The fundamental notion of capitalism is that anyone is free to go to market and buy and sell not just consumer goods but capital as well. Unlike consumer goods, valuing capital (either physical capital goods, tokenized claims to capital goods, or indeed debt instruments) inevitably involves looking out to the future: speculation—a word derived from Latin roots meaning both to look out and to hope.
This weighing process of the future potential of capital is both the driver of capitalism’s innovative entrepreneurialism but also a source of inherent risk and instability. As long as capitalism has existed speculative bubbles in assets have inflated and burst with alarming regularity. Is ‘crypto’ just another burst bubble? The answer is yes, it is, but that is actually excellent news for the original Bitcoin System and the innovations it is bringing.
The two bubble ingredients: new technology and ‘new’ money
Asset bubbles generally need two key ingredients: innovations in both technology and the money system. New technologies give new narratives, promising to generate wealth and create great riches. But humans have a tendency to over-extrapolate short-term gains and are prepared to risk it all for that lottery ticket of a dreamed-for lifestyle. The second ingredient, the monetary innovation (or at least a newly rediscovered way to squeeze extra growth out of the credit or money system), facilitates the rapid expansion of these newfound capital riches.
The so-called ‘crypto’ bubble of the last few years has followed an archetypal pattern. There is little new or surprising about this one, albeit to live through a bubble is always surprising with respect to both the heights and extent to which the bubble can go, before bursting.
The Bitcoin System was the key technological innovation: Bitcoin is a system which combines several existing technologies into an entirely new system of technological capabilities, crucially including the economic incentive required to sustain and exploit the underlying technologies. The fundamental principles of the Bitcoin System have now been taken and applied to various interpretations of technological innovation.
Scarcity for scarcity’s sake is not an innovation
It is natural in this dog-eat-dog world of entrepreneurial capitalism to discover a new thing and seek to exploit it in all possible imaginable ways. Sadly, the technological innovation of the Bitcoin System is still widely misunderstood. Speculators have instead focused on creating interpretations of what they thought was the key innovation: a kind of generic digital scarcity. This is indeed why we have this bubble called the ‘crypto’ industry and why commentators continue to misunderstand the technology.
The earliest re-interpretation of the Bitcoin System was to adopt it purely for monetary use: this led to the development of Core’s protocol (BTC): effectively Nick Szabo’s Bit Gold idea, using an ever-evolving derivation of the original Bitcoin System to try and make the theory operational (unfortunately, breaking the system in the process).
Thousands of ICOs (Initial Coin Offerings) also piggy-backed off the idea, with slight variations on a theme, trying to raise funds, often (but not always!) trying to develop use cases for these new scarce ‘money’ tokens.
The synergistic bubble of bringing together technology and money
In this particular bubble, the two key components of technology and money were combined into one. Indeed this was the key innovation: the synergistic elements of the Bitcoin System relied on weaving together a public, timestamped transactional database technology with self-contained economic incentives to maintain it, all in one self-contained package.
Unfortunately, it was inconvenient to many Venture Capitalists funding the emerging ‘crypto’ bubble that the Bitcoin System—properly understood—was already capable of doing anything their wannabe competitor blockchains/coins were seeking to do.
In his seminal work Manias, Panics, and Crashes, the economic historian Charles Kindleberger coined the term ‘Minsky model,’ describing the work of Hyman Minsky, which captured the key principles of mania cycles dating back hundreds of years. It seems fairly clear that we have now moved through the full Minsky model cycle where initial ‘hedge financing’ has traveled through ‘speculative financing,’ and today we are clearly at (and beyond) the ‘Ponzi financing’ stage where the entire industry is seeking to hold itself up by its own bootstraps, with numerous cross-holdings become clearer by the day. Few genuine use cases are emerging for the thousands of speculative tokens.
The mania episode is now receding, largely as a natural function of time (the ‘Minsky Moment’), but importantly as a direct result of the broader macroeconomic environment. The majority of the crypto industry has been driven by ultra-low costs of capital as a result of cheap, plentiful lending and aggressively speculative (blind?) risk-taking. In an environment of near-zero interest rates, yield-farming tokens for spectacular gains and facilitating the speculation and trading in such tokens, even if it all looked a bit Ponzi-like, seemed to make sense (to some people). But this is ending.
The death knell of bubbles
The COVID crisis and the response from governments created the perfect environment for further nurturing an emerging bubble, but broader inflationary risks have caused governments and central banks to reset policy: raising interest rates, draining liquidity, and tightening economic conditions more generally. The cost of capital has risen sharply, and investment has drained away.
Regardless of questions of technological innovation, these moves are the classic death knell for speculative bubbles. In addition to these factors, what ‘crypto’ represented was nothing more than a Ponzi-finance economy, using a technological innovation to perform a regulatory arbitrage. That arbitrage is, belatedly, now closing. The Ponzi episode is dead.
Even the die-hard BTC’ers who were the first to adopt the Bitcoin System to develop their own version of a sterile, Ponzi asset are increasingly having trouble persuading non-believers that their version of the Bitcoin protocol is the version.
Capitalism’s cycles of ‘creative destruction’
We can say good riddance to ‘crypto’ and the Ponzi schemes. Malinvestment is a product of both poor monetary policy and speculative hubris, but all is not lost. The economic theory recognizes that asset bubbles can be a boon to long-term economic well-being through improving innovation and infrastructure. These cycles of ‘creative destruction’ (sometimes referred to as Kindleberger Cycles) are an essential component of capitalism. The major western economies today still benefit from investments made during various bubble episodes dating back more than 200 years. Each bubble brings with it new techniques, new capital, and new ideas, not all of which are lost in the destruction of speculative hubris.
While Web 3.0 has become a derided term, there is truth to this perspective. When developing Ethereum, essentially as a smart-contract platform, Vitalik Buterin was not alone in misunderstanding that the original Bitcoin System was already capable of doing anything Ethereum was designed to do.
When the limitations of Ethereum became clear and more developers tried to fix the shortcomings by issuing new protocols and new ‘coins,’ few realized that the original Bitcoin System was already more scalable and efficient than Ethereum. But at least these developers had a vision that went beyond mere ‘crypto’ and Ponzi finance schemes.
In one respect it’s been a very unique bubble
Where this bubble is truly unique is that the technological innovation emerged complete and essentially perfected through the efforts of one person. There was no need for more ‘innovation’ of the technology itself: just of the applications it enabled. What is even stranger is that this person—Satoshi Nakamoto— chose to remain both unidentified and, as far as possible, unidentifiable.
Satoshi’s desire to stay unidentified was perfectly understandable because the system effectively enabled a form of difficult to trace (in its original environment) cash. Anyone who innovates in this area, if they’re not careful, opens themselves up to potential criminal allegations of money laundering and prison time.
It is bizarre but logical then that it was the innovator who would be the one least likely to nurture the technology’s narrative development. It is the unique circumstances of this historic bubble episode that has led to the true nature of the innovation being hidden from casual observers and, sadly, many ‘experts’ who should know better.
Whereas Tim Berners-Lee was able to nurture his baby, allowing an early consensus on the protocol and allowing a focus on developing the killer apps of the World Wide Web (Amazon, eBay, Google, etc.), Satoshi was not able to nurture Bitcoin to explain it well: his narrative was usurped, to focus on someone else’s idea, convenient to a small rent-seeking minority, but hardly earth-shattering.
Like the internet suite (TCP/IP), the Bitcoin System is a protocol—a base layer—that enables innovators to build new applications and new use cases. The Bitcoin System completed the long-intentioned native micropayments mechanism (including economic incentives) for the WWW. More than this, it solved the problem of an efficient and permissionless, transactional, distributed database. Combined with the potential for algorithmic contracts on this public database, this opens the world to innumerable new use cases which the true innovators are still discovering and implementing. Like the WWW, most value-creation will be in the applications and businesses that are being built on the base-layer protocol. Like the internet suite, the Bitcoin System was (and arguably remains) the only protocol needed to build a public/permissionless blockchain infrastructure.
The original Bitcoin System: the technological tortoise to the Ponzi hare
A decade has been lost through the nonsense of ‘crypto’ and Ponzi schemes: new entrants trying to ‘improve’ a software protocol that they failed to understand in the first place or simply promoting their own ‘coin’ as the scarce digital asset that everyone needed to own, just because.
Ironically, one of the few ‘coin’ ecosystems which have largely sailed through the last few years without ever experiencing a bubble is the original Bitcoin System (the original protocol, now referenced as Bitcoin SV). This is because it has been attacked and suppressed by people who wanted to develop alternative systems and alternative narratives: the fundamental technological innovation was denied its bubble because that would have risked denying others their bubble.
While far-sighted developers and entrepreneurs are seeing the possibilities the completion of the WWW protocol offers, they have not been rewarded through speculative gains in the Bitcoin SV ‘coin’. Arguably this has created a more resilient ecosystem of real-world applications without the leveraged excesses of the crypto industry: real-world use cases developed in a real-world environment.
A normalization of macroeconomic factors, including a sensible regulatory framework, suggests that this technological tortoise is finally catching the Ponzi hare.
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