Reinventing what money can with bitcoin and central bank digital currencies. It's a veritable money revolution.
Hey friends -
We're onto the future of money! As we saw last week, digital created a whole new sandbox for money. The private sector responded by creating new monies like mobile money and virtual currencies in video games to make money available where the traditional government-issued currencies don't exist.
Blockchain has unlocked even more possibilities for what money can be. This time, it's not just the private sector that's experimenting - central banks across the globe are getting in on the action. It's among the most exciting and competitive arenas you'll find anywhere today. And it's where we turn our attention in this week's letter.
In this week's letter:
Total read time: 8 minutes, 35 seconds.
This will be an interesting journey. Perhaps unusually we're going to start with the thing that's the most controversial to call money - cryptocurrencies - and work our way towards government-issued monies that rely on the same technology. Why, might you ask, are we not starting with the more familiar and incrementally building our way to the more exotic?
Because we're starting at the beginning, without which none of what follows would exist. And the beginning is bitcoin.
Bitcoin, invented in 2008, most certainly did not meet the definition of money in its early days. It was a poor store of value, almost nothing was priced in bitcoin, and few would accept it as payment.
And yet, there was an entire digital world that could very much use a native currency. Data moves through the web but money doesn't. Money instead moves along separate networks that are completely decoupled from the data that's being transmitted. It's what venture capitalist Marc Andreessen describes as the web's "original sin":
So let's say hypothetically you wanted to have an online newspaper [and] you wanted to read an article in that paper and maybe you wanted to have an economic relationship where you were paying for the information… one would think it was the most obvious thing to do to build into the browser the ability to spend money, but you may have noticed that didn’t happen.
…So I think the original sin was that we couldn’t actually build economics, which is to say money, at the core of the internet.
Money as the "missing part of the web" is not something most of us think about very often. We mostly take for granted that the web supports text, images, video, and more. But that didn't happen by accident. The web is built on open protocols, written by software developers, that serve as a global agreement on what types of information can be conveyed across the internet. Noah Putnam nicely illustrates just some of the protocols we engage with every day.
If bitcoin were to become that native internet money, where would we expect to see it first take hold?
The first digital monies give us a clue - bitcoin will take hold where dollars, euros, and other traditional monies aren't accepted or supported. By 2008, Amazon was already doing $19 billion in sales, so clearly even the clunky credit-card-over-the-internet payment was "good enough" to facilitate significant digital commerce. But what about if you wanted to traffic drugs?
Drug trafficking is a truly massive industry - over $500 billion was trafficked in 2014 alone. It was also a seemingly perfect use case for bitcoin:
That's exactly what we see. Silk Road was launched as an online black market in 2011. By the time of its shutdown in late 2013, it was facilitating over $40 million in drug trades per month. Drugs were priced in bitcoin and bitcoin was the sole payment mechanism. Silk Road itself served as the escrow agent, holding onto the buyer's bitcoin until the drugs were delivered. At its peak, Silk Road accounted for almost 20% of all Bitcoin economic activity.
Unfortunately for Silk Road founder Ross Ulbricht, Bitcoin is pseudonymous not anonymous. That's a distinction that doesn't often matter unless you're running a massive illegal drug market and startups like Chainalysis are helping the IRS identify the individuals behind nefarious activities conducted with bitcoin. Silk Road was shut down in late 2013 and Ulbricht was sentenced to two life sentences without parole in 2015.
What was left after Silk Road? The emergence of a new money. 146,946 buyers and 3,877 sellers executed 1.25 million transactions in bitcoin in 2.5 years. That's a legacy that couldn't be shut down.
What if we could build on the Silk Road model? Instead of purchasing drugs, buyers could purchase entirely digital goods and services. If those goods and services lived on the same network as the money, we could programmatically ensure that the buyer received the digital good and the seller received the payment without a middleman in between.
In 2013, Vitalik Buterin authored the original paper for Ethereum, a new blockchain network with its own cryptocurrency (Ether). Whereas the features on Bitcoin are quite limited, Ethereum was designed to Turing Complete. In theory that means that anything you can program your computer to do, the Ethereum network can also be “programmed” to do. Needless to say, there’s some meaningful differences between programming for your one computer versus trying to run a program on a distributed network of hundreds of thousands of computer. We’ll leave those complications for another letter.
Ethereum network participants earn Ether by contributing computing resources to the network - storage, processing power, and the like. Users who want to run programs on the network pay the network participants in Ether for use.
Take a second to think about what Ethereum is - a network that is made up of thousands of computers yet acts as a single computer. It even has its own built-in currency to pay for the computing resources. It’s a wild idea!
Even wilder, software developers realized that they could build on top of the Ethereum network! They could build things like video games that have their own currencies. Players could pay to play the video game in the video game's currency and the video game program - running atop the Ethereum network - could automagically pay the underlying Ether fees to use the network!
It took time for the idea of Ethereum to take hold, but once it did it grew like wildfire. The total value of cryptocurrencies - bitcoin, Ether, and all of those currencies on top of Ethereum - grew from $18 billion in January 2017 to over $800 billion just a year later.
For context, we often think of Facebook as a fast growing startup. As a startup, the company was valued around $18 billion in 2010. It wasn’t until March of this year, a full 11 years later that the company reached an $800 billion valuation. Cryptocurrencies did it 11 times faster.
But, as can happen with new innovations, the hype got ahead of reality and the total value fell back to $125 billion by January 2019 (still 2x faster than Facebook). Like with Silk Road, the impact of a new type of money couldn't be erased. At the then-peak in January 2018, there were almost 600,000 active addresses on Ethereum. That's hundreds of thousands of individuals learning to price and transact goods in bitcoin and Ether.
It's starting to feel a lot like money.
Let's fast forward to today. The value of all cryptocurrencies is over $2 trillion, with bitcoin making up about half of that total value. For context, that's about the same value as all Japanese Yen currently in circulation.
While undeniably large, market capitalization numbers alone are not indicative of cryptocurrency being money - Facebook is also worth about $1 trillion, but no one would claim that shares of Facebook are money. We need to see if cryptocurrency is being used as a store of value, unit of account, or medium of exchange.
Start with one of the more basic needs if you're building anything digital - you have to store data. That data could be some numbers, a picture, or something far more complicated like the code for a program. Filecoin is a blockchain-based storage network where you pay for storage in filecoin and can earn filecoin for providing storage to the network.
As of writing, 754 storage providers have executed 1,188,545 storage deals and store 29.2588 PIB of data. That's about 250,000 new base-spec iPhone 13's worth of data. All paid for in filecoin.
Take a different major digital use case - video games. We talked last about how one of the challenges with virtual currencies in video games is that the currency is centrally controlled by a single party who may, and often does, abuse the privilege. Axie Infinity set out to change the game by allowing players to collect, breed, raise, battle, and trade token-based creatures known as Axies. Players purchase Axies using the native currency of the game - Axie Infinity Shards (AXS).
AXS has a second function where AXS owners vote on governance for the game, including how a percentage of the money earned by the game will be spent. The decisions can be hugely impactful - as of September 30th, AXS owners share in the revenue generated by the game.
To say that the game has been a hit is an understatement. The company did $782 million in revenue in the third quarter of 2021, all denominated in AXS.
These are just two of many examples, but the list goes on. OpenSea facilitated $3+ billion in transactions for digital artwork in August alone. "But wait," you might say. "That's all digital nonsense. What about the 'real world'?"
We're seeing rapid adoption here as well. Shopify, an e-commerce company that powers 29% of all online businesses, made "pay-by-crypto" available to businesses back in 2020. Verifone, an electronic payments company, partnered with Bitpay to enable their 600,000 merchants to accept bitcoin and other cryptocurrencies as payment. Visa, a credit card company, processed over $1 billion equivalent in crypto-denominated transactions in the first half of 2021.
Cryptocurrency is rapidly moving from the purely digital domain where government currencies don't exist to a world where cryptocurrency competes with government money as the means of exchange for "real world" goods and services. That's extraordinary.
Blockchain-enabled monies aren't just limited to cryptocurrencies like filecoin that are used to pay for resources like storage on a blockchain network, they also include stablecoins. As the name implies, stablecoins are built to maintain a stable price vis a vis a reference asset.
The most popular stablecoins? Those pegged to the US dollar.
Like the $2 billion in mobile monies transacted every day, these government currency equivalent stablecoins are issued by private companies. That's rankled central banks around the world. They're not sitting still. They're starting to develop their own blockchain-enabled monies - central bank digital currencies.
It's where we're heading next week - digitization of government money.
This time of year, I struggle to decide between summer drinks and winter drinks. So let's split the difference with a classic instead.
2.0oz Rye Whiskey
0.5oz Simple Syrup
2 dashes Peychaud's Bitters
Rinse of Absinthe
Lemon peel for garnish
Pour a dash of absinthe into a rocks glass and swirl it around the edges of the glass. Let it sit. Get a mixing glass and add the rye, simple syrup, and Peychaud's Bitters. Add ice until the alcohol is covered. Stir for 20 seconds, about 50 rotations. Pour out the absinthe from your rocks glass (some of it should remain clinging to the sides) and pour in the stirred cocktail. Squeeze the lemon peel over the glass to express the oils and rub the peel around the rim. Enjoy in good company, ideally while discussing the odds at the tracks.
Talk about a cocktail with history. The Sazerac is New Orleans. Invented sometime in the mid-to-late 1800s, The Washington Post described the drink as the "spectacle of the immortal Sazerac" in 1903. It is simply one of the greatest ever concocted. Not one for the faint of heart, the cocktail is a full-throated celebration of rye and anise (think: licorice flavor). Meant to be sipped not drunk, it'll just as well warm you as sit by a fire as cool you down in the weighty humidity of New Orleans. It remains one of my all-time favorites.
Cheers,
Jared
