Understanding The Cryptocurrency Boom

I recently came across a December 1996 San Jose Mercury News article on tech pioneers’ attempts to carry the pre-browser Internet’s bulletin board community vibe over to the new-fangled World Wide Web.

In effect, the article is talking about social media a decade before MySpace and Facebook and 15 years before the maturation of social media.

(Apple was $25 per share in December 1996. Adjusted for splits, that’s about the cost of a cup of coffee.)

So what’s the point of digging up this ancient tech history?

  1. Technology changes in ways that are difficult to predict, even to visionaries who understand present-day technologies.
  2. The sources of great future fortunes are only visible in a rearview mirror.

Many of the tech and biotech companies listed in the financial pages of December 1996 no longer exist. Their industries changed, and they vanished or were bought up, often for pennies on the dollar of their heyday valuations.

Which brings us to cryptocurrencies, which entered the world with bitcoin in early 2009.

Now there are hundreds of cryptocurrencies, and a speculative boom has pushed bitcoin from around $600 a year ago to $2600 and Ethereum, another leading cryptocurrency, from around $10 last year to $370.

Where are cryptocurrencies in the evolution from new technology to speculative boom to maturation? Judging by valuation leaps from $10 to $370, the technology is clearly in the speculative boom phase.

If recent tech history is any guide, speculative boom phases are often poor guides to future valuations and the maturation trajectory of a new sector. 

Anyone remember “push” technologies circa 1997? This was the hottest thing going, and valuations of early companies went ballistic.  Then the fad passed and some new innovation became The Next Big Thing.

All of which is to say: nobody can predict the future course of cryptocurrencies, other than to say that speculative booms eventually end and technologies mature into forms that solve real business problems in uniquely cheap and robust ways no other technology can match.

So while we can’t predict the future forms of cryptocurrencies that will dominate the mature marketplace, we can predict that markets will sort the wheat from the chaff by a winnowing the entries down to those that solve real business problems (i.e. address scarcities) in ways that are cheap and robust and that cannot be solved by other technologies.

The 'Anything Goes' Speculative Boom

Technologies with potentially mass applications often spark speculative booms. The advent of radio generated a speculative boom just as heady as any recent tech frenzy.

Many people decry the current speculative frenzy in cryptocurrencies, and others warn the whole thing is a Ponzi scheme, a fad, and a bubble in which the gullible sheep are being led to slaughter.

Meanwhile, tribalism is running hot in the cryptocurrencies space, with promoters and detractors of the various cryptocurrencies doing battle in online forums: bitcoin is doomed by FUD (fear, uncertainty and doubt) about its warring camps, or it’s the gold standard; Ethereum is either fundamentally flawed or the platform destined to dominate, and so on.

The technological issues are thorny and obtuse to non-programmers, and the eventual utility of the many cryptocurrencies is still an open question/in development.

It’s difficult for non-experts to sort out all these claims. What’s steak and what’s sizzle?  We can’t be sure a new entrant is actually a blockchain or if its promoters are using blockchain as the selling buzzword.

Even more confusing are the debates over decentralization. One of the key advances of the bitcoin blockchain technology is its decentralized mode of operation: the blockchain is distributed on servers all over the planet, and those paying for the electricity to run those servers are paid for this service with bitcoin that is “mined” by the process of maintaining the blockchain.  No central committee organizes this process.

Critics have noted that the mining of bitcoin is now dominated by large companies in China, who act as an informal “central committee” in that they can block any changes to the protocols governing the blockchain.

Others claim that competing cryptocurrencies such as Ethereum are centrally managed, despite defenders’ claims to the contrary.

Meanwhile, fortunes are being made as speculators jump from one cryptocurrency to the next as ICOs (initial coin offerings) proliferate. Since the new coins must typically be purchased with existing cryptocurrencies, this demand has been one driver of soaring prices for Ethereum.

As if all this wasn’t confusing enough, the many differences between various cryptocurrencies are difficult to understand and assess.

While bitcoin was designed to be a currency, and nothing but a currency, other cryptocurrencies such as Ethereum are not just currencies, they are platforms for other uses of blockchain technologies, for example, the much-touted smart contracts.  This potential for applications beyond currencies is the reason why the big corporations have formed the Enterprise Ethereum Alliance (https://entethalliance.org/).

Despite the impressive credentials of the Alliance, real-world applications that are available to ordinary consumers and small enterprises using these blockchain technologies are still in development: there’s lots of sizzle but no steak yet.

Who Will The Winner(s) Be?

How can non-experts sort out what sizzle will fizzle and what sizzle will become dominant?  The short answer is: we can’t. An experienced programmer who has actually worked on the bitcoin blockchain, Ethereum and Dash (to name three leading cryptocurrencies) would be well-placed to explain the trade-offs in each (and yes, there are always trade-offs), but precious few such qualified folks are available for unbiased commentary as tribalism has snared many developers into biases that are not always advertised upfront.

So what’s a non-expert to make of this swirl of speculation, skepticism, tribalism, confusing technological claims and counterclaims and the unavoidable uncertainties of the exhilarating but dangerously speculative boom phase?

There is no way to predict the course of specific cryptocurrencies, or the potential emergence of a new cryptocurrency that leaves all the existing versions in the dust, or governments’ future actions to endorse or criminalize cryptocurrencies.  But what we can do -- now, in the present -- is analyze present-day cryptocurrencies through the filters of scarcity and utility.

In Part 2: The Value Drivers Of Cryptocurrency, we analyze the necessary success requirements a cryptocurrency will need to excel on in order to become adopted at a mass, mainstream level. Once this happens (which increasingly looks like a matter of "when" not "if"), the resultant price increase of the winning coin(s) will highly likely be geometric and meteoric.

Sadly, the most probable catalyst for this will be a collapse of the current global fiat currency regime -- something that increasingly looks more and more inevitable. This will destroy a staggering amount of the (paper) wealth currently held by today's households. Which makes developing a fully-informed understanding of the cryptocurrency landscape now -- today -- an extremely important requirement for any prudent investor.

Click here to read the report (free executive summary, enrollment required for full access)

This is a companion discussion topic for the original entry at https://peakprosperity.com/understanding-the-cryptocurrency-boom/

The main argument:
The blockchain is for censorship resistance. That’s it. Use cases such as buying drugs, gambling, tax evasion, sharing secrets, capital flight and scamming people eclipse all other use cases.
Investing in Bitcoin is investing in vice.
Not pleasant to state it so baldly, but it seemed pretty convincing to me. Lots to say about scarcity vs. “real-world utility” too. Interested to see what you think, Charles.

apismellifera wrote:
https://medium.com/@hudon/bitcoin-is-for-drugs-27dcc5923716 The main argument: The blockchain is for censorship resistance. That’s it. Use cases such as buying drugs, gambling, tax evasion, sharing secrets, capital flight and scamming people eclipse all other use cases. Investing in Bitcoin is investing in vice. Not pleasant to state it so baldly, but it seemed pretty convincing to me. Lots to say about scarcity vs. "real-world utility" too. Interested to see what you think, Charles.
Remember, there is a large group that says the same thing about cash. Hmmm.

We are clearly in the early stages of development as Chares points out. What needs to happen for cryptos to be real currency is for more people to use it as a stand alone currency. A number of years ago local currency was all the rage. Well cryptos are actually a global local currency. As the market matures one would hope that an actual economy will develop with people working for and exchanging goods and services for cryptos.
There are a few "marketplaces " now but the development of marketplaces online like Amazon will go a long way towards creating an economy. That will also include velocity which is almost nonexistenet at the moment

Interesting POV, but not the whole story IMO. As MarkM observed, this is precisely the same argument being made to outlaw cash.
I have used BTC for legitimate business purposes, so like cash, the medium of exchange cannot be tarred by what people use it for. All those vices existed before BTC and would still be around if BTC vanished.
Also, if the blockchain technologies were limited to secret vices, why are Goldman Sachs et al. pulling patents and Microsoft et al. in the Ethereum alliance? they see something legit with a future.
The blockchain is best understood as a triple entry accounting system:

Why Everyone Missed the Most Important Invention in the Last 500 Years

Not sure what you mean by this apismellifera, but it made me think of real world utility a bit more.
I can’t get too excited about yet another foundationally incorrect currency. All currencies are systems that symbolize actual wealth. Their value is entirely derivative of the materials and supportive “services” of the biosphere combined with the intelligence and labor of the people. I don’t see our currencies, even gold, which is ruinous for the planet where it is mined, reflecting this base-line truth. They and the human-made economies they support instead reflect profound inaccuracies:

  • that there are no limits to growth
  • that the health of the biosphere is irrelevant to the human economy
  • that our only concern is to make a profit, and our love of planet and life is irrelevant
    Subtle and powerful traces of this conditioning easily skew my thinking, but when I drill down it’s screamingly obvious: no functioning biosphere = no human economy. Our economies are always a subset of the planet’s. Our currencies always have to function within the biosphere’s economy and are never independent constructs.
    Could we have a currency that comes into being not through playing with ecologically harmful digital signals (huge power requirements, harmful electromagnetic fields, widespread damage to humans who sit staring at screens, zero benefit to the ecology of our home)? BTW, is no-one weirded-out by their extremely fragile nature (EMPs)? Rather, could a currency be created when we do something that creates utility for the biosphere? Create a unit of great compost and deliver it to your local farmer, get a unit of currency. Pull a ton of plastic garbage from the ocean and get it to a recycling depot, get a BIG unit of currency. Yes, these off-the-cuff examples would be hard to regulate, but they might give you the idea I’m striving for.
    The idea of bypassing the banksters is intoxicating. I love it. Let the bastards suffocate on their perpetually inflating paper. Hold on for the ride.
    But continuing to create currencies and run the human economy on abstractions that are incorrect about our real situation here on planet Earth just sounds problematic. I have no expertise to evaluate the technical aspects of Bitcoin et.al. It’s broad strokes for me. What utility does Bitcoin offer the host economy, our teetering biosphere? Ah. It burns a lot of electricity and keeps people, who could be a force for regeneration, sitting behind desks. Like modern human economics, the utility accrues only to human systems, with no reference to the real economy that we live within – the planet’s resources. I don’t mean to be Pollyanna. I know if Bitcoin goes away the brilliant nerds won’t necessarily decide to go homestead or rescue the ocean to create their newest currency. However, if something is off the tracks, not connected to reality, there’s no point in supporting it no matter how new and ingenious it is.
    Currency has to be one of the most interesting of human inventions. It certainly keeps confounding me. I see how its roots go deep in to the foundations of our relationship with world, and how it contains powerful errors as well as utility. I never can quite unpack it, but it’s always a ride into deeper levels of meaning when I try.

I’d like to take a moment to thank Charles for his past efforts to put cryptocurrencies on the PP.com radar.
In addition to educating me in my private conversations with him (and, boy, do I wish I had acted on his advice), he published this report An Everyman’s Guide To Understanding Cryptocurrencies on PP.com a year ago, when Bitcoin was under $600 (and Ethereum under $14)
His work has been informative and measured, highlighting the potential of cryptocurrencies without pushing them as a “must buy” for everyone – leaving it up to each of us to make up our own minds.
I value his contributions here immensely, as I know many other readers here do, too. Thanks, Charles!

A transparent ledger with a predicable unit of account with the ability to go anywhere in the world with accessed to it. I have heard it said it doesn’t matter what money is but who creates its supply. Bitcion functions without borders and with limited creation.
The electrical use is problematic. But its vulnerability to emp I don’t see. As long as one master node remains intact you still have all you need to rebuild. That is If my understanding is correct.
I see a larger problem with the limit of transactions per second and the length in time it takes for blocks to be filled. The scalability as a world currency seems difficult if the network cannot handle the volume. I once had to wait three days to get a confirmation on a payment. That is a level stress an inconvenienced that will be something for bitcion to overcome if it to function as a world currency. The decentralized nature of bitcion is fascinating but how does it organize when there is a real problem? How does it fund R and D? What does future resilience look like with the ever increasing electrical demands? What are the answers to these questions? It seems if somthing changes or needs to change speed and consensus would be difficult to accomplish given the current model. There has to be a better way than the current model. It makes me wonder. My guess is it would be easer to build a new network with more functionality than to change bitcion with a consensus model. I actually expect bitcion to one day be overtaken for this reason. A coin that can handle transaction in seconds and make decisions quickly and fund R and D. Will just need to establish itself. When problems happen with bitcion it will probably be replaced for something faster more convenient and easy to use. The speed here is truly amazing. I think that the nature this system. Once it is apparent that there is something better how fast do miners change there computer to the next best thing? How fast do you abandon a digital ledger? If the mining computer can’t be changed or used for something else that could provide some stability for a time. But the speed of a change could be so fast. I love it but it’s scary. It’s unlike anything I can imagine. The consept of Internet money seems silly at first thought a joke even. I feel it illustrates just how terrible and unfair our systems really is. Talk about ridiculous Some computers started doing math problems and keeping an honest ledger and bam! Wow this is way better the dealing with banks and QE whatever… Crazy right OK where do I buy some digital honestly? Boom bitcion 2000. It definitely feels wrong that so much work =(electricity) has to be done for an honest ledger. Why can’t banks do that? You would think it wouldn’t be that hard. Just makes me want to take care of my ducks and hang out in a garden.

Yeah, that’s a no.
The current state of the art in payment systems (at least in the US, anyway) is that if I want to send money to my sister, it takes 2-3 days to do so.
With bitcoin, that same transaction takes 20 minutes.
If my bank account is in a different country, you can add a $50 wire transfer fee plus a trip to the bank to fully identify yourself, plus the bid/ask spread on the transfer is another opportunity for banks to increase their skim.
With bitcoin, that’s all gone.
Lastly, a digital currency has the promise of utterly eliminating the banks skim from payment systems. Because VISA is a quasi-monopoly, merchants end up paying 2-3% fees just to get their money from the VISA payment system. With a bitcoin-funded electronic-cash card (at least in the future, anyway) that could be a nickel per transaction, flat rate.
If you sold things, you know this. You’d hate VISA, because they always have their hand in your pocket. VISA has been careful to structure things so consumers believe it is cost-free. In reality, costs have just been shunted off to the merchants.
The utility story is 100% there. And its not just porn and gambling - although like everything, they seem to be the “early adopters” of all new technology.
My only qualm with bitcoin is its claims to being unhackable. It isn’t. Any state actor with international reach and an evil intent could cause utter mayhem in the bitcoin world. Given that, its status as a “store of value” is a bit dubious, at least to me. Bitcoin continues to exist because the bankers - for some reason - are willing to tolerate it. If the bankers decide to stop tolerating it, if they decide to sever their connection with the exchanges, for whatever reason, all that utility is then gone.

Does that mean investing in a knife is investing in murder?

charleshughsmith wrote:
Also, if the blockchain technologies were limited to secret vices, why are Goldman Sachs et al. pulling patents and Microsoft et al. in the Ethereum alliance? they see something legit with a future.
To me, Goldman Sachs being on board doesn't say anything about legitimacy. Years ago a SEC employee secretly taped a conversation where a Goldman Sachs executive basically said that laws didn't really apply to people with large enough portfolios. As we have seen, repeatedly, laws do not apply or are insignificant where bankers are concerned. Perhaps, Goldman Sachs wants a currency available that will support some of their transactions and those of their largest customers?

Thanks for the kudos, Adam. Here is more evidence that the blockchain’s influence could be a lot wider than currencies:
The reason Bitcoin & Ethereum are surging

As you’ve noticed, Medium publishes a lot of material on crypto-currencies and the blockchain (along with lots of other technology).
I think it’s worth looking at how Chinese companies are developing blockchain utilities:

Ethereum Growing Exponentially in China
iPayNow uses Quorum, a version of Ethereum incoporating transactional privacy open-sourced by JP Morgan. The company provides aggregated payment service to hundreds of thousands of business clients, such as JD.com, MI, Baidu, Meituan, Ctrip and etc. To them, it is clear that blockchain technology will lead the next generation of mobile payment market.
Blockchain for the Rest of Us
On a personal note: my book describing a labor-backed crypto-currency, "A Radically Beneficial World," is scheduled to be published in China this summer. (I signed a contract and received a royalty advance 18 months ago.) Perhaps China will be the source of future crypto-currencies. Chinese entrepreneurs seem to have embraced the blockchain for micro-payments, as Dave P. suggested in his comment.

I would fantasize for money to be conceived as a unit of work/value/energy more directly and honestly than has yet to be achieved. Just as gold is often admired for the honesty of the work required to produce it and digital currencies mimic this scarcity with the electro-computational challenges inherent within the blockchain record both incur unaccounted/unpaid for costs distorting their values. I yearn for a process that can make market like adjustments to value as costs emerge that may not have been paid/known but should be allocated once identified. The mine tailings, leach fields, chemicalized rivers and shortened lives come to mind quickly for gold and the CO2/biosphere cost of electrical inputs as well as risk premiums to be experienced in the cyber world (the aforementioned EMP/government/bank influences) all can be seen now but have no blockchain of accountability available to adjust ongoing monetary values of any type. The way some systems want to consider all cradle to recycled grave costs for pricing products is the way I want to be inspired by a new currency. Our fiat paper, that many of us here can clearly value at 0 or less over some unknown timeframe, seems to float along in the zero gravity provided by “the full faith and credit” imbued by our collective psychology alone at this point. Would that the dismal science of economics provide accurate real time present value discounting to any kind of currency and I could find my way to embrace it. The emergence of Bitcoin and the blockchain has been a pleasantly surprising development but my dream remains elusive. Come to think of it a more useful wish, and just as likely to be provided, would be to know the time, place and manner of my death, as there the ultimate outcome is most assured and inherently scaled to occur within the confines of our species currently typical timeframe. What a ride it is!

…sometimes a comment belongs in two places…this is one of those times. I posted this over in the Etherium thread as well.

davefairtex wrote:
Well you knew it had to happen, and here it is. https://www.technologyreview.com/s/608088/chinas-central-bank-has-begun-cautiously-testing-a-digital-currency/ State-sponsored digital currency allows them to track exactly where everything goes. Its a central planner's dream come true. They could require all wallets to be registered, with transfers to unregistered wallets forbidden. And if they don't like you - your wallet contents get confiscated until you go and prove your innocence, which as we know, is not so easy to do. And of course there is the potential for wealth taxes, massive financial repression, collecting taxes by force, electronically (but only from "the bad people", of course). The mind really does boggle at the potential.
I thought I might just bold the parts I was in violent agreement with and ended up bolding the whole thing. :) Leaving aside currency for a minute, one trend that has been in place for decades is increasing state control of and intrusion into our lives. Nothing is private anymore. The Snowden leaks only confirmed what I had been reading about in Wired for a decade now...even the lowly FBI, staffed with probably not the greatest IT minds in the universe has had full remote, undetectable control of our smart phones' microphones and other features since the late 1990's. If you like what you see in advancing robotics and AI, you should probably be aware that similar strides have been made in the arena of information control in your life. Heck, we could even deduce what the NSA was up to by the sheer size of their Utah facility. Laughably they claimed that they were just collecting "meta data" about phone calls...you know...stuff such as which other numbers were called by someone, duration, etc, but not the content. I say 'laughably' because you could fit the meta data of ALL the world's phone calls into a server room of medium to smallish size. Let's call that a 50 x 50 room with a footprint of 2500 square feet. The NSA built a facility with 1,500,000 square feet with exabytes of storage and requiring 65 megawatts of electricity and then claimed "meta data only" which the media ran, and ran, and ran with. Shame on them, again. State toadies all of them. The NSA could store the meta data of the entire universe in this facility so they are clearly collecting a lot more than meta data. In fact the facility is large enough to collect every single packet of electronic data. Who builds a race car and then doesn't use it? So now fast forward to cryptocurrencies which the states of the world, quite tellingly, have done nothing to hinder or delay. What could be the interests of the state in such a currency? Well, for one, there's absolutely no hiding your transactions. Everything is recorded. No privacy at all. This means every transaction from paying your normal bills to the stuffed teddy bear you bought at a local garage sale are all recorded....and taxed appropriately of course. It means that if you are accused of something, they don't just take your passport, they seize your wallet. You cannot go anywhere, or buy anything, until you've cleared up the charges with the state. This means that political enemies of the state are especially vulnerable. The idea of either Trump or Clinton with the power to flick a switch and lock a political enemy from all their funds is chilling. Goodbye dissent! All hail Caesar! And just wait until the local numbskull sheriffs like those in Ferguson gain the power to flick those same switches. So...if you think that the prospect of complete government control over and perfect insight into every crevice of your economic and financial activities is a good thing, then I think digital currencies are an amazing thing. If this gives you the willies, then you might admire what the currencies might do, but you also could be legitimately cautious over how they will almost certainly be used. That's not a prediction, it's just respecting a multi-decade trend.

I’m not the first person to recognize the evil that could be done by a tyrannical government with a digital currency and how that might fit into Christian prophecies of the apocalypse. Imagine the control the government would have! Imagine the evil that could be done with that level of control!
Fruitcakes have been seeing all kinds of things in John’s “Book of Revelation” for almost 2,000 years, and I don’t want to be counted among them. But I find it interesting that such a simple man in a technologically primitive society would include a passage about an end-of-the-world dictator who controls the population by controlling who can buy and sell, and who can’t; what they can buy and sell, and what they can’t. Instead of a digital government currency which would’ve seemed like magic to him, John described a tattoo on each citizen’s head or hand which permitted them to engage in commerce. Of course enemies of the state would be deprived of this tattoo and left to starve or try to survive on the margins of society. The digital government currency would be orders of magnitude more powerful for controlling the population than a simple tattoo though. Tucked into John’s vision of the horrors of the end times dictator, is this brief passage:

He also forced everyone, small and great, rich and poor, free and slave, to receive a mark on his right hand or on his forehead, so that no one could buy or sell unless he had the mark, which is the name of the beast or the number of his name. This calls for wisdom. If anyone has insight, let him calculate the number of the beast, for it is man's number. His number is 666. (Revelation 13:16-18)
I say we all do our best among our family, friends and social contacts to keep harping on how dangerous a government digital currency would be in this time before some government actually tries it. I'm certain that most people will see a government digital currency as cool, modern, safe, convenient and therefore desirable. And we can count on the government and the central banks to talk up these exact same "benefits" to convince us all to go along with their new scheme (along with creating serious "disincentives" for not using their new-fangled currency). Right after a huge economic and banking crisis would be a great time to introduce such a thing, wouldn't it? The government and the bankers would ride in on their white horses to offer the desperate masses a solution to The Greater Depression! The average person would fall for it: hook, line and sinker. However, right now we have time to innoculate them against the concept before it happens. We don't have to convince everybody, just a large enough minority to create more inertia than TPTB can overcome. Surely, there are plenty of movies, books and articles that would help us make our case and that our case is not one for paranoid fruitcakes only. I'll start with the 1998 movie "Enemy of the State" starring Will Smith, focusing on the scene in which he and his wife are locked out of their bank accounts and credit cards by the rogue NSA operatives. "Welcome to the Hunger Games. And may the odds be ever in your favor."

From 2011:

“So long as it is digital and centrally controlled, Mr. Global could not care less whether the new currency system is called dollar, peso, franc, gold, silver or wampum beads. ~ Catherine Austin Fitts
(Though I understand that central control of the blockchain itself may not be possible with cc.)

So to institute Fedcoin, all they have to do is:
a) implement it, and have the “miners” be the various banking institutions - a sort of “proof of stake” implementation that is actually just a bunch of orgs who are all blessed by the central authority.
b) expressly forbid anyone with a banking charter from executing transactions (ACH, etc) with a non-Fedcoin exchange.
If merchants get to pay just a nickel per transaction, they’ll fall all over themselves to make it happen. It probably won’t be that cheap (they do have to reward their banker buddies, after all).
This is less about bitcoin than it is about CAF (and Tom’s) view about the end-times prediction.

How long will it take a cryptocurrency to become a kleptocurrency? I’m sticking with the stuff that has a 5000 year track record.

I assume you are referring to vigorish, right? Long history and all of that.
Just kidding, of course.