Human societies are slowly getting fairer. More people have opportunities to experience a greater range of social interactions. We’re getting healthier and more literate; diffusing knowledge and expanding education; adopting enlightenment values; improving institutions and dramatically increasing our prosperity.
Many big technological innovations contribute to this profound social progress by enabling more efficient economic exchange. They open bottlenecks, boost productivity and promote institutional decentralization and individual participation in expanding markets. Bitcoin and the cryptocurrency ecosystem are the most recent additions to this rarified family of overachieving technological innovations.
You Say You Want a Revolution
Economist and political advisor Jeremy Rifkin provides some fascinating insights to help us appreciate the importance of these big technological innovations. He asks us to think about human societies in three key ways: how they’re powered, how they communicate, and how they move people and goods around. He suggests there have been two distinct industrial revolutions, and we’re now entering a third. Each has been characterized by a particular dominant energy source as well as unique communication and transportation technologies.
The first revolution of the 1800s used coal power, the telegraph, steam engines and railways. The second of the 1900s transitioned to oil, the telephone, television, internal combustion engines, cars and airplanes. Rifkin argues the hallmarks of our nascent third industrial revolution are renewable energies, internet-based communication protocols and AI-managed networks of fuel cell-powered autonomous vehicles and drones. The distinct technologies specific to each revolution have enabled the exploitation of greater sources of power and more efficient means of energy transfer than their predecessors, and so dramatically boost productivity.
Rifkin suggests this next revolution will yet again ramp up productivity as we move down the cost curves of key renewable technologies and enjoy free, clean power sources while avoiding harmful fossil fuel externalities. AI-managed web-based communication systems and autonomous-vehicle transportation networks talking to a sensor-rich Internet of Things will further juice the productivity gains of this third technological revolution. Add in 3D printing, a nascent sharing economy, new materials such as graphene, synthetic meat, CRISPR gene editing, fusion-based nuclear power and … what else could we possibly be missing?
The New Kids on the Block
As it turns out, a lot. Satoshi’s deceptively simple breakthrough is spearheading an industry destined to continue the decentralizing and productivity-enhancing progress of this next revolution. The three broad crypto categories – currencies, utilities and applications – are the monetary pieces of the internet-based communication and Internet of Things transportation puzzle. As purely digital means of creating, transferring and storing value, they will embed frictionless transacting into the coming tsunami of internet-driven exchange.
In a previous article comparing Bitcoin to the invention of the printing press (https://themerkle.com/how-big-will-bitcoin-become), I argued that the print industry enabled greater societal participation and furthered institutional decentralization by more broadly disseminating information, and that Bitcoin and cryptocurrencies are beginning to do the same thing with money. These innovations are going to change how we create, move and store money and value. This article discusses several of these big monetary transformations.
One transformation is a shift from discretionary to nondiscretionary money creation. We often hear that Bitcoin has no intrinsic value. This common objection is understandable and reflects a traditional view of money. While usually expressed in terms of intrinsic value, this objection is really a comment about centralized discretionary money creation. Let’s rewind the monetary clock to appreciate why.
As societies evolved, it was natural and necessary to develop money as a means of facilitating trade. Of course, money needed to contain some form of intrinsic value or else no one would accept it in exchange for their real goods and services. Silver and gold were ideal because they were relatively scarce and could be melted into coins. The invention of paper money separated the actual source of value from the physical currency, which became an IOU – usually against gold – but had the advantage of being easier to transport and worked reasonably well for centuries. The upshot is that centrally created money had to be linked to something with tangible value to ensure that people would accept it, and to impede authorities from creating too much of it.
Bitcoin upends this traditional money creation paradigm. It’s neither a company nor a monetary authority. It has no board of governors or open market operations. No central authority exerts discretionary powers over currency creation. Its money supply is entirely predetermined by computer code. It’s a decentralized protocol. We know how and when each new coin will come into existence and exactly how many there will be, so the underlying reasons for linkage to an external source of value are no longer applicable.
When people say Bitcoin has no intrinsic value, they really mean it has no extrinsic value because its coins aren’t pegged to an external asset. Bitcoin has intrinsic value, which reflects the perceived worth of its network – just as the price of Leonardo da Vinci’s Salvator Mundi reflects its intrinsic beauty, rarity and technical mastery, and not the cost of its cracked walnut backing panel, paint and frame.
While you’ve been reading this article, Bitcoin has added yet another block to its distributed ledger. It has done so, on average, every ten minutes, every day, nonstop, 24/7, without fail for more than nine years. This first and unique titan of blockchains, with no central point of failure, provides an unalterable public record that has become the most secure, decentralized repository of digital value ever created. Bitcoin’s intrinsic value is its network’s capacity to do this. And it does so by replacing centralized discretionary money creation with a decentralized nondiscretionary model.
Another big monetary transformation is a shift from debt to equity-based money creation. We’re all familiar with how things currently work and some of the problems baked into this system. Money begins life as debt, so mild inflation is needed to keep the system going, and if not carefully managed, it produces pockets of excessive inflation or deflationary spirals. In the early 2000s the Federal Reserve lowered the discount rate close to zero for several years. Housing markets subsequently inflated into the mother of all bubbles, and we know what happened next. A similar narrative explains the run-up to the Great Depression 80 years earlier. Milton Friedman put it succinctly: “Inflation is always and everywhere a monetary phenomenon.”
In the crypto ecosystem, money begins as equity in the form of tokens distributed to incentivize participation in a specific market. What market? Anything the innovators come up with. The sky’s the limit. Filecoin participants exchange computer storage access and retrieval. The Steemit community writes and curates each other’s articles. Augur incentivizes people to create and manage prediction markets – don’t ask me how that one works. Of course many of these initiatives will fail, but lots won’t.
An unending variety of micro – and some macro – markets are going to be created in this new paradigm, where value percolates within each market as network participation grows, and growth will occur in part because the distribution of value can be far more participatory than how things currently work. Equity-based crypto applications generate value organically through expanding participation in countless niche markets created by people engaged in real activities. If a network grows, so does its token.
To appreciate the transformational nature of this new form of equity-based money creation, it’s helpful to distinguish value from money. At its essence, value reflects what people want. Value is produced by the socially beneficial efforts and activities people expend as they interact to get what they want. Money is just a technology that facilitates the exchange of value. The current centralized money creation system impedes value exchange relative to the new model, which brings a more decentralized technology of money into closer proximity with granular value creation.
A third big monetary transformation is a shift from discretionary to nondiscretionary money transfer. In our current model, money ultimately moves at the discretion of financial and governmental intermediaries. Some First World citizens say, so what? Our ability to transfer funds isn’t adversely affected, so why should we care? But remember, this is a global phenomenon, and for many people, these institutions don’t work very well, and in some places they don’t exist. So the ability of crypto to enable disintermediated peer-to-peer exchange really matters.
There’s another discretionary dimension to our monetary relationships: because money transfers are often separated from other aspects of our contractual obligations, we can decide not to perform, so we require elaborate intermediaries to adjudicate and enforce disputes. Ethereum and other utility coins enable compact computer programs to run on blockchains and embed value within these smart contracts; their execution can trigger native value transfer without external involvement. This is a really big deal. For the first time in history, we’re witnessing a model that moves money without discretionary third parties and within pre-agreed and automated contracts.
This is a David and Goliath story with the same inevitable ending. These innovations are going to change how we create and transfer money and value. But they sit atop the most profound transformation – the new way Satoshi found to store it.
Show Me the Money
In the long arc of human history, a cornerstone of social progress has been our capacity to store value. Transitioning from nomadic to sedentary life enabled us to store it physically in tilled fields, granaries and water management systems. As societies became more mobile and trade expanded, we embedded value in our money. In modern times we institutionalize value storage through copyright, patent and IP protection laws. And in those times and places that we can’t substantially protect it, the consequences are clear: the large scale destruction of value and social progress. To store value is to protect it.
The Information Age has enabled us to represent value digitally, but it also poses new challenges to the storage and protection of data, necessitating jumbles of centrally managed databases and firewalls to ring fence it. When these systems are compromised, our hacked data loses much of its value.
But then along came Satoshi and his breakthrough – a decentralized process for reaching agreement on the state of a distributed database.
Previous attempts to create peer-to-peer digital money linked cryptographic innovation to value transfer, so solved the double spend problem. But centralization meant vulnerability to external attacks capable of shutting down the system. These initiatives saw themselves primarily as payment systems, so some emulated the old model by linking their units of exchange to external sources of value.
Satoshi created an open source software model encompassing three ingenious breakthroughs: 1) it produced cryptographically linked blocks of information that would become increasingly secure as more were added to the blockchain; 2) it replaced a central organization with a decentralized process for reaching agreement on the contents of each block; and 3) it used a diminishing coin-issuance algorithm that would ensure digital scarcity.
The first innovation meant that past information couldn’t be altered; the second that no central organization would be available to attack; and the third that value would accrue within the network rather than via an external source. Nick Szabo put it simply: “Typical computers are computational Etch A Sketch, while blockchains are computational amber.”
Satoshi enabled transferable digital scarcity impervious to censorship. When it comes to what we value most, that is no small thing – it is everything. Future historians will recognize this innovation as a seminal advancement of the Information Age. Understanding Bitcoin is easier when we focus on the underlying problem it solves rather than its technical details. That problem was how to reliably store, protect and move digital value without recourse to trusted third parties.
Satoshi applied his innovation to the killer app – peer-to-peer money. But we can apply it to storing and transferring any form of value that can be expressed digitally – identity, ownership, a broad range of IP rights – and we will. This revolution is just getting started.
It is helpful to think of the overall ecosystem as an extended network of currencies, utilities and applications that are much more complementary than competitive. New coin initiatives facilitate onboarding and expand the overall ecosystem, while new technologies such as decentralized exchanges and atomic swaps will enable cheap, direct, anonymous and granular currency flows within it. This network will continue to accumulate value because of its unparalleled potential to scale and the intellectual horsepower building out what will be a hyper-efficient online transaction infrastructure relative to the existing model. It will do so bottom-up as individuals engage in growing markets of tokenized activities. It will do so middle-out as organizations use crypto-embedded smart contracts to manage their economic relationships. Anchoring this ecosystem, Bitcoin will provide a unique global backstop as the world’s most secure decentralized and uncensorable store of digital value.
While still small at less than half a trillion dollars within a vast sea measured in the hundreds of trillions, this new system is now too big to die. Companies are making substantial infrastructure investments, institutions are trading futures, and regulators are writing laws and collecting taxes; it’s not going away.
So how big will it become? The mainstream perspective is beginning to think of crypto as a niche speculative asset class: Bitcoin as Gold 2.0, potentially useful as an uncorrelated investment hedge along with a few altcoins. But crypto is going to get much bigger and will eventually become the world’s dominant form of creating, transferring and storing value. How long this will take is anybody’s guess: mine is that by mid century, infrastructure inversion – whereby the new model’s infrastructure first sits on top of but eventually replaces its predecessor (see Andreas for an excellent explanation:
– will result in fiat currencies substantially relegated to niche classes of bonds and similar stranded assets.There’s an old management adage applied to “faster, cheaper, better” – you can only have two, but not three. When big, transformational technological innovations occasionally come along and deliver all three – kerosene to electricity, horses to cars, fiat money to cryptocurrency – we should pay attention.
Modern banking began in the northern Italian Renaissance city-states as traders exchanged hundreds of independently issued currencies while sitting at makeshift tables in informal outdoor markets. “Bank” derives from the Italian word for “bench”. The ongoing pursuit of ever-greater efficiencies meant an eventual consolidation of currencies and banking. Today, the same inevitable forces of technological innovation and economic efficiency are bringing us full circle as decentralized networks of digital exchange begin to supersede the old system.
Leonardo da Vinci likely frequented early money exchanges. Perhaps he sat at one of those benches to convert his commission on the Salvator Mundi. In 1958, the painting – thought to be a copy of the lost original – was auctioned for £45, and then again in 2005 at about $10,000. In 2013 it was purchased for $75 million and shortly thereafter for $127 million. In November 2017 it became the world’s most expensive work of art of all time when auctioned at Christie’s for $450 million. Some still believe it’s a fake. Bitcoin and the rediscovery of the Salvator Mundi share some lovely parallels. I suspect Leonardo and Satoshi would enjoy each other’s stories. So one last question: What’s Bitcoin worth?
I would like to express my sincere thanks to publishing industry guru Janet Angelo (https://indiegopublishing.com) for her constant encouragement, crisp editing, and practical insights into how publishing works in a digital world.
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