Cryptocurrency Could Destroy Itself (And Possibly Society)
Like everyone, I didn’t pay very serious attention to cryptocurrency until the recent price surges.
The energy behind crytpo has been torrential. This past holiday weekend, American dinner tables were filled with grandparents imploring their software-engineer children to get them involved in the action. I’m personally very excited about it — the ability to engineer trust is brilliant, and the large-scale automation of fallible human systems is what’s exciting about the profession of engineering.
At the same time, I’ve never had any illusions about what cryptocurrency is. It is not a get-rich quick scheme; it is a technology, and emphasis on the former may be undermining the latter. As our coins gain more and more popularity, hype has overshadowed a crucial conversation missing from the crypto world that needs to happen if it is to become a transformative force in society. This conversation is the question of economic philosophy and political utility.
We must be honest with what crypto is: a anarcho-capitalist wet-dream, a libertarian paradise. Like all political philosophies, this can be both good and bad.
It can be good, because the centralization of financial technology is a recipe for disaster. Our old financial firms tend to be stodgy, bloated, and alarmingly insecure. A new way of doing things with the potential to cut them out entirely would be welcome.
Then there’s the issue of trust. It is the achilles heel of centralization, and arguably the core failure of the 2008 financial crash. What if subprime mortgages had been on a public ledger? On an emotional level, distributed trust and power just feels good and gives us more individual control over the instruments of our economy.
It can be bad, because cryptocurrency may have an accidentally self-destructive design (more on that later). Decentralization, especially if paired with anonymity, would be extraordinarily difficult to regulate, making a crypto-based economy extremely vulnerable to the worst problems of capitalism.
As a techie, I’m inclined to praise crypto. Seizing power from wall street by undermining their vulnerable system excites me. As a moderate leftist, I’m also inclined to hate it, being a strong believer in centralized fiscal regulation (Believe it or not, there were actually some good reasons we abandoned the gold standard for fiat currency that don’t involve the illuminati).
I’m reminded of the emotions surrounding the recent Republican tax bill —prior to its design and subsequent controversy, many on the left complained of wealth inequality. A slashing of the mortgage interest deduction was proposed, which is a reliable way to fix the overvaluation of homes that are currently pumping the elite’s net worth and making wealth creation inaccessible to millenials and lower income families.
Surprisingly, the left went haywire and adamantly opposed it. In a purely logical context, this is puzzling, as the mortgage interest deduction removal aligns the goals of both the right and left and seems like a no-brainer. After drumming up doom and gloom about the new bill for weeks, a hilarious NYT article revealed, forebodingly, that the biggest losers in the new bill would be…wealthy elites. In an emotional context, the opposition is hardly a mystery — it was a Republican bill, and the Clinton democrats who read the NYT weren’t willing to burn the wealth locked in their suburban palaces. (But will no doubt be complaining about wealth inequality in the comment section).
My point is this: we frequently have blind spots for our goals and values in the excitement of the moment. In this, we lose sight of potential opportunities and failures. And I’ve been thinking lately a lot about the blind spots of crypto — and its potential failures.
Crypto Is…Eating Itself?
There’s a bug in the design of crypto that most are heralding as a feature.
Crypto gets more difficult to mine over time, eventually reaching a hard limit on the total available coinage . The crypto community seems bizarrely enthusiastic about maintaining deflationary pressure via coin rarity, while simultaneously praising its future as a medium of exchange (although technically not a currency, I’m including Ethereum in this problem).
This attitude reeks of my least favorite part of libertarianism, which is your Alex-Jones loving uncle who rants about aliens and how inflation is the secret way that the government steals your wealth.
Why is deflation a bad thing, and inflation a good thing? Healthy economies and healthy currencies have a high rates of exchange. Capital flows, or money changing hands, is crucial for healthy economic growth. The more money changing hands, the more economic activity there is occurring, thus leading to a healthy economy. THE CAPITAL MUST FLOW!
Fiat currency is designed to maximize this simple act of money changing hands. If tied to a limited physical asset, economic growth is blunted, for money becomes detached from value creation. As the population grows and new opportunities arise, a limited physical asset may not keep pace and become more rare. This will encourage it to be hoarded instead of invested.
By making money cheap, easy to obtain, and directly linked to the creation of new tangible value (i.e. the creation of a new business)*, people are much more likely to get rid of it for something useful instead of hoarding an inert bar of gold. When currency is hoarded instead of used, there is no return for the overall society. This is why making money deliberately less valuable has a positive network effect.
*The federal reserve actually sits down every year and factors in predicted value growth when deciding how much fiat money to (not)arbitrarily generate.
Crypto is the a new Gold, and is probably suffering from all the same problems. The design to limit its physical availability ironically turns currency into a speculative asset, which encourages holding and reducing the capital flow in anticipation of future gains. This limits its circulation, ironically decreasing its value since people don’t want to use it for any practical purpose! Unlike gold, crypto still has to overcome the historical hurdle of consensus adoption.
For an economic system to be a success, we desperately want to avoid any scenario where capital gets “locked up” and frozen (sidebar: this is also the crux of the wealthy inequality issue). A close friend of mine, an early adopter of bitcoin, expressed severe regret to me about buying a bag of shrooms for 2BTC in 2013. He will probably never actually use the currency again, and is now holding it for purely speculative purposes.
It’s been argued that the divisibility of crypto mostly solves this problem, and this isn’t entirely incorrect. However, the simple anticipation of future gains disincentivizes its use as an actual currency, no matter how divisible. It is also massively distorts the value of a few small currency holders, severely undermining the currency’s core stated goal of decentralization. As adoption increases and supply freezes, the rich will only get richer.
After all, the dollar is divisible too — but people don’t frequently adjust prices to adjust for true value. It can be expensive to even install physical signage that can reflect dynamic prices, like the flipboard gas prices at a petrol station. To “solve” this problem, crypto vendors are tethering the value of crypto to its sell price in USD, weakening the strength of crypto as a standalone currency! If every price is run through a USD conversion script, all crypto is is a wrapper for fiat currency.
Mining Our Way To Feudalism
With crypto, we now have the ability to cut out the middleman…and completely automate the Cayman Islands. Tax evasion: Not just for the wealthy anymore!
Joking aside, private currencies like Monero or Zcash offer intriguing possibilities for the future of currency. What if the whole economy ran on Monero? What if I discreetly asked for half my paycheck in Monero, quietly avoiding taxes while still seeming like normal working person to the IRS?
With no paper trail, private crypto has the power to undermine the entire concept of government administration. This sounds exciting, but we must also mind that centralized governments do serve a purpose. After all, the income tax was invented to prevent the creation of a permanent aristocracy at the height of the gilded age. Despite having an ostensibly pro-democratic message, a decentralized currency could accidentally install a permanent elite and destroy democratic power if it sees wide adoption. Oops.
When combined with the aforementioned problem of deflation and bitcoin’s rapid adoption by elites, we could see a small number of people holding vast quantities of a frozen asset with no tax liability. Instead of decentralizing and distributing the core “power token” of capitalism, it could instead make the system far worse. And here is the flipside of private decentralization — with no traceability, there is no higher authority the people can elect to do any damned thing about it.
All Aboard The Charlatan Train!
Lastly, just because I’ve been seeing these everywhere now:
Oh dear.
