Amidst renewed calls for replacing the post-war Bretton Woods order, we take the opinion this has already occurred with the creation of bitcoin. Today’s HODLR’s might be tomorrow’s (de)central bankers.
Any escalation of political instability in the US would threaten the status of the US dollar as the global reserve currency. This hypothetical scenario would be an absolute disaster.
We are considering buying the dip here. Bitcoin’s critical mass should enable it to overcome its technical inferiority to less popular cryptocurrencies. It’s not going away.
Photo by peterschreiber.media/iStock via Getty Images
From Bretton Woods to Bitcoin
Crypto is decentralizing AI is centralizing… or if you want to frame it,you know, more ideologically… You could say that crypto is libertarian and AI is communist.
In the Summer of 1944, a group of 730 delegates from 44 nations met at the Mount Washington Hotel in Bretton Woods, New Hampshire. These delegates, which included famous economists such as John Maynard Keynes, created a new post-war financial order known as the Bretton Woods System. This agreement set the course for the system that we have today.
In addition to the creation of the International Bank for Reconstruction and Development (predecessor to the World Bank) and the IMF, one of the outcomes of the Bretton Woods conference was the rise of the US dollar as the global reserve currency. To ensure that countries wouldn’t competitively devalue their currencies and create a race-to-the-bottom, exchange rates of various currencies were pegged to the US dollar. The US Dollar was fixed to gold at $35/ounce, thus making it “as good as gold“.
By the late 1960’s the US spending to fund both the space race and the Vietnam war simultaneously. Demands by foreign governments to convert their US dollars into gold began to rise. This led to the “temporary” suspension of the ability to convert the US Dollar into gold in 1971, an action taken by Richard Nixon. Half a century later, conversion is still suspended. This has led to all sorts of economic consequences that are not really understood, which have been catalogued in the wtfhappenedin1971.com website.
The next big shakeup came in 2008 and 2009. In the aftermath of the financial crisis, two things happened. Countries began suggesting the creation of a new system that would replace the US dollar as the reserve currency. This included Russia, which advocated for “united future world currency” baring the slogan “unity in diversity“. The idea of abandoning the dollar was further backed by a U.N. report.
The second thing that happened was the creation of bitcoin. A group of renegade cryptographers and programmers known as the “cypherpunks” wanted to create an alternative to government-backed fiat currency. Their creation is now being rapidly adopted by a young generation that sees themselves as “global citizens” first and foremost, before that of any particular nationality. For them, the WiFi password was the passport for e-citizenship.
Characteristics of disruptive businesses, at least in their initial stages, can include: lower gross margins, smaller target markets, and simpler products and services that may not appear as attractive as existing solutions when compared against traditional performance metrics. Because these lower tiers of the market offer lower gross margins, they are unattractive to other firms moving upward in the market, creating space at the bottom of the market for new disruptive competitors to emerge.
Though bitcoin and central banks are not necessarily businesses, the dynamic sounds a lot like the cycle of disruptive innovation. Bitcoin started out as a peer-to-peer payment network on the fringe of the internet. A little over a decade later, and bitcoin is moving into the mainstream.
…because the FinTech revolution questions the two forms of money that we just discussed, coins and commercial bank deposit. And it questions the role of the state in providing money.
We are at a historic turning point. You–young or not so young–doesn’t matter. But bold entrepreneurs gathered here today, You are not just inventing new services. You are reinventing the history of money. You drawing a completely new future actually, and we are all in the process of adapting.
A new wind is blowing and it is that of digitalization… …and this is key: Money itself is changing. We expect it to become more convenient, more user friendly. Perhaps even less serious-looking. We expect it to be integrated with social media, readily available for online. And person-to-person use including micro payments. And of course we expect it tobe cheap, safe, protected against criminals and prying eyes.
So what role will remain for cash in this digital world… …even crypto currencies such as bitcoin a theorem and ripple are vying for a spot in the cashless world, constantly reinventing themselves in the hope of offering more stable value and quicker and cheaper settlement.
…. Let me be more specific. Should central banks issue a new digital form of money? A state bank token or perhaps an account held directly at the central bank and available to people and firms for retail payments to each of you…. ….this is not science fiction there are central banks around the world that are considering this option…
Central bankers probably aren’t meeting in secret about bitcoin and other cryptocurrencies to crack jokes about them. As stated by Christine Lagarde, now President of the European Central Bank, various central banks are already exploring the potential for their own “state bank tokens”.Bitcoin already has dominant market share, and a first-mover advantage.
Bitcoin’s current market cap is approximately $645B, much larger than the digital yuan. But how could ever scale to the point where it plays a major role in our system?
Bitcoin is hardcoded with 8 decimal places, with one 0.00000001 unit known as a Satoshi. If the exchange rate between the USD and BTC were $1M/1BTC each Satoshi would be worth 1¢. The market cap would be approximately $19T, based solely on today’s circulating supply.
Some will point out the fact that there are other coins based on better encryption techniques. Many of them are superior to bitcoin in various technical aspects. Yet bitcoin has one particular advantage, critical mass. It is the most popular coin, and thus it has the greatest network effect. Bitcoin miners also have the ability to update and upgrade the bitcoin protocol. This capability will help tackle future challenges such as quantum computers hypothetically capable of cracking bitcoin’s algorithm.
Bitcoin may never be as easy to use as a transactional currency, but it is quite plausible as a reserve asset. In essence, it is the first truly global form of currency. Though adopters of bitcoin transact in their local currencies when they buy everyday items, their bitcoin holdings are universal across the globe. It’s all one mutually agreed upon blockchain, a distributed record of what each individual has.
The root problem with conventional currency is all the trust that’s required to make it work. The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve.
This is how bitcoin can become the new reserve currency. Perhaps bitcoin is the reserve currency of the people, as the original intent for bitcoin was to be an alternative fiat currency issued by central banks, founded during the Occupy Wall Street movement… A movement that has conveniently faded away in favor of topics in social justice.
Perhaps today’s miners and holders of Bitcoin will become tomorrow’s central bankers, at least in theory. The world’s decentralized central bank. Again, the true power of Bitcoin is not its technical superiority, but its ubiquity as the largest network.
The New World Order
We’ve explained how bitcoin could become a reserve currency in theory, but why exactly would it? Are there any potential catalysts? Every currency trades in pairs. The real question we must ask is if bitcoin is rising against the US dollar or if the US dollar is falling against bitcoin.
On the surface this is an absurd assertion. There are many currencies and bitcoin is rising against all of them. Bitcoin is rising against goods and services. These are fair arguments. However, underneath the surface there are complex suppositions.
For one, no goods or services are truly denominated in bitcoin. Bitcoin has no basket of native goods that we can compare to the same basket of goods we use to calculate USD inflation. The closest thing bitcoin has to that, is a basket of alternate cryptocurrencies (such as Ethereum) which as a whole are also rapidly rising.
The US dollar is also the reserve currency. Another way to look at it would be to think not about the US dollar in isolation, but to think of all currencies as an index. This leads us to the bold possibility that all currencies are plummeting against the bitcoin. Consider that bitcoin may be like a new technology that has come along, and now central-bank-backed currencies are facing a certain degree of obsoletion. We still use desktop computers today (this article was written on one), but many of you are reading this on a mobile device, as most of our “personal computing” is now done on a handheld mobile device.
If this theory is true it is highly consequential. It would open up the possibility that bitcoin is stable and currency is actually volatile, whipsawing in value. This is a stretch, but an important consideration. Alternatively, bitcoin may stabilize with scale and maturity. This would enable people in even the remote parts of the world access to a stable store of value, with little more than a smartphone. Talk about an upside catalyst.
We created a new world order in 1945… …We created a new dollar based monetary system… 1945 we began a new world order, and we had the United Nations in New York. And we had the World Bank and the IMF in Washington, because it was the American enterprise. And then we had 80% of the world’s gold and we began a process.
Now we’re heavily in debt and we are at those kinds of limits and so on. How are we going to restructure that world order?
According to Dalio, “”having the world’s printing press to produce the world’s currency is the equivalent of having the world’s most important asset.” We interpret this as having the reserve currency. This is something that Dalio wrote about extensively in his book Big Debt Crises, which lays out a clear argument that a country cannot go into hyperinflation so long as it has the printing press for the currency in which its debts are denominated. Note that this is an important feature of Modern Monetary Theory, which argues governments should worry about inflation more than total debt.
In our view, the printing press for the reserve currency is the world’s most valuable asset because the US is in large part printing dollars in exchange for real goods and services. The might of the US dollar was leveraged during the pandemic, as large amounts of money printing offset a global shortage in dollars as firms scrambled a safe-haven. This is why despite printing trillions during the pandemic, the inflation rate is a measly ~1.2%.
But to think that the dollar is invincible is misleading. Technology is transforming our society as a whole, and some of the consequences have been negative. We believe that business models that use algorithms designed to addict users and then monetize their outrage by selling them ads have had a strongly negative affect on society. In fact, this may be destabilizing the country.
(Protests turn to riots on Capitol Hill, Image Source: Google Images)
The imagery from Capitol Hill last week was both shocking and ominous. After a summer of both protest and political violence, encouraged by US politicians and the media, tensions have risen even further as rioters from the other side of the political spectrum broke into the US Capitol sending the entire US congress scrambling into underground tunnels. Let us be clear. This is not to, in any way, glorify political violence or rebellion against the government (though the later was thematic in the creation of bitcoin).
We instead are highlighting what should be obvious, that our system and the benefits we enjoy from it are much more vulnerable than we realize. Is bitcoin rising against the US dollar or is the US dollar falling against bitcoin? Consider that bitcoin hit 37,000 shortly after protestors stormed the capital, climbing to over $40,000 before crashing back down to $33,000 as President Trump issued a video concession and things calmed down a bit.
Some fantasize that a “second civil war” is a winnable proposition. Even a minor uprising could be catastrophic for the United States. It could destabilize the dollar and delegitimize its role as a reserve currency. Since printing US Dollars in exchange for real goods and services is critical to functioning of the US economy (a privilege of being the world reserve currency), it would also set off a domino effect that would end in economic disaster.
Unfortunately, tensions over the 2020 election are not the only threat to dollar stability. The unrest we have seen in 2020 and early 2021 may only be a preview of what’s to come, as AI and robotics displace workers over the next decade. Facebook has also jumped on the bandwagon with Libra, a project to create a “stable coin” linked to a global currency basket.
Confidence in the US dollar and its position as the reserve currency is much more likely to be toppled by geopolitical unrest than concerns about US debt or how much fiat currency the Federal Reserve is printing. Again, this all shows just how fragile our system can be. If the dollar is no longer a safe haven, a run from the dollar might result in a flight to bitcoin. This is the unfortunate reality of the situation.
Is bitcoin better than gold?
Bitcoin and gold have many similarities. Gold has a distinct history as a reserve asset. Supply increases in gold are limited to how much of it we can dig up out of the earth, the same way that the creation of bitcoin is limited to the function of its algorithm. This supply cannot be expanded in times of crisis to spur credit creation, which is why it has had limited appeal to central bankers. When a crisis occurs, we are all forced to pay the tax.
Gold may have valuable uses in industrial applications, but Bitcoin has one distinct advantage over gold. Gold suffers from the trust problem that bitcoin’s technology eliminates. If you want to borrow against your gold, or use it as collateral, a counterparty must trust that you actually have it. If you put it in a bank, you no longer have sovereignty over it.
Bitcoin’s system of registry and encryption is its innovation. That’s the blockchain, an algorithm that eliminates the need for trust. This innovation is not only a massive leap forward in technology, it is perhaps the first major innovation in banking since electronic markets were first introduced to trading floors. All other innovations seem incremental in comparison.
Bitcoin adopters entrust in a system that is designed not trust or be trusted by anyone, by giving everyone a perfect record of all accounts and transactions. Bitcoin can be stolen from an exchange intermediary, but it cannot be stolen from the blockchain database.
Conclusion
(An excerpt from the book Superintelligence by Nick Bostrom. This graph and the passage above really puts the exponential effect of technology-driven disruption into perspective. Image Source: Nick Bostrom.)
As a transactional form of currency, bitcoin’s limitations are inherent. As a reserve asset, bitcoin’s possibilities are limitless. One Satoshi could equal $1, $10, $100… it is infinitely scalable.
It is also likely ungovernable, adhering only to the will of the people. If governments attempt to reign in bitcoin with regulation, a new layer could emerge with users bypassing the exchange intermediaries (such as Coinbase) with their wallets running on their own local hardware connected directly to the network. This was way it was done in the beginning. If governments target the free will of the individual, this too could backfire. It might only drive fear that they are attempting to salvage their authority from the onslaught of technology, driving bitcoin’s legitimacy.
You know, what is money? Money is an entry in a database.
We are living in one of the most bizarre moments in history, driven by the accelerating pace of technology, an exponential curve. Tech investors often go by the idiom “if you’re not early you’re late.” Perhaps the euphoria and excitement regarding the tech bubble, that humanity would be reshaped by the transformative impact of networks and computers, was not wrong. Just early. Though there are certain “meme stocks” that are in a phase speculative euphoria today, perhaps this time it is very different in a general sense, and things like bitcoin will indeed be transformative in the long run.
There are nations in the world who would like to see the end of the US dollar’s dominance, as it would shift the balance of power in their favor. There are central bankers who would like to see digital currencies, giving them incredible new tools to track, monitor, and implement monetary policy directly. But perhaps a new Bretton Woods agreement has already happened, and it was a group of cryptographers and software developers creating bitcoin… Giving the power of the central banks to the masses. If the government can click a few keys at the Federal Reserve and create money, why can’t we?
Equities analyst at a long/short hedge fund. Occasionally I publish some of the more interesting research I…
Long/Short Equity
Contributor Since 2013
Equities analyst at a long/short hedge fund. Occasionally I publish some of the more interesting research I work on for fun. These are my personal thoughts and not investment advice.
Disclosure: I am/we are long BTC-USD. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: We are also investors in cryptocurrency mining.
How do you keep your digital currency safe? Jerry Brito, Executive Director of the Coin Center, explains how multisignature technology provides increased security for digital currencies such as Bitcoin.
The word “bitcoin” is as likely to garner feverish excitement as it is glaring criticism. The financial community sees speculative promise in the form of trade that currently has little to no regulation. Meanwhile, others argue that it’s a distraction that detracts from the overall longevity of US financial institutions.
Bitcoin’s energy consumption has become a recent talking point in the debate. A Forbes article published May 30 indicates that bitcoin dramatically increases global energy consumption—and that electricity is its “Achilles heel.”
I am a researcher who studies clean energy technology, specifically the transition toward decarbonized energy systems. I think that the conversation around bitcoin and energy has been oversimplified.
New technologies—such as data centers, computers and before them trains, planes and automobiles—are often energy-intensive. Over time, all of these have become more efficient, a natural progression of any technology: Saving energy equates to saving costs.
By talking specifically about just the consumption of energy alone, I believe many fail to understand one of the most basic benefits of renewable energy systems. Electricity production can increase while still maintaining a minimal impact on the environment. Rather than focusing on how much energy bitcoin uses, the discussion should center around who indeed is producing it—and where their power comes from.
Counting consumption
Unlocking a bitcoin requires an intense amount of computational power. Think of bitcoin as sort of a hidden currency code, where its value is derived by solving a programmable puzzle. Getting through this puzzle requires computer brainpower.
Electricity is 90% of the cost to mine bitcoin. As such, bitcoin mining uses an exorbitant amount of power: somewhere between an estimated 30 terrawatt hours alone in 2017 alone. That’s as much electricity as it takes to power the entire nation of Ireland in one year.
Indeed, this is a lot, but not exorbitant. Banking consumes an estimated 100 terrawatts of power annually. If bitcoin technology were to mature by more than 100 times its current market size, it would still equal only 2% of all energy consumption.
Power sources
Bitcoin is certainly consuming an increasing amount of power worldwide, but is it increasing the world’s carbon consumption? Bitcoin miners have traditionally set up shop in China, where coal supplies 60% of the nation’s electricity.
Bitcoin mining in China, with a largely fossil-based electricity source, may indeed be problematic. China is already one of the world’s major contributors of carbon emissions. However, bitcoin mining in Oregon? Not the same thing. Not all types of energy generation are equal in their impact on the environment, nor does the world uniformly rely on the same types of generation across states and markets.
Like many other aspects of the energy industry, bitcoin is not necessarily a “bad guy.” It’s simply a new, and vaguely understood, industry.
The discussion about energy consumption and bitcoin is, I believe, unfair without discussing the energy intensity of new technologies overall, specifically in data centers.
Rather than discussing the energy consumption of bitcoin generally, people should be discussing the carbon production of bitcoin, and understanding whether certain mining towns are adding to an already large environmental burden.
Although there has been extensive discussion in the media of bitcoin’s energy consumption, I’m not aware of any studies that actually calculate the comparative carbon footprint of the bitcoin process.
Global electricity consumption is going up overall. The US Energy Information Administration predicts that world use will increase nearly 28% over the next two decades. But increasing energy consumption is bad only if we aren’t shifting toward less carbon-dense power production. So far, it seems that only miners are currently shifting toward cleaner parts of the world.
So perhaps people should quit criticizing bitcoin for its energy intensity and start criticizing states and nations for still providing new industries with dirty power supplies instead.
No. Bitcoin can save far more energy than it uses by making financial systems more efficient.
Those panicking about crypto make three fundamental errors.
First, they do not understand how Bitcoin works,
second, they do not understand what mass adoption would look like, and
third, they do not understand the problem Bitcoin is intended to solve.
Regardless of your opinion on the danger of global warming, Bitcoin does not use nearly as much energy as claimed, will become far more efficient as it grows, and most importantly, solves one of the greatest causes of resource inefficiency, corruption, and human suffering.
Bitcoin mining is a market-based process that taps underutilized energy sources
When Bitcoin critics focus on the raw energy usage of Bitcoin mining, they miss the bigger picture: cryptocurrency production is a competitive market process.
Because the cost of Bitcoin mining comes mostly from electricity consumption, Bitcoin mining is concentrated in places with cheap or surplus energy. Industrial-scale mining facilities are located in far-flung locations with cheap hydro-electric, nuclear, geothermal power, or undeveloped industrial regions with excess production. Energy costs money, and miners will always look for the world’s best sources of cheap and efficient energy. Cryptocurrency mining is a means to tap underutilized energy resources for a valuable purpose—the maintenance of a monetary system. No other industry can rapidly move into an industrial ghost town and create value the way Bitcoin mining firms do.
Furthermore, the total energy usage of Bitcoin is limited by economics: crypto-miners will only keep mining when their profit is higher than the cost of electricity. The Bitcoin network automatically adjusts the difficulty of mining new blocks in response to the “hash rate” or the net mining capacity of the network. This means that Bitcoin has a built-in cap on energy use, and can dynamically adjust in response to energy prices and innovation in computational hardware. Currently, humanity consumes around 17.7 Terawatts per year. The Economist estimates that Bitcoin uses 2.55 gigawatts or .014% of that. Some estimate the total use of cryptocurrencies at 7.7 gigawatts, but it’s likely that a single cryptocurrency will dominate after the current shakeout period.
The purpose of mining cryptocurrency is to provide a market-based and fraud-resistant platform to establish ownership of Bitcoins. Once ownership is secured, a near-infinite number of transactions can be made with Bitcoins without any additional mining.
In late 2017, the Bitcoin network reached the limits of how fast it could process transactions and in response, the cryptocurrency community shifted its focus to technologies that would enable the network to scale (grow) to support the entire global economy. There is active debate and experimentation about the best solution to scaling Bitcoin, but they all share the goal of enabling more transactions to be processed by the network without dramatically increasing computational, hardware, and energy requirements.
Cryptocurrency mining is just the tip of the blockchain iceberg. Second-layer transaction networks like Lightning Network and other off-chain transactions do not involve mining and are far less energy intensive. While Bitcoin’s total energy usage will grow with adoption, it’s quite possible that mining will never grow beyond the .01% of the world’s energy consumption it uses today.
Consider gold—it takes a lot of energy to extract out of the ground. Once extracted and formed into coins, it takes a lot less additional energy to use gold. As a digital entity, Bitcoin transactions themselves need far less energy than gold or fiat (paper money) transactions, for reasons I will explain below.
Bitcoin will free far more resources than it uses
Here is the most important point Bitcoin critics miss: cryptocurrencies are not a zero-sum game, they were created to solve a real problem. By eliminating the need for intermediaries in financial transactions, Bitcoin and other blockchains can liberate billions of people around the world and free a large segment of the economy for more productive purposes.
We have to understand the problem that Satoshi Nakamoto intended to solve when he invented Bitcoin. His vision is a “purely peer-to-peer version of electronic cash [that] would allow online payments to be sent directly from one party to another without going through a financial institution.” What’s wrong with using financial institutions as intermediaries?
If you live in a western country with low inflation, access to a bank account, and credit cards, you might not see the need for Bitcoin. However, 1.7 billion people worldwide lack access to a bank account, and billions more cannot trust paper money due to high inflation. These people need access to a financial system that allows them to accumulate savings and participate in the global economy.
Likewise, 5.3 billion people don’t have a clear title to their property and “remain trapped by the “tragedy of the commons” where their unregistered assets can be stolen by powerful interests, hurting individuals and broader economic development,” according to economist Hernando de Soto. The United Nations Development Program is now trying blockchain-based property deeds in India that will allow people to build permanent structures, connect to utility networks and buy and sell their property for the first time. What is the climate impact of billions of people who burn firewood and coal for heat because they don’t have title to their own land and cannot accumulate savings for infrastructure improvements? What is the human impact on the citizens of Zimbabwe, Venezuela, the Republic of Congo, or the dozens of other countries who have had their savings evaporated because their governments failed to provide a sound monetary system?
Bitcoin was invented to solve the inefficiencies of legacy financial systems. By cutting out both governments and corporations as intermediaries, it can put idle resources to use and eliminate the economic waste and destruction caused by unreliable monetary systems.
The economic inefficiency from unreliable financial intermediaries is not limited to the developing world. The 2008 financial crisis was caused by both unclear property records and the Federal Reserve’s manipulation of interest rates—what was its energy cost? What about the energy consumption of the banking and financial sector, which expanded massively in response to new regulations passed after the financial crises, and is stealing the best and brightest minds from more productive and meaningful pursuits? What about the trillions of dollars spent by the US government waging wars due to its ability to issue virtually unlimited debt by creating new money? The twentieth-century phenomenon of total war could not have been possible without total economic mobilization as a result of controlling the money supply.
Cryptocurrency won’t fix all of the world’s problems, but our financial system is an antiquated and corrupt mess which generates tremendous inefficiencies and waste.
By eliminating intermediaries, cryptocurrencies eliminate the waste caused by the financial sector
The point is this: money is essential for modern society to exist, and Bitcoin is the culmination of thousands of years in the evolution of money. Linking the function of money to our political system has proven enormously wasteful and destructive during the 20th and 21st centuries. Yes, creating a monetary system costs money and energy: however, Bitcoin is far more efficient than the dominant alternatives.
Finally, while Bitcoin is the dominant cryptocurrency, some projects have attempted “proof of stake” approaches which don’t involve mining. They are competing with Bitcoin for market share, and if any one of them manages to create a decentralized, robust, and scalable alternative to Bitcoin, people will adopt.
Yes, Bitcoin mining uses energy and resources, but far less than legacy financial systems. By separating money from politics, Bitcoin enables many more efficiencies than the cost to produce it.
(Protests turn to riots on Capitol Hill, Image Source: Google Images)
(An excerpt from the book Superintelligence by Nick Bostrom. This graph and the passage above really puts the exponential effect of technology-driven disruption into perspective. Image Source: Nick Bostrom.)
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