developed but not yet broadly absorbed, are going to cut out middlemen. It may be too early to expect failure from businesses that rely on continued inefficiencies built atop the thin internet protocol, but we think revenue growth of many financial and internet-based technology companies (i.e., bank lenders, FAANG) are in jeopardy over time. The wholesale disintermediation of the influence of elected politicians and sovereign monetary authorities, further suggests a new order is in our future. The socially and politically disenfranchised should be excited, and early market adopters should profit handsomely.

At the very least, investors should not assume with 100 percent of their portfolios that currently stable trends in output growth and asset prices will continue now that major changes in intermediary influence and currency inflation are right around the corner.

Paul Brodsky

Macro Allocation Inc.

PostModern Partners

[1] For the purposes of separating cryptocurrencies from securities, as it relates to Initial Coin Offerings, the SEC and most legal scholars that have reviewed the crypto space are settling on a threshold focused on the necessity of developer participation to create the network. In other words, compensation in the form of crypto coins for helping develop an application with economic merit would be considered a currency while offerings without an identifiable economic purpose would be considered a security.