Crypto Trust Issues — Distribution Dilemma
Another crypto trust issue to watch out for is its unequal distribution. In deciding whether or not to buy into the crypto revolution at hand, my better judgment says no… if it ultimately only leads to enriching a crypto nouveau-riche. But the technology, utility and underlying ideology of crypto often convince me otherwise.
I first muse on the unbacked fiat money system in use today, which appears to be in trouble and maybe even nearing its end. I later move onto the issue of cryptocurrency, focusing on Bitcoin, Ether, and XRP. While it is impossible to arrive at any firm conclusions on crypto distribution given the pseudonymity of wallet address, there have been some solid attempts which help form an idea of how well distributed crypto is.
Fiat Money
Fiat money, in its current unbacked form, is a relatively new implementation that began soon after Nixon decoupled the US dollar from the gold standard in 1971. Other countries soon followed suit. This move led to the collapse of the Bretton-Woods monetary system, which was introduced after WW2 to help stabilize international currencies and promote trade. The original intent of the Bretton-Woods system was to aid in resolving issues of inequality: acknowledged as a key motivator of violence and conflict.
The value of today’s unbacked fiat currency then is derived solely by decree of the issuing authority and, of course, the faith of all those who exchange with it. From the perspective of individuals in the high-income countries this monetary system appears to be fine. However, it is certainly not without its detractors, as evidenced through movements such as Occupy Wall Street and various other protests around the world today. A notable point of these protests is the disenfranchisement of the Millennials, a group born between 1981–1996, who are said to be economically worse off than their parents — despite the global economy being bigger and richer than ever before. Other perceived failures of this monetary system include issues of political corruption, inflation, out-of-control debts, and growing income inequality. Issues which information treasure troves such as the Panama Papers and the Paradise Papers lay bare but do little in the way of legal recourse.
Inequality is a difficult indicator to measure; one oft used method is the Gini coefficient, which examines the distribution of income or wealth of a target area or group. The distinction between income and wealth inequality are important here in that wealth is often much more concentrated than income. For example, Denmark has one of the world’s most equal distributions of income yet one of the most unequal distributions of wealth. The fine folks at Our World in Data plotted global Gini data from 1990 and 2015 in order to measure income inequality over time. Their results overwhelmingly indicate that income inequality is on the rise at least in the “advanced industrial economies”. For a more robust assessment on wealth inequality, Part IV of the 2018 World Inequality Report is a good start. One take away from this report, in the key regions of the U.S., China, and Europe is that if current wealth inequality trends were to continue then “the top 0.1% alone will own more wealth than the global middle class by 2050”.
While the roots of economic inequality are multiple and complex, I will expand on one particular issue here as it receives a fair amount of attention in the more Austrian economics leaning crypto circles: the Cantillon Effect. Richard Cantillon, an economist posthumously adopted into the Austrian school, provided a theory on business cycles, demonstrating that they were foremost caused by the government meddling in money and banking. His theory[1] shows that certain “well-positioned” individuals or companies, that receive newly-minted money first, are better off because inflation disproportionately ripples through the economy (i.e. large companies and banks are able to borrow money, make investments and earn returns before the inflationary effects are felt by the rest of society). If true, it certainly takes a lot of trust in our banks and government institutions to make this allowance on those “small green pieces of paper” that Douglas Adam’s wryly quipped about in his series.
It is possible that our trust was misplaced. Due to what can be construed as the overprinting of unbacked fiat money, periods of instability are frequent in the global financial system. The last of which we are still recovering from. It is worth considering that since the 2007–8 Great Recession, multi-millionaires and billionaires continued to get richer. I am unclear as to how and if all of this somehow fits together in such a way that suggests the global financial system, piloted by unbacked and overzealously printed fiat money, is in trouble. But, Jim Reid, Research Strategist at Deutsche Bank says so, calling it “inherently unstable and prone to high inflation”, adding that “the era of fiat currencies looks vulnerable as people lose faith in paper money”. Reid’s recently published report, Konzept 2030, elaborates on this issue.
Cryptocurrency
An article that draws its inspiration from Niall Ferguson’s tome on neoliberal capitalism, The Ascent of Money, calls into question two important points regarding money: the ability to print it and the ability to distribute it. From the article:
“The second part is actually the most crucial part of the puzzle. Missing it created a critical flaw in the Bitcoin ecosystem. Instead of distributing the money far and wide, it traded central bankers for an un-elected group of miners.”
My thoughts on this quote left me wondering whether a less generous mining reward at Bitcoin’s launch would have led to a better distributed token. It is of course entirely likely that it would not have mattered in the slightest, given all the other moving parts to the Bitcoin ecosystem. Furthermore, it is rather unclear how well (or poorly) distributed Bitcoin and the other various crypto tokens are — given that most identifiable information is hidden behind pseudonymous wallet addresses. A given address might represent one individual or multiple individuals, or it could be that one individual has multiple addresses. However, despite these obvious shortcomings, various attempts have been made at guesstimating token distribution and even calculating Gini coefficients.
A good place to start when considering token distribution is with the token supply schedule (or issuance model). In taking the top three tokens by market cap, we see three vastly different supply schedules. For starters, Bitcoin (BTC) has a mathematically-predetermined release programmed into its software that rewards an ever-diminishing amount of coins to miners. A hardcap was also implemented of 21 million tokens (of which approximately 85% have so far been mined). My own qualitative research finds that Bitcoin’s supply schedule was chosen to approximate commodities like gold. It is also calculated that 1.5 million coins are forever lost including those of Bitcoin’s silent creator(s) Satoshi Nakamoto, who holds about 700 thousand of these.
Ethereum (ETH), on the other hand, started with a pre-mine and then continued with a mathematically-determined release. The pre-mine created and sold about 60 million Ether tokens (for Bitcoin) and the team allocated an additional 12 million to early contributors and to the Ethereum Foundation. Additional Ether is issued to miners at a dynamic rate, in order to secure the network, there has been some talk of a proposed hardcap but no firm decisions are in the pipeline. There are approximately 108 million Ether currently in circulation.
Ripple (XRP) decided on an upfront release of all tokens. Ripple opted to pre-mine all 100 billion of their tokens and release them accordingly: 80 billion went to the company, 16 billion to the two primary founders, and 4 billion to other founders. Some equate Ripple’s issuance model to a scam. Given the exorbitance of allocating one-fifth of a token’s total supply to a handful of people, I will no longer consider the equality of distribution of Ripple. Of course, it should not be forgotten that Ethereum allocated around 1/6 of its pre-mine to a handful of people; however, mining activity has provided an impetus for wider distribution.
While various attempts have been made at calculating the distribution of crypto, the aforementioned issue of crypto-pseudonymity, clouds any results. Despite this shortcoming, there are still some noteworthy attempts. One of these appears in, Quantifying Decentralization, which examines the overall decentralization of the Bitcoin and Ethereum blockchains, including the distribution (i.e. ownership decentralization) of these two tokens. A major caveat of the report, however, is that they use $US 500000 as a threshold before even considering a wallet address. This, of course, prices all small-holders out of the calculation. Nevertheless, the report assigns a Gini coefficient of 0.65 to Bitcoin and 0.76 to Ethereum for holders of half a million US or more. The report uses data from bitinfocharts.com for Bitcoin, which provides a breakdown of the number of addresses that a value range of tokens belong to; while the Ether data was taken from etherscan.io. Both sites are valuable sources for viewing blockchain data and other compiled statistics, and others have also used the data for performing calculations in the same vein (or should I say vain?).
Another attempt, A Take on Bitcoin’s Gini Coefficient, does things a little differently, wherein the author examines a series of 1 million Bitcoin unspent transaction outputs (UTXOs) and then after making some assumptions calculates a moving Gini coefficient from 0.88 to 0.98. Sadly, as the author makes clear, this Gini is really high and might even be an underestimation in itself. One last attempt at calculating crypto distribution is by Coinmetrics, which skips the Gini calculation and graphs the changing wealth distribution of select tokens over time. Focusing on Coinmetrics’ example for Bitcoin, it is apparent that the number of wallets holding an amount greater than or equal to 0.001, 0.01, 0.1, 1, 10 and 1000 tokens are on the rise while wallets with 100 or more and 10000 or more tokens are stagnant or falling. Personally, I find some hope in the increasing number of wallet addresses for the first five values listed (0.001, 0.01, 0.1, 1, 10), of course under the assumption of one wallet, one individual.
One outcome of poor distribution in the crypto markets is the prevalence of whales (individuals with large quantities of tokens). Whales are often early adopters or savvy investors, capable of outwitting small-holders through market manipulation. Here is a short list of some known crypto whales. While the impact of whale activity on market volatility is an oft-discussed issue, a more important consideration is how the whales affect the underlying constructs of decentralized finance. A nouveau-riche crypto class is problematic because it merely changes the players and not the game. I would rather take my chances with a legacy financial system that has at least some checks and balances over a handful of cryptocrats who answer to no one. There are various services which aim to add transparency to the crypto markets by tracking whale activity. There is, however, little change that can be brought about by simply following transactions. Despite these awareness-raising efforts, the Bitcoin Rich List continues to grow, increasing 30% in the last year by some accounts. Of course, as stipulated in the linked article, this trend does not rule out the activity of exchanges and other custodial services such as investment funds. To extrapolate on this, consider the Dadiani Syndicate which works to assist the super-rich in acquiring digital assets such as Bitcoin.
Conclusion
One thing is clear, no matter what we assign value to, whether it be precious metals, pieces of coloured paper or digital numbers recorded on ledgers, it is difficult to reach and maintain a reasonably fair distribution. There is an increasingly evident distribution issue with fiat money. Seemingly unfettered printing has diminished its value for the masses at the behest of various well-positioned individuals. Bitcoin and maybe a handful of other cryptocurrencies (DYOR people!), attempts to offer a solution to this — as indicated in the immutable inscription on Bitcoin’s Genesis block. One challenge in particular is that of fending off a crypto nouveau-riche. Such a trend can hopefully be limited via further education, leading to a broader adoption of Bitcoin and perhaps some of the other tokens too.
Disclaimer: My writing is for entertainment and informational purposes only and does not constitute investment advice. I also own some Bitcoin.
[1] Cantillon on the Cause of the Business Cycle, The Quarterly Journal of Austrian Economics Vol.9, №3 (Fall 2006): 45–60
