Speech available here.
Outline of the speech + slides, which contain links to materials referenced:
* Bitcoin is history’s first (and probably only) universally honest ledger.
* PROBLEMS: 2 fundamental problems are solved by blockchain: the “moneyness” of credit and inaccuracies in Wall St’s ledgers.
* Most credit creation today happens outside of the traditional banking system (especially in securities lending markets, of which the core is the repo market). Securities are fractionally-reserved via rehypothecation. I argue that “money” today includes anything that the primary dealers can finance at the Fed (either at the discount window or via repo with the Fed), and broad-money (i.e., a new definition of M2) includes anything that can be financed in the broader repo market. By this new definition, broad money is not constant — it ebbs & flows based on market conditions and sometimes includes risky debt such as non-investment grade corporate bonds, sometimes not. Periodically in the repo market, Treasuries are MORE valuable than cash–and several years ago when I started observing this I realized that traditional definitions of “money” are too narrow and need to be updated.
* The net result is ballooning debt.
* Prior to 1968, the US economy was “equity-financed.” In other words, private sector savings roughly equaled the debt borrowed by the non-financial sector. In Misesian terms, all credit was “commodity credit” because it arose from savings.
* Since 1968, “circulation credit” has ballooned (again using a Misesian term) and exceeded private sector savings in every year except 2009.
* Total “circulation credit” created since WWII is $40.5 trillion in the US (as of year-end 2017)..
* The US made 2 huge monetary policy mistakes, IMHO — (1) abandoning Bretton Woods in 1971, which broke the tether on debt growth, and (2) the Fed shifting in 1982 from targeting the quantity of credit (M1) to instead targeting the price of credit (Fed Funds rate). The latter gave the financial system the proverbial keys to the kingdom to determine the quantity of credit created, and the financial sector has gorged on credit ever since.
* Bubbles in financial markets happen when non-financial sector debt accelerates relative to private sector savings. I trace 5 distinct bubbles, 4 of which happened after that fateful 1982 decision to give the financial sector control over the quantity of credit created.
* Why hasn’t a dollar collapse happened yet, as some Austrians predicted it would? A plausible explanation is that the US balance sheet contains more unencumbered assets than the amount of non-financial sector debt outstanding. That spread is now $20 trillion, implying the US economy can handle continuing to add $2.5-3 trillion of non-financial debt for several more years, but I caution not to conclude this because it’s circular (asset values are fleeting and are influenced by the debt itself). This analysis is more helpful for explaining why we haven’t hit the proverbial debt ceiling yet than for predicting the future.
* Shifting to Problem 2, I share many examples of how the indirect ownership model for securities is prone to losing track of who really owns what.
* Dole Food case (2017) — 36.7m shares outstanding but 49.2m claims filed for them, all 49.2m of which were backed by valid brokerage statements. I don’t trust my brokerage statement and neither should you.
* P&G proxy contest (2017) — vote tallies were +6.2m for the first count, -42,780 for the second and +498,312 for the third. This should give you no confidence that the ledgers of Wall Street keep accurate track of your votes, much less your assets.
* However, the “grandaddy of ’em all” bubble, IMHO, is the US Treasury market, where Treasuries are overissued as part of Fed monetary policy (via the repo market). Per IMF estimate of the length of collateral chains in the repo market, by my translation, only 1 of 3 owners of a Treasury bond actually owns it. When the musical chairs stop, the result will be ugly.
* So…the “‘moneyness” of credit + overissue of securities = an unstable financial system.
* SOLUTION = bitcoin & blockchain.
* Bitcoin is a beautiful combination of technology (cryptography) and economic incentives. The latter is ignored by most but is actually the main reason why bitcoin succeeds and hasn’t ever been hacked.
* 2 Austrian objections to bitcoin: (1) it’s not backed by anything and (2) it violates Mises regression theorem. My answer to both objections is the same: Bitcoin is both a payment system and a token. Fiat money is just a token. The correct comparison is not bitcoin vs. the dollar — the correct comparison is bitcoin vs. the dollar AND Visa, MasterCard, Fiserv, and the entire infrastructure for processing financial transactions. Bitcoin’s use value is its payment system — it wasn’t money at first, but it became money spontaneously when people started using its payment system to confirm value-exchange transactions (i.e., its use value). Bitcoin’s value is roughly $130bn vs the S&P 500 payments sector’s value of roughly $600bn. Bitcoin has lower invested capital and higher ROIC than the traditional payments sector, so is worth more per transaction processed — I’m working on that hypothesis.
* “The Bitcoin Standard” — I highly recommend the new book by Saifedean Ammous. 7 chapters of monetary history, 3 chapters explaining bitcoin from an Austrian perspective.
* a few great quotations:
— “Whereas in a modern central bank, the new money created goes to finance lending and government spending, in Bitcoin the new money goes only to those who spend resources on updating the ledger.”
— “Bitcoin is the hardest money ever invented: growth in its value cannot possibly increase its supply; it can only make the network more secure and immune to attack.”
— “Bitcoin, and cryptography in general, are defensive technologies that make the cost of defending property and information far lower than the cost of attacking them.”
— “Difficulty adjustment is the most reliable technology for making hard money and limiting the stock-to-flow ratio from rising, and it makes Bitcoin fundamentally different from any other money.”
* Bitcoin has spawned an entirely parallel financial system that is now meaningful in size. The ICO market (utility tokens) was $6.3bn in Q1 2018, and that was 40% of the size of the IPO market and 30% of the traditional VC market in Q1 2018. Institutional investors are starting to pile in (Bain, Lightspeed most recently bought their first ICO).
* All ICOs are issued, traded and settled on a blockchain, so the industry solves the problems of Wall St ledger systems by simply going around it and building a new one.
* CONCLUSION: Capital markets won’t be fair until they use an honest ledger, in which (1) the real owners of assets are also the record owners of assets and (2) assets are issued, traded and settled on a blockchain.
* The future of money is bitcoin, and the future of capital markets is blockchain.
Shout-out to Jeff Poppenhagen, my Austrian School mentor. He challenged me to think and made me a better thinker.
Credit to Doug Noland for the term “moneyness of credit.”
Thanks to the Mises Institute for hosting!
All mistakes are my own!