The Unsinkable Popularity of Blockchain Technology
Following the 2017 craze, Bitcoin and cryptocurrencies experienced a crash in February that has many wondering whether they have a future. Cryptocurrencies are facing existential threats to their role as means of exchange and store of value. But those firmly anchored in the innovative blockchain technology are unlikely to disappear. This is the fourth article in the series that follows the evolution of cryptocurrencies. It explores the curious question of the popularity of blockchain technology that is still surging despite the recent crash.
The 2018 Bitcoin sell off has been so violent so far – from a high of $20,000 in December 2017 to below $6000, and now hovering around $9500 – that it is a wonder the blockchain technology underpinning Bitcoin has not suffered a setback.
On the contrary. The New York Times recently reported a surge in interest in Bitcoin and blockchain technology among millennials, and especially among students in major universities.
Despite Professor Nouriel Roubini’s outburst on CNBC (he predicted Bitcoin’s value would fall to zero) and the warning by the European Central Bank’s President Mario Draghi that Bitcoin and other cryptocurrencies are “very risky assets”, highly respectable people in banking and academia circles continue to be interested in virtual currencies. Many still believe digital currencies can replace legacy/fiat currencies, thanks to the blockchain technology that underpins them. For example, Stanford University recently held a successful three-day conference exploring the architecture and security of blockchain software.
The star is NYU Stern finance professor David Yermack who was probably the first to launch a course on Bitcoin and digital currencies back in 2014 and among the first to be called by the Bank for International Settlements (BIS) in Basel for consultations. He no doubt helped to shape the current BIS’ view on digital money, arguing for a strong case for cryptocurrency intervention – recently echoed (February 12) by the three major European regulators who warned EU residents against the risks of crypto investment.
Professor Yermack’s popularity has steadily increased among students, and this year, he had to move his course to the largest hall at NYU, as 225 students applied. I came across this video of an interview by NYU Professor Scott Galloway with his colleague David Yermack, published on 21 September 2017. Predictably, it attracted a very large number of viewers for this kind of video, nearly a quarter of a million. The interview is a deep dive (28 minutes) into cryptocurrency, blockchain and initial coin offerings and very illuminating, I recommend you take the time to view it.
Two things are striking in this video:
- Professor Yermack’s unshakeable conviction that the blockchain technology is “superior”; he makes the point that with blockchain, trust in the digital currency – and “trust” is foundational for any currency, fiat currencies included – is built without recourse to an outside bank auditor or an institutional supervising authority (central bank, treasury etc.): This is groundbreaking, an entirely new way to organize money and financial transactions;
- The interesting reading he gives of the 2017 “Bitcoin bubble” that we have seen (and that has burst).
The 2017 surge, he explains, resulted from two events:
(a) the removal of a technical “choke point” that opened the gates in August 2017 – in fact the peak was reached mid-December;
(b) the rise in ICOs (Initial Coin Offerings), attracting vast numbers of investors in the digital currency market – in short, ensuring that there is a fresh flow of sovereign currencies into crypto currencies.
That is the basis, he argues, for a revolution in finance.
Ask yourself: Who benefits from ICOs? Of course, those who get out when the going is good and make a “quick killing”, exchanging their crypto-currency holdings back into national currencies. But startups could also benefit, Professor Yermack argues: The funds raised through an ICO could be used for their own enterprises. He believes ICOs are an excellent alternative to, say, crowdsourcing with Kickstarter, and they have the additional (if dubious) advantage for the fund-raiser that they by-pass all capital market regulators.
Startups now routinely use ICOs to raise funds, as I explained in a previous article, giving the example of Civic (that secures your identity online) and Blockstack. But it’s risky for investors, and indeed, Yermack urges caution. Because there is no supervising authority involved, if there is a problem, there is also no protection against loss. As Galloway notes, Bitcoin token buyers are given “no ownership” – no rights to future cash flows in the company raising capital through an ICO.
National regulators, like the SEC, would like to intervene, but so far, still haven’t done so (but no doubt soon will). The ICOs are usually carefully designed to fall beyond their purview (i.e. their definition of a security) and they manage to hide somewhere in the cloud, out of reach.
Bitcoin faces serious challenges: It’s an isolated asset delinked from gold, from anything in the rest of the economy. And it’s very small – $0.1 trillion compared to $76 trillion (July 2017 data, see the photo below). If it crashes, says Yermack, it is so tiny that it will not destabilize currency exchange markets or impact the economy in any way. The downward spiral in digital currencies that occurred since he said that proves his point. There was indeed a violent “price correction” in the markets in the last ten days, but it had nothing to do with cryptocurrencies.
In the photo: Professor Yermack in the interview with Professor Galloway (video screenshot)
In short, for Professor Yermack, Bitcoin is a historical curiosity; the innovation that is likely to stand the test of time is not Bitcoin but the blockchain technology. Yet, Yermack notes, banks are cautious about adopting it; the business model of companies like Ripple that transfers money directly from one bank to another using the blockchain, and thus avoiding the middlemen in the Swift network, is appealing but also scary.
Banks are cautious about using digital currencies; they worry about losing business and fret about staying in compliance with regulations. Yermack believes they are wrong: He predicts that about ten years from now, central banks will adopt blockchain technology.
This means that the sovereign currencies as we know them today will turn digital, which will give the bank authorities the inestimable advantage of easily controlling tax evasion and money laundering.
The vision of a future of Internet money is enthralling: You won’t deposit your salary in a bank, it will sit on the blockchain; you’ll make all your payments on your smartphone, using your personal wallet on the blockchain.
As a result, customer banks will become largely redundant, the brokerage and banking industry as we know it will disappear. Banks will be left with their other activities, wealth management and business loans.
Such a dramatic turn of events will radically change the financial world. Yermarck sees banks fighting to survive, many of them failing or merging, with only the largest likely to survive.
But we’re not yet there, and cryptocurrencies, in the meantime, are fighting for their survival. My guess is that they will indeed survive, though in a different form, dictated by the latest advances in the blockchain technology.
And all this won’t happen suddenly, it will be a gradual process – like what happened when Amazon’s Kindle disrupted the publishing industry. Today, ten years after the successful introduction of e-readers, e-books still haven’t replaced printed books, and probably never will. Likewise, digital money are unlikely to ever fully replace fiat currencies – or if they do, it will take a long time.