Monday, November 23, 2020

Stablecoins as a route into Venezuela?

Over the last decade, few nations have experienced as much monetary and payments chaos as Venezuela has. Fans of bitcoin, Dash, and other cryptocurrencies have all tried to help by introducing Venezuelans to their preferred coin. But even with Venezuela's bolivar currency entering hyperinflation stage, cryptocurrency adoption never happened

Circle, a U.S.-based company that issues the stablecoin USDC, is the latest to join the Venezuelan crusade. Last week it belatedly announced that it had partnered with the opposition Guaidó government  to deliver financial aid to Venezuelan health care workers. Here is Circle's CEO, Jeremy Allaire:

In its blog post, Circle says it helped to get million of dollars to Venezuelans by leveraging "the power of bypass the controls imposed by Maduro over the domestic financial system." Allaire suggests that in his tweet that stablecoins have now become a "tool of US foreign policy."

Did stablecoins play a vital role? I'm skeptical. If you pick through the transaction chain carefully, USDC's role was trivial. Nor does the wider claim made in Circle's post, that stablecoins have somehow arrived on the world stage as a foundational infrastructure in the future of the international monetary system, hold much water. 

For those who don't know, stablecoins are sort of like bank accounts with U.S. dollars in them, the difference being that they are hosted on a blockchain like Ethereum. Yes, they are a new and rapidly growing segment of the payments ecosystem. But if any payments instrument has helped Venezuela over the last few years, it's not stablecoins. Rather, it's the twin combination of old fashioned U.S. paper money and regular U.S. dollar bank accounts. More on that later.

A bit of background. The U.S. has declared the Maduro-led government to be illegitimate and thrown its support behind the Venezuelan opposition government led by Juan Guaidó. In 2019, U.S. officials cut off Maduro's access to Venezuela's U.S.-based bank accounts and put Guaidó in control. To give credence to the Guaidó opposition, an idea was hatched to take $19 million from these U.S. bank accounts and somehow airdrop it into the pockets of poorly paid Venezuelan health care workers. Each health care worker was to get $100 a month for three months.

Airtm, a money services business that offers U.S. dollar accounts, was recruited by the U.S. government to be the distribution agent for this $19 million airdrop. Airtm is a traditional e-wallet, much like PayPal or Skrill. People can get an Airtm account after going through a know-your-customer process, submitting ID and such. Having been approved, they can then transfer funds between their bank account or other wallets like Neteller. The money can also be spent using a virtual MasterCard debit card.

The first step in the Venezuelan campaign: move Guaidó's $19 million from his U.S. bank account to Airtm's U.S. bank account so that Airtm could distribute the funds. 

This is an easy step, right? It's just a US-to-US transfer, after all. Guaidó's bank simply initiates a wire transfer via Fedwire, the Federal Reserve's large value payment system, upon which the $19 million arrives in Airtm's U.S. bank account. It shouldn't take more than a few minutes. With that step out of the way, Airtm can now create $19 million in Airtm deposits for distribution to Venezuelan health care workers.

Instead, USDC stablecoins were substituted (either fully or partially) for Fedwire. Guaidó's bank bought $19 million in USDC stablecoin tokens (or maybe just a portion of that), and then sent these tokens to Airtm. Now Airtm could create $19 million in Airtm deposits for distribution.

By inserting itself into the US-leg of a transaction, Circle gets to make the claim that it was part of a stirring effort to bypass "censorship by the Maduro regime." But really, all it did was take the place of a very plain vanilla Federal Reserve transaction, one that never faced any obstacle anyways. The tough part isn't state-side, it's getting the fund to Venezuelans, In effect, USDC's role in this chain of transactions is superfluous (a point that Cas Piancey also makes here). Mind you, it certainly does make for good marketing.

Once Airtm had received the $19 million (via Fedwire or USDC), it could now embark on the tricky Venezuelan leg of the campaign. This involved signing up Venezuelan health care workers for Airtm accounts and then crediting their new account with U.S. dollar balances. (Nope, it didn't credit the workers with USDC. Airtm created internal database entries representing U.S. dollars for distribution to health care workers). From the sounds of it, this process didn't always go smoothly. The Maduro regime blocked Airtm's website, which meant that Venezuelans would have to use a VPN to connect. After talking to a number of medical workers, José Rafael Peña Gholam described the payouts as "somewhat chaotic."

I suspect this is why PayPal, which has much wider usage in Venezuela, probably opted out of the airdrop and let Airtm conduct it. PayPal didn't want to put its existing business at risk of being sanctioned or blocked by the Maduro government.  

If Airtm is to be the deployment vehicle for future Guaidó airdrops, it will have to refine its process. This isn't Airtm's first attempt to airdrop funds into Venezuela. Leigh Cuen chronicled an earlier attempt by Airtm to airdrop cryptocurrencies to Venezuelans for charity purposes. Only 57% of recipients ever engaged with the funds.

Now for my second criticism. The Circle press release describes Airtm's U.S. dollar accounts, or AirUSD, as a stablecoin-backed dollar token. And thus it can boldly claim that thanks to the combination of AirUSD and USDC, the world has just witnessed a "global first with use of stablecoins for foreign aid."

But Airtm's so-called stablecoins are not stablecoins. That is, U.S. dollars held at Airtm are not U.S. dollars held on a blockchain. Rather, they are very much like U.S. dollars held at PayPal or Skrill or Neteller. You know, good ol' fashioned centralized money. So for each Venezuelan that did succeed in connecting to Airtm to claim their dollars, they were getting non-blockchainy stuff.

So much for a "historic moment" in which "economic and political leaders have turned to stablecoins." USDC played a bit role, and AirUSD aren't stablecoins. 

That being said, stablecoins like USDC could be part of future relief programs. We'll have to see. One problem with using stablecoins for these sorts of airdrops is the massive customer due diligence requirements. The airdrop required vetting 60,000 Venezuelans to determine that each one was indeed who they claimed to be. But compared to e-wallets like PayPal and Airtm, stablecoins issuers have incredibly lax know-your-customer standards. Circle probably just doesn't have the staff to pull a carefully targeted airdrop off.

For now, no payments product has been more helpful for Venezuelans than classic U.S. paper dollars. So much U.S. currency has flooded into the country that it has effectively dollarized. An honourable mention goes to Arizona-based Zelle, a network that allows for instant transfers between U.S. bank accounts. Venezuelan retailers have adopted Zelle as an electronic payments method, although this surely goes against Zelle's terms of service:

I've written about Zelle usage in Venezuela before. Just as there is nothing blockchainy about paper dollars, there is nothing blockchainy about Zelle either.

Thursday, November 19, 2020

Programmable money isn't new, we've had it for ages

I often hear that modern money just isn't up to snuff because it isn't programmable. That's why we need Ethereum, stablecoins, and other exotica like central bank digital currencies. These platforms will provide the world with much needed programmability.

Stablecoin issuer Circle is one of the bigger marketers of this idea, but it's far from being the only one: 

"While value exchange may be the initial killer app, it’s the programmability of digital money that will ultimately usher in business model breakthroughs." [link]

I disagree. We've had programmable money for ages. Let me offer a quick guide.

Microsoft doesn't have a bunch of employees who sit at desks and manually sign paper checks all day. No, it uses software that automates payments to its tens of thousands of suppliers, employees, contractors, investors, and the tax authorities. Every day this software relays payment instructions to the Federal Reserve's clearing house for processing. The Fed doesn't rely on physical labour either. FedACH, as it is known, is an automated clearing house. It uses software to automatically clear all incoming payments.

By the way, ACH go back to the 1970s. If Microsoft's software-based payments and FedACH aren't programmability, I don't know what is.

Another example of programmable money is the recent Korean COVID-19 stimulus payments. Koreans had the choice to receive either a prepaid debit card, credit card points, or gift cards. Since the idea was to help local businesses, the prepaid cards and card points were programmed with certain limitations. To begin with, the funds expired by August 2020 in order to discourage hoarding. Secondly, money could only be spent at qualifying shops. That meant no online shopping, no purchases at large-scale supermarkets or entertainment places, and the money had to be spent in the district where the recipient lived.

Programming COVID relief didn't require anything fancy like Ethereum or stablecoins. The card networks make it easy to do this sort of thing.

We scan see another example of card programmability in Australia with its controversial cashless welfare card (or "Indue" card), currently in pilot mode. Once government benefits are deposited onto the Indue Visa debit card, the money is "quarantined" such that it can't be withdrawn as cash from automatic teller machines or used to shop at merchants that sell restricted items like alcohol, tobacco or gambling products. The idea, presumably, is that low-income people can’t control their spending, and thus their money has to be programmed to overcome their shortcomings.

Source: The Gaurdian

Again, this didn’t require Ethereum or stablecoins or a Australian digital currency.

Automated escrow is another example of programmable money. Using Ethereum’s programming language, Solidity, one can create an escrow contract that locks up some Ether until certain conditions are met and a payout is made. But Ethereum isn't the only platform that can do automated escrow., for instance, lets users code up escrow arrangements using its application programming interfaces, or APIs. stores the dollars and then automatically pays out once an event has been triggered, say a used car inspection has been passed. 

No fancy blockchains here.

Speaking of APIs, the Europeans are probably the leaders in bank account programmability. Thanks to the Second Payment Services Directive, or PSD2, European banks are now obligated to grant fintechs access to customer accounts via APIs. (Some people refer to this as “Open Banking.”)  This provides fintechs not only with the ability to peer into what those bank accounts hold, but also the ability to program those accounts to make transfers and such. And thus they can provide the public with new financial tools, built on top of banks.

Monzo, a UK-based digital bank, provides a taste of what this sort of programmability might offer. In 2018, it introduced functionality that allowed its customers to connect their bank account to a range of other web services and create automated rules or ‘recipes’. Such recipes could allow customers to use data from, say, a weather application to trigger a change in their Monzo account, say to move money to a savings pot.

Even my plain vanilla Canadian bank account grants me some basic programmability. I can set up my Tangerine bank account to pull money from my Royal Bank account, and choose how often this will happen (daily, weekly, monthly), and select how long these periodic transfers are to last. Sure, it's limited. There are no if-than statements. But most regular folks probably don't require much programmability. And banks may not be too keen to provide it to us anyways. We'd probably mess it up, and then they'd have to spend time and money cleaning up our mistakes.

So to repeat, programmability is already here. Has been for a while.

If anything, public blockchains like Ethereum offer a different sort of programmability. Rather than the code being hosted by a commercial or government entity, it is hosted on a neutral, decentralized platform. 

There is a niche for this sort of programmability. Jack may not trust the automation provided by a payments company or a central bank utility. He could be cut off, say because they deem him to be a risky customer, or maybe because he is doing illegal things. But Ethereum isn’t controlled by anyone, so Jack can be sure that the automation provided by Ethereum won’t suddenly stop.

P.S.: Antony Lewis has also been thinking on this topic. Head on over.

Tuesday, November 10, 2020

Why are so many Americans content to be unbanked?


Here's a surprising statistic: 5.4% of American households didn't have a bank account in 2019. That's 7.1 million households. Oddly, unbanked households seem fine with this state of affairs. More than 56% of unbanked households say they are "not at all interested" in owning a bank account.  

For us non-Americans looking in, these numbers are very strange. I live in Canada, and bank accounts are pretty much universal here. If you don't have one, you'd probably be quite interested in getting one. Ditto for other developed nations such as Australia, Japan, Sweden, France, and Germany. The banked rate in these countries lies between 99%-100%, much higher than the U.S.'s 94.4%.

In this post I want to try and figure out why there are so many U.S. households without bank accounts, and why so many of them seem uninterested in having one. Lucky for us, the Federal Deposit Insurance Corporation's (FDIC) biannual national survey of bank account usage provides a ton of data on the topic.

Two major reasons for being unbanked

According to FDIC, the most popular reason cited by unbanked households for not having a bank account is don't have enough money to meet minimum balance requirements. 48.9% of all unbanked respondents chose this option. What this indicates is that banks are setting standards that many Americans simply cannot meet, particularly poor households (FDIC data shows that 23.3% of families with income below $15,000 are unbanked compared to an American average of 5.4%). Perhaps the unbanked are "not at all interested" in getting an account because they're tired of being rebuffed.

The second most popular reason that the unbanked give for not having a bank account is don't trust banks at 36.3%. The 2019 survey doesn't provide much colour on what this means. Do unbanked households not trust banks because of surprise fees? Are there cultural explanations?

Why Americans don't trust banks

Luckily, there is a bit more detail on trust in FDIC's 2011 survey. When FDIC statisticians queried those who said they didn't trust banks for follow up reasons, 60% said that they simply didn't trust banks, 20% said banks do not feel welcoming, and another 4% said there were language barriers. This clarifies things a bit, but again the vague notion of trust dominates.

In 2016 FDIC conducted a series of interviews with bank, nonprofits, counselors and consumers in an effort to better understand the lack of trust among the unbanked. Describing the barriers to trust, a bank executive mentioned "a narrative that is built up within [their] mind." Another executive listed a reputation for "trying to pull one on over me." One counselor brought up "uncertainty about the security of funds" and another said "they’re often paranoid about [banks] ... They just think that the bank is a bad institution, and they want to stay away from it... Often, it’s just a lack of knowledge or just like they don’t understand it, so they just stay away."

This last comment is especially interesting. Do people not trust banks for the same reason that they don't trust vaccines, the veracity of the moon landing, or accounts of Elvis's death? Banking, after all, is complex. It's a bit of a black box. And so the public writes its own mythologies about banks. It may be that some of these mythologies prevent people from getting a bank account.

Don't trust vaccines, don't trust banks

For the rest of this post, let's assume that there is a large portion of the population that is unbanked for economic reasons, and another portion that is unbanked for mythological reasons. As banks get better at serving people and the economy improves, the population that is unbanked for economic reasons should contract. But we'd expect the population that is unbanked out of superstition to remain stable over time. Bank haters are always going to hate, even if the economy perks up.

Does FDIC data confirm this hypothesis?

I think it does. The U.S. economy has steadily improved since 2011. At the same time, banks are getting more accessible. According to Bankrate, a company that gathers data about consumer finance products, minimum balance requirements on checking accounts are at six-year lows. Half of all checking accounts are considered free, the highest percentage since 2010. 

And so we'd expect many who were unbanked due to concerns over minimum balance requirements to now have bank accounts. And that is what has happened. Since 2013, the proportion of unbanked households reporting that they are unbanked because of minimum balance-related problems has fallen, as indicated in the chart below. Meanwhile, the proportion who are unbanked because they don't trust banks has risen.

We'd expect bank account openings to be especially marked among poor Americans, since they are more likely to be constrained by minimum balance requirements than middle-class Americans. And that's what FDIC data shows. The unbanked rate for those with less than $15,000 in annual income has improved from 28.2% in 2011 to 23.3% in 2019. The unbanked rates of other vulnerable demographics have improved as well:

However, the unbanked rate for households that earn $30,000 to $50,000 has hardly budged (see chart below). It was 4.9% in 2011. In 2019 it was 4.6%. (That's around 1.1 million households in the $30k-$50k bracket that don't have account!) This same invariance over time characterizes households in the $50,000-$75,000 income bracket. Around 1.7% of American households in this category don't have a bank account, the same level as 2013.

What explains the historical stability of unbanked rates among the richer unbanked? Given higher incomes, concerns about minimum account balance requirements may be less important than concerns about trust. And thus the unbanked rate among these groups is unlikely to be affected by improvements in the broader economy.

America's terminally large population of unbanked

Perhaps one day all American households that were unbanked for economic reasons will have bank accounts. The only remaining unbanked would be those households who are philosophically unbanked. Subsequent improvements in the economy or bank accessibility would have no affect on their banking decisions. 

How big might this core group of bank skeptics be?

Say that bank skepticism lies in the same bucket as Elvis belief and moon landing conspiracies. We know that belief in conspiracy theories is not equally distributed across income groups. Low-income people are more likely to believe that there is some evil actor pulling on the strings, and so they may be more prone to be bank skeptics. We already know that the unbanked rate among households who make $30,000 to $50,000 has stabilized at around 5%. It hovers around 1.5 to 2% among households making $50,000 to $75,000. For those earning less than $15,000, will the unbanked rate eventually stabilize at 7.5%? 10%?

So while America's overall banked rate will continue to improve from 94.4%, there may be a good chance that it peaks-out at some permanent plateau significantly below 100%. In Canada the banked rate lies somewhere between 99% and 100%. I'd guess that the US peaks below that, say at 97% or 98%. Canadians like a good conspiracy theory, but we are much less conspiracy theory-prone than Americans. If a culture of anti-bank mythologizing draws from the same source as conspiracy theorizing, we can assume that Americans are more likely to be prone to bank skepticism than Canadians.      

What does all this have to say about policy surrounding the unbanked? 

Postal banking vs Walmart cards vs FedAccounts

The plight of the unbanked has been used to justify all sorts of government fixes: a Federal Reserve-issued digital currency, FedAccounts, postal banking, a USPS prepaid card, and a public Venmo. At the core of all these projects is the idea that unbanked Americans are unbanked because of excessive fees and high minimum account balance requirements. And that theory may be right, to a degree.

But none of these projects tries to account for people who may be unbanked for the same reason they don't want to be vaccinated, or because they believe in QAnon. One of the motivating ideas behind FedAccounts, for instance, is to have the Federal Reserve provide a public option for the unbanked. But it could be that folks who are philosophically opposed to banks will also be intolerant of an account at the FED. God know the U.S. is rife with central banking conspiracy theories.

This may be one reason why places like Walmart are the best option for reaching the unbanked. Walmart isn't a bank, so it can attract bank skeptics. And it has the financial heft to offer those on a low income a set of well-priced banking products via its Walmart MoneyCenters (which offer check cashing, bill pay, and money orders) and its prepaid debit card, the MoneyCard. Many of the 5.4% of the population that FDIC categorizes as unbanked are happily getting financial services at Walmart. They aren't really unbanked; they are differently banked.

If not the Fed, perhaps the United States Postal Office is the right institution for reaching the philosophically unbanked. The USPS is not a bank. And according to Morning Consult, the post office is the most trusted brand in America. When asked how much do you trust each brand to do what is right? 42% of Americans responded that they trusted the USPS "a lot." And so people who bristle at the idea of keeping a Chase debit card in their wallet may very well be proud owners of a USPS card.

P.S.: In a recent article for AIER Sound Money Project, I wrote about postal banking. But rather than advocating branch banking I suggested a USPS prepaid debit card/mobile app. Branch banking is in long-term decline. Below is a chart showing how branch visits have fallen across all demographics from 2017 to 2019:

Much of this decline in branch visits is due to the huge popularity of mobile banking. Keep in mind, however, that low income people are more likely to rely on branch visits for their primary method of accessing bank services than high income people, as the chart below illustrates:

Even so, I question the wisdom of investing billions of dollars to convert 30,000+ USPS branches into full service banks when a single digital bank with an app & debit card will do. Yes, USPS branch banks would have been useful in 2017 or 2019, especially for low-income people and the elderly. But branch banking is a long-term investment, one with a payback period measured in decades. And I suspect that by 2025 or 2027 it will be uncommon for people of all income groups to visit their branch for teller services.

Monday, October 26, 2020

How would Tony Soprano cope with a pandemic?

When The Sopranos was running I never watched it, but during the pandemic I finally had some extra time to give it a try. It was excellent. As I watched I kept wondering how Tony Soprano would have tried to pull his business through COVID-19. Below I've adapted two scenes from Season 4, Episode 1 to incorporate the problems a mob family might be experiencing in 2020. 

Before you read the adaptation, you may want to check out my blog post How the pandemic has clogged the global economy with paper currency. In short, there has been a huge buildup in cash in Europe, U.S., Canada, UK, Australia, Norway, and more. My hypothesis is that with money laundering avenues (i.e. casinos and restaurants) closing due to virus fears and lockdowns, criminals have no choice but to hoard huge amounts of incoming banknotes. And this has shown up in national banknote statistics.

This episode of the Sopranos is particularly ripe for adaptation because it is full of references to the economic difficulties experienced by the Soprano businesses during the 2001-02 recession.


Why's the Money Building Up?
Adapted from "For All Debts Public and Private"
Season 4, Episode 1 of The Sopranos (which aired in September 2002)
(Original script)


Tony Soprano plants a fifth scoop of ice cream in a bowl, adds Redi-Whip, M&M's. He takes his bowl to the den, jacks the volume on Rio Bravo, reclines and eats blissfully. Carmela Soprano, his wife, appears. She's wearing a mask. Stands there. He looks over.

TONY: You want some? Take that mask off. You're home now.
CARMELA: Can I talk to you a minute?
***He contains a sigh, nods. She sits, takes remote. Takes mask off, puts in purse.***
CARMELA: Can we turn this off?
TONY: Just turn it down.
CARMELA: (mutes it, then) I'm worried, Tony. About money.
TONY: So you're getting a little less allowance in your bank account. I'm giving you more cash instead.
CARMELA: Tony, our closet is filled with bills.
TONY: I told you, it's temporary. Just stop using your card.
CARMELA: And Meadow? 
TONY: What about her?
CARMELA: Her college only takes check.
TONY: Columbia is paid up till spring. After that, maybe I'll sell AJ.'s Xterra. It's this virus, it's slowing all the cash down.
CARMELA: It's not just that -- I'm worried about you. And about the future. About the kids and me if something happens to you.
TONY: I don't provide for you?
CARMELA: I saw Angie Bonpensiero today. She was handing out free Polish sausage at the super market. In the middle of a pandemic.
TONY: Don't start with that. I supported her long enough. You're so worried about money.
CARMELA: Who is going to support your children? And me? If god forbid something happens to you. Is Sil going to support me? Paulie? That's frightening.
TONY: (conversation over) You'll be taken care of.
***His eyes have drifted occasionally to the screen. She zaps remote; picture dies. He drops his spoon, lowers his voice.***
TONY: You're set in perpetuity. There's money in overseas accounts.
CARMELA: I don't have the serial numbers. Why?
TONY: You'll have them when the time comes. Not now. For your own benefit. So you're not an accomplice.
***She sighs, rubs her face.***
CARMELA: I'm talking about some simple estate planning, Tony. That's all. My cousin Brian Camaratta has helped a lot of people to set up living trusts for their kids, start asset allocation, wealth preservation...
TONY: I got to spell it out for you? We can't move all the cash we're takin in. The lockdown means our fronts are closed.
CARMELA: What about your consulting fees from Barone Sanitation? We file a tax return to justify the house, the cars, your boat. The virus hasn't slowed down the garbage, has it? We could be putting more cash through there and then putting some aside to start a portfolio.
TONY: Stocks? Heh-heh. You have to be high up in the corporate structure to make that shit work for you. We don't have those Senate-type connections. Besides, it's all going to crash when Trump loses.
CARMELA: Bonds then. Or these things called SPACs Brian told me about --
TONY: Bonds. Where's the capital for that?
CARMELA: In the Cayman's. Or all the cash in our closet -- wherever you put it at zero growth.
TONY: That money stays where it is. With this virus shit going on?
CARMELA: You always have an excuse.
TONY: The cash stays in this house. At least until we figure out how to move it again.
***Carmela stands angrily, heads out. Tony is angry and worried.***


Tony, Silvio Dante get out the rear of the car. Both take off their masks. Christopher Moltisanti gets out from driver seat. He keeps his mask and rubber gloves on.

A ring of chairs has been arranged at the far end of the Bada Bing's parking lot. The Soprano family captains are chatting: PAULIE, RALPH CIFARETTO, ALBERT BARESE, RAY CURTO, and CARLO GERVASI. Tony's appearance dampens the chit-chat. Uncertain, they step to him for the ritual kiss, but he holds up his hands. They back away and sit. Silence settles. Some coughing.

TONY: I want to know why this family's cash isn't moving.
TONY: Why's the fucking money building up?
***No answer; long faces. He surveys them.***
TONY: You're supposed to be the best. That's why you got the top tier positions. (Voice rising). All of you, everyone of you, need to go to your people on the street, and crack fuckin' heads!!
***Silence. He focuses on Albert.***
TONY: The guy -- we talked about this -- over in the other place, he had a banker at JP Morgan willing to take our stuff -- what the fuck happened to that?
ALBERT: It petered out.
TONY: It petered out.
ALBERT: It died on the vine.
TONY: It died on the vine?
ALBERT: It died on the vine. He got scared, the guy. Something about files. Finsin?
TONY: Are you all hearing this shit? Nobody knows what the fuck I'm talking about?
PAULIE: We hear you, T.
RALPH: If I can just say, Ton' - I was talking to Johnny Sack in New York, and he said over there too, there's --
TONY: I don't want to hear about fuckin' New York. This is here!
***Tony's voice breaks with emotion. Almost choking up.***
TONY: My uncle, the boss of this family, is on trial for his life. And what's being passed up to his kick is a fuckin' disgrace! You know how much lawyers cost. Major RICO like his? My house is full of cash, and here I am about to sell my boat! I shouldn't have to be coming here hat in hind, reminding you of your duty to that man!
RALPH: Ton', how are we supposed to clean the cash? No one's coming to the Bing no more. The Crazy Horse neither. They're afraid of the virus. We can't launder it all through Satriale's --
TONY: Don't tell me about the fucking virus! (to Silvio) Break it down for them, the two businesses that are traditionally recession-proof since time immemorial.
SILVIO: Certain aspects of show business and our thing.
***Tony lets it sink in.***
RALPH: (under his breath) Yeah, but this ain't no normal recession.
TONY: That's it. I got nothing else to say. Frankly, I'm depressed and ashamed.
***Terrible silence. He stares at the floor. They slowly file out. When everybody's gone except Paulie--***
PAULIE: I hear you T. 

The original videos for these two scenes are here:

Thursday, October 22, 2020

A very very simple explanation of monetary policy

Scale & weights | Aylmer, Quebec | Canadian Museum of History

This post is for my dad, who says he doesn't understand my writing but remains a loyal reader nonetheless.

I am going to try and explain one of the most important things that central banks do: monetary policy. We often see news clips in which bespectacled central bankers discuss their "inflation targets," or tell us that they are ratcheting interest rates up or down, or that they are engaging in "quantitative easing". The catch-all term that we use to describe what they are doing is monetary policy. But what does this mean? What is monetary policy?

Central banking is confusing, so here's what I propose. Let's find something simple, something we all intuitively understand. And then I'll show why monetary policy is like that simple thing. Hopefully that demystifies what is going on. I'm going to use a Canadian example, but it applies just as well to any nation.

K50, K75, and K106

People take their national system of weights & measures for granted. But we simply couldn't function as a society without a standard way of measuring things: kilograms, metres, seconds, or degrees Celsius.

A nation's system of weights & measures doesn't just manage itself. Take the kilogram. The Canadian Federal government had to push and prod for years to get the kg into popular usage. Canadians had historically relied on the imperial measurement system with its strange mix of ounces, drams and grains. In 1970, Pierre Trudeau passed the Weights and Measures Act, giving birth to the Metric Commission and its mandate to get Canada officially onto the metric system. Fifty years later we Canadians all reckon in terms of kilograms, grams, and a raft of other metric measures. (Ok, not entirely, I admit. I cook in Fahrenheit, not Celsius, and weigh myself in pounds, not kg. But I definitely don't drive in miles.)

The Canadian government's job didn't stop once the kilogram was widely accepted. It has continued to manage the kilogram ever since. The main thrust of this ongoing effort is to ensure that 1 kilogram is 1 kilogram all across Canada. No agency is more involved in this harmonization effort than the National Research Council of Canada, or NRC, the Federal government's research and development lab.

National Research Council building in Ottawa

The NRC's headquarters in Ottawa houses three individual physical kilogram weights. Known as K50, K75, and K106, these specimens represent Canada's official kilograms. Because Canadian manufacturers require incredible precision, they can periodically visit the NRC and calibrate their weights against K50, K75, or K106 to ensure accuracy. If the manufacturer's weights diverge by even a few micrograms from the NRC's official weights, they will have to be replaced with more accurate ones.

And so the definition of the kilogram diffuses across Canada, first from the National Research Council, then to industry, and finally to Canadians who consume carefully weighed products.  

The National Research Council's K50, K74, and K106 are in turn copies of the most important kilogram weight in the world, the International Prototype Kilogram. Manufactured in 1889, the IPK is stored at in the International Bureau of Weights and Measures (BIPM) in France. Scientists at the National Research Council used to periodically hop on a plane with K74 and fly to France to cross-check it against the IPK.

In 2018, the world stopped using physical artifacts to define the kilogram. The problem with using actual objects like the IPK and K50 is that over time they suffer from slight degradation. K50, for instance, began to display fluctuations of a few micrograms due to "tiny cracks in the surface which adsorbed and released water from the air." And so our standard for weight suffered. 

We now rely on a much superior non-physical standard for the kilogram, one that is defined in terms of Planck's constant. But even though the definition of the kilogram has changed, the National Research Council is still key in ensuring that the kilograms Canadians use are good kilograms.

The beginning of the long dash...

The National Research Council also maintains Canada's official time. Cesium atomic clocks are the world's most accurate method for recording the passage of time, of which the NRC's time standards office in Ottawa has several. The NRC broadcasts official time on the web, via short wave radio band, and by telephone. Faithful CBC radio listeners will all be familiar with the NRC's habitual: "The beginning of the long dash indicates exactly one o'clock..." For $7,500 per year, industrial customers can even get authenticated access to NRC time servers.

An NRC control room containing systems used to disseminate official time to the public, including the telephone talking clock, the CBC daily time broadcasts, and computer time clocks.

Precise timing is particularly important to the Canadian financial industry. Take the Investment Industry Regulatory Organization of Canada, or IIROC, which regulates the Toronto Stock Exchange and all the firms that deal on it. (IIROC is sort of like Canada's version of the SEC). To ensure that all market participants are on the same rhythm, IIROC sets its internal clock off of the NRC's clocks. All firms that trade in Canadian securities must in turn synchronize their clocks to IIROC's clock. And thus the NRC and its atomic clocks impose order on the chaos of the stock market. 

kg, s, and $

Now let's bring this back to monetary policy. 

The main suggestion in this article is that readers put the National Research Council and the Bank of Canada in the same bucket. Both institutions are responsible for upholding Canada's system of weights & measures. 

But whereas the NRC is in charge of managing physical measures, the Bank of Canada is responsible for managing the nation's key unit of economic measure, the $. So when you see news about the Bank of Canada and the dollar, and you start to get confused, consider reframing the news as if it was the National Research Council making policy changes to the way it manages the kilogram. Hopefully that will make the news more relatable.

The dollar is the universal sign we Canadians use to express economic value. It shows up in grocery aisles, at online stores, in our bank statements, and is used in our heads to calculate bills.

But like the kg, the $ must be managed. As I wrote earlier, the NRC originally defined the kilogram in terms of a physical artifact before switching to a non-physical construct. Likewise, a long time ago the Canadian dollar was set at 23.22 grains of gold. But these days the Bank of Canada (much like the NRC) measures the dollar in terms of a theoretical construct, a basket of consumer goods.

What does it mean to measure the dollar in terms of a basket of consumer goods? 

Each month government statisticians canvas store aisles and websites for price data which they use to calculate the cost of purchasing a basket of consumer goods. This data compilation is known as the consumer price index, or CPI. It includes items like groceries, rent, gas, etc. 

In its definition of the dollar, the Bank of Canada promises citizens that the $ unit will be capable of buying the same amount of consumer baskets from one month to the next. (It's a little more complicated than that, but that's for another post).

So then what are interest rates for?

Sometimes the Bank of Canada will make the news because it is increasing or lowering interest rates. What is happening here? Recall that the National Research Council had a number of tools for diffusing official time across Canada, one of which is broadcasting across channels such as the CBC. The Bank of Canada also has tools for diffusing its definition of the dollar across Canada. Interest rates happen to be its favorite tool.

If the dollar falls in value such that it is no longer powerful enough to purchase the appropriate quantity of consumer baskets, the Bank of Canada will increase rates. In theory, this pushes the dollar's purchasing power back up to target. And if the dollar is too powerful and purchases more baskets than the Bank of Canada's target, the Bank will decrease rates. This should nudge the dollar's purchasing power back down.

Updating the definition of $

So when experts discuss standards bodies like the National Research Council or the Bank of Canada, they are likely having two sorts of discussions. Half of their conversations will be about the definitions that these institutions uphold (i.e. should we define the kilogram using K50 or Planck's constant? Should we define the dollar in terms of grains of gold or consumer goods?). And the other half will be about strategies and tools for diffusing the standard across Canada (i.e. should we provide the public with more channels for accessing official time? Should we increase interest rates or keep them unchanged?)

The Bank of Canada is currently in the thick of the first sort of discussion. Every five years the Bank of Canada and the government come to an agreement about how the Bank will define the dollar for the ensuing five years. The next agreement is scheduled to be inked in 2021. 

Some people involved in this discussion want to adopt new definitions for the dollar. Recall that the Bank of Canada already uses consumer basket to define the dollar. One group wants to redefine the dollar in terms of nominal gross domestic product. Others want to add a reference to employment

Much like discussions about whether to redefine the kilogram in terms of Planck's law, this is a complicated debate, one that non-experts cannot easily access. But whatever the decision, you can be sure it will have implications for all Canadians. After all, the $ is a measure that each on of us uses on a daily basis.

Sunday, October 4, 2020

The ECB's digital euro: anonymous or not?


The European Central Bank (ECB) recently published a report that explores the idea of introducing a digital euro for use by the general public. This project is known as a central bank digital currency, or CBDC, and many other countries are exploring the same idea. John Kiff has a useful database here showing how far these projects have progressed.

Will the ECB's new euros-for-all be relatively open and anonymous like cash? Or will they require ID and permission like a bank account?

In short, the report says that anonymity may have to be "ruled out." It says that regulations do not allow anonymity in electronic payments, and the ECB must comply with regulations. I quote the passage below:
"While [anonymity] is currently the case for banknotes and coins, regulations do not allow anonymity in electronic payments and the digital euro must in principle comply with such regulations (Requirement 10)."
But I'm pretty sure the report is wrong on this. EU regulations do allow for anonymity in electronic payments. The Fifth EU Anti-Money Laundering Directive (AML5) exempts issuers of e-money/prepaid cards from collecting customer information as long as long as fixed monetary thresholds aren't exceeded. Yes, these exemptions are very small:

Source: Paytechlaw

So if the ECB believes that it must comply with existing regulation for electronic payments then surely a digital euro falls under e-money law, and thus it can have some anonymity. (Jerry Brito has pushed back on the first assumption, asking why a CBDC can't just occupy the same legal framework that has already been created for banknotes.)

By the way, the U.S. and Canada also provide such exemptions. That's why people can walk into a pharmacy and get a $200 Vanilla prepaid debit card without showing any ID and, say, buy food online for delivery. Or to make an anonymous donation.

Putting aside for the moment the ECB's views about payment anonymity, an interesting question is why democracies allow for small amounts of payments anonymity in the first place. 

On Twitter, we talk a lot about the civil liberties case for anonymity i.e. the right to stay anonymous. But that's not why regulatory exemptions to all-pervasive know your customer obligations exist. They exist because of political appeals to financial inclusion. Disadvantaged people often lack ID. To ensure that these people aren't locked out of the digital payment system, electronic money & prepaid card issuers are allowed to avoid collecting information when the amounts held are small.

So let's bring the conversation back to the ECB's report on a digital euro. Yes, the report did wrongly state that it can't legally provide anonymity. And yes, we can chide the ECB from a civil liberties perspective for not wanting to activate a feature for which it has legal right.

But given my earlier point about financial inclusion, a better critique is this:

The EU has chosen to build an anonymity exemption into payments law in order to ensure that all Europeans, including those without ID, can make digital payments. Why is the ECB choosing to avoid exploiting this exemption? In the very same report, after all, the ECB states that the decline in cash could "exacerbate financial exclusion for the 'unbanked' and for vulnerable groups in society, forcing the central bank to intervene." Isn't the ECB contradicting itself by saying that it wants to help the vulnerable while simultaneously refusing to activate a feature—anonymity—that might help reach this demographic?

Central banks such as the ECB are sailing into dicey political territory by choosing to pursue a new retail payment product. Who are they trying to serve, and why? More controversially, who are they choosing to not serve? Anonymity (or its lack) will be one of the most contentious design elements of a potential digital euro. Let's hope the ECB does a better job discussing this particular issue in the future. In this recent attempt it could be construed to be ducking behind non-exist laws rather than directly engaging with a tricky topic.

By the way, I understand why the ECB might not want to provide anonymity. The exemptions that AML5 permits are tiny. Is it even worth if for the ECB to exploit them? And let's face it, anonymity can attract bad actors. Due to their relative anonymity, iTunes and Steam gift cards are being repurposed by IRS and Social Security scammers as a safe way to extort payments from their victims. And ransomware operators have converged on bitcoin as a safe way to extort ransoms.

Balanced against the dangers of anonymity are peoples' very legitimate concerns about civil liberties and financial inclusion. It's a tough issue. I don't envy the ECB. 

Monday, September 28, 2020

Adopting a clean gold standard


Last month I wrote an article about banning gold mining. It received plenty of feedback from different parts of the internet. Some loved it, some didn't. [ GATA | Boing Boing | Hackernews ]

In this follow-up post, I want to outline a less draconian and more market-friendly alternative to banning gold mining.

But first, let me quickly reprise the original blog post. Unlike coal or oil or wheat, gold never gets consumed. We mostly "use" gold by holding it in vaults where it is kept safe from wear and tear. If people collectively want to hold more of the yellow metal, then a simple rise in price will suffice. After all, if the price of gold jumps to $4000/oz from $2000/oz then the world's gold hoards will have doubled. Voila, demand satisfied.

With price doing all the work of responding to higher societal demand, no new metal from mines is required. That's a good thing. The problem with gold mining is that it causes all sorts of environmental damage. That's why El Salvador, for instance, chose to ban gold mining back in 2017. Extending this ban to the entire globe would reduce all of the damage caused by mining without hurting gold's main consumers: investors, speculators, and hoarders.  

So that was the gist of last month's post.

In today's post I want to outline an alternative way to move in the same direction as a mining ban. The idea would be for a standards board, perhaps the London Bullion Market Association or the International Standards Organization, to create a new industry standard for gold called "clean gold." Unlike "dirty gold," clean gold would not be implicated in the environmentally damaging effects of mining. Environmentally-conscious gold investors would be able to migrate from their dirty gold to clean gold, which would likely trade at a premium to the dirty stuff.

Clean gold would be defined as all gold in existence before a fixed cutoff date, say December 31, 2023. Any gold produced after that would not be granted clean status. It would be dirty.

By committing to only buy and hold clean gold (i.e. the legacy already-mined stuff) a woke gold investor is choosing to avoid contributing to any additional mining-linked environmental degradation. These investors' collective choice to only buy pre-2023 gold would be a substitute for a gold mining ban. Together, they would be acting as-if gold mining had been banned by governments.


One institution that could champion clean gold would be the London Bullion Market Association, or LBMA. The LBMA already maintains a set of standards that define London "good delivery" gold bars, including rules concerning permitted bar dimensions and purity. There are currently 8,790 tonnes of London good delivery gold, worth around $555 billion and accounting for about 5% of all gold ever mined. So the LBMA’s standards have a major influence on what sort of gold is considered legitimate for investment purposes.

The LBMA has already instituted some woke standards for good delivery bars. LBMA responsible gold guidance prohibits bars from qualifying as good delivery if they have been involved in financing conflict and the abuse of human rights. It also sets some environmental standards. For instance, the LBMA requires refiners who buy gold from artisanal miners to assist them in establishing processes to better use mercury.

How would the LBMA introduce a clean gold standard?

The LBMA could redefine its good delivery standard to be a clean standard by only allowing bars produced prior to the December 31, 2023 cutoff date to qualify. Alternatively, it could set up a second delivery standard, a "good & clean delivery standard," and anyone participating in the London gold market could choose their preferred standard.

Exchange-traded funds, say like the State Street's SPDR Gold Shares ETF, the world's largest gold ETF, would also be a natural set of institutions that could champion clean gold. Either in conjunction with an LBMA clean standard, or on it own, the SPDR Gold Shares ETF could commit to only holding gold bars produced prior to December 31, 2023.

Finally, major gold coin-producing mints like the Royal Canadian Mint and the US Mint could also apply a clean gold standard to the coins they produce.


As I mentioned earlier on, clean gold would trade at a premium to dirty gold. Likewise, a clean gold ETF would trade at a premium to a dirty gold ETF and clean gold bullion coins would trade at a premium to regular bullion coin.

The reason for a premium is that the supply of clean gold would be fixed at the amount of gold in existence prior to December 31, 2023. But the amount of dirty gold is not fixed. Dirty gold includes not only all gold mined after 2023 but all pre-2023 gold. After all, an owner of a 1995 gold bar needn't seek clean status if they don't care for that designation.

If dirty gold were to ever rise to a premium to clean gold, then arbitrageurs would convert clean gold into dirty until the premium disappeared. There are no rules prohibiting movement from the clean to dirty designation. But careful, once dirty always dirty! There is no way to do the opposite, to convert dirty gold into clean in order to reduce the clean premium. The clean gold rules and standards prevent dirty gold conversions.

How large might the premium get? If the gold investment world were to completely migrate over to clean gold, quite high. Most existing gold is currently being held for hoarding purposes. By taking the totality of this demand and refocusing it on pre-2023 gold, the price of clean gold might trade at, say, $3,000 while the price of dirty gold trades at just $300.

On the other hand, the premium would remain low if the clean gold standards are poorly managed and lack credibility.


Who would want to buy dirty gold?

Investors who are less concerned about the environment might be content to keep holding dirty gold kilo bars and 400-ounce bars. People who buy gold jewellery might not mind holding dirty gold either, since dirty gold necklaces will be cheaper than certified clean necklaces.

I suspect the main buyers of dirty gold would be manufacturers that use it for industrial purposes, like circuitry. Gold has excellent conductivity. It is also the most non-reactive of all metals, which means that unlike copper and silver it is resistant to corrosion & oxidization.

Given these advantages, manufacturers would love to use more of the yellow metal in their products. However, gold's high price prevents broader industrial usage of gold. The dominant group of buyers—hoarders & investors—keep gold's price perpetually high, thus pushing manufacturers out of the market. And so copper has become the most important metal in electronics. By diverting a large chunk of hoarding demand to a certain type of gold, clean gold, chip makers could finally get access to low-priced gold. Gold would displace copper and the overall quality of electronics products would improve.

Certain manufacturers that want to demonstrate a commitment to having sustainable supply chains (i.e. Apple?) would probably purchase clean gold, and so their products would be more expensive than those without clean gold.


What about coins?

As I suggested earlier, mints such as the US Mint and Royal Canadian Mint would produce two streams of gold coins: clean coins and regular ones. They would buy clean gold feedstock from the LBMA's certified clean gold inventories. The mints would include branding on clean coins to certify their clean status. As for their regular coins, mints would continue to buy newly mined gold from miners.

I suspect that many gold coin buyers would default to the woke alternative. Say that Jack has $10,000 to invest in gold. He can either buy 4 clean Maples for $2500 each or 40 dirty Maples for $250 per ounce. At least with the clean option Jack can feel good he's doing the right thing. Either way, he ends up with the same nominal $10,000 in metal, and it's the nominal amount of metal that most gold investors care about, not the actual quantity of ounces. 

Of course, there are gold coin buyers who like to consume their gold (say like Scrooge McDuck) and prefer to get more bulk for their dollar. They will be happy to buy the dirty stuff.


Gold laundering would be a big issue.

With clean gold trading at a premium to dirty gold, fraudsters would try to profit by converting gold mined in 2025 or 2026 into counterfeit gold bars with a 2016 or 2017 date, and then try to sneak the counterfeit bars through the LBMA's (or State Street's) verification process. These institutions would have to set up effective mechanisms for stopping counterfeit gold bars.

At the same time, the LBMA and State Street would have to find ways to ensure that they are not preventing legitimate pre-2023 bars from entering their systems. Central banks would probably account for a large proportion of pre-2023 bars. Going forward, their holdings would be a key source of clean gold.

Rogue gold coin manufacturers would buy mined gold at $250 an ounce and manufacture fake Maples or Eagles for $2500. Mints such as the Royal Canadian Mint and US Mint would have to introduce additional anti-counterfeiting measures into their manufacturing processes to guard against fake clean coins.


There are plenty of other things that can be said about clean gold, but for now that's probably enough.

In sum, if a clean gold standard was carefully implemented and became popular with investors, it would synthesize many of the same effects of an outright ban on mining. By herding the gold investment community away from the newly-mined gold market, the amount of gold mining would fall, and so would associated environmental damage.

It would also correct a major defect of the gold market. Manufacturers who actually buy gold by the gram for use in their products have always had to compete with investors/speculators who aren't beholden to the same profit and loss calculation as a business. This is just silly. Disaggregating gold into two types corrects this. Investors & speculators can continue with their bets as before by focusing on the first type of gold, and it's clean to boot. And manufacturers finally get access to cheap type 2 gold. It's win-win.

Wednesday, September 2, 2020

Different bitcoins different prices

Not all bitcoins are the same. If someone steals 100 bitcoins from a cryptocurrency exchange and tries to sell them, they'll have to price them at a discount to the market price in order to compensate the buyer for the risk of laundering them. Different bitcoins different prices.

This isn't just a bitcoin phenomenon. There are two wholesale markets for banknotes, too. The legitimate one is comprised of banks, retailers, and cash-in-transit companies like Brinks that exchange notes at par. And the illegitimate one is made up of mob lawyers, drug dealers, and note brokers exchanging dirty notes at 20 or 30 cents on the dollar. Different dollars different prices.

You can find this same fractionalization everywhere: in electronics or prescription medicine or used cars. There is a licit and illicit price in each market.

But the difference between dirty and clean prices isn't the dichotomy that interests me in this post. Could we see a two-tiered market develop for clean bitcoins? In other words, could a situation arise in which Jerry's 100% legitimate bitcoin's are worth more than Elaine's 100% legitimate bitcoins?

I'd argue that the precedent already exists in the gold market.

Last month I wrote a quick explainer on the London Bullion Market Association, or LBMA, for CoinDesk. The LBMA is a standards-setting body for the gold market. It defines what constitutes a London "good delivery" gold bar and what doesn't. These standards include physical details like purity, weight, height, and appearance. Increasingly, the LBMA's standards are being stretched to include details about sourcing. Has the miner extracted the metal in an environmentally friendly and ethical way? Are they laundering money for Mexican drug lords?

Good delivery bars can only be stored in a handful of London-based vaults. A strict paper trail is maintained to ensure that nothing gets in (or out) of this walled-garden. The moment a bar is withdrawn from a London vault, it loses it's good delivery status.

This has the effect of creating a two-tiered licit gold market, one in which London gold is worth more than non-London gold.

Consider that the world's largest buyers congregate in London to trade gold. A 400-ounce gold bar fabricated by a refiner that doesn't have the LBMA's stamp of approval can't access the incredibly liquid London market. And so it won't be worth as much as an LBMA-approved 400-ounce bar. (No one wants to buy your metal if it can't be immediately on-sold in London.)

To be granted London "good delivery" status, an unapproved bar must go through a process of being anointed. That means bringing the bar to a refiner on the LBMA's approved refiner list. The refiner vets the bar owner to check for money laundering, much like a banker would. Only then can the bar be melted down and reformed into an entirely new and approved bar. But all of these steps are costly.

As my CoinDesk article suggests, we might one day see the same sort of fractionalization emerge in the bitcoin market. A core group of exchanges and custodians would begin to define what qualifies as a "good delivery" bitcoin. Standards would mostly apply to the provenance of bitcoins. Since the history of bitcoin transactions can be easily monitored, it is relatively easy to cast aspersions on certain flows of bitcoins, perhaps because they happen to pass through suspicious addresses or are  mixed by coin tumblers. (As Izabella Kaminska suggested a while back, bitcoin has a lien problem. Tim Swanson has been writing about this for a while, for instance in A Kimberly Process for Cryptocurrency.)

Should a bitcoin be withdrawn from this "walled garden" of approved exchanges and custodians it would fall out of the Bitcoin Marketing Association's "chain of custody" and, as such, would no longer have access to core liquid markets. And so unapproved bitcoins would be forced to trade in lower quality venues with lax vetting standards, and less liquidity.

An online retailer might not want to take the risk of selling their products for unapproved bitcoins (i.e. ones that come from non-vetted personal wallets). Sure, it might be possible for the retailer to accept non-approved flows with the intention of re-depositing them into the Bitcoin Marketing Association's system in order to get the Bitcoin Marketing Association price. But there would always be the risk of an unexpected blockade or freeze of a customer's unapproved bitcoins. And so retailers would ask their customers to only spend approved bitcoins straight from their Coinbase wallets.

By the way, the sort of LBMA-driven dichotomy that exists in gold (and could one day exist in bitcoin) does not exist in banknote markets. There is no such thing as a good & expensive $20 bill and a good but cheap $20 bill. Cash, as we say in the monetary biz, is pretty much fungible.

Why do we see a two-tiered gold market but just a single-tiered banknote market?

There are probably many reasons for this, but a big difference is the sorts of people that occupy each market. The gold market is populated by investors, the most dominant of which are large institutional investors and central banks. These big players do not want the risk of having their gold being tarnished in any way. They don't want their $50 million in gold bars to end up being fake, or subject to a court dispute, or frozen by law enforcement due to money laundering concerns. That's why the LBMA standards exist; to make gold safe for big institutional buyers.

But cash is different. Warren Buffett and Ray Dalio don't occupy this particular market. The market for coins and notes is dominated by regular people. Furthermore, banknotes are primarily used in small day-to-day retail purchases, not financial speculation. This sort of activity is not conducive to the emergence of a centralized marketing association. Cash transfers are done too quickly, and in small amounts, and by folks who don't have deep enough pockets to pay for verification.

The market for banknotes is literally everywhere (each corner store in town will accept them), whereas the market for gold tends to clump up in a certain specific physical locations. This centralization makes standardization easier.

Bitcoins are more like a gold bars than a banknotes. Let's face it, it's been ten years since bitcoin appeared on the scene and no one really use bitcoin it as money (just like they don't use gold as money). The majority of bitcoin demand is a demand to hoard the stuff for price exposure, much like the yellow metal. And like gold, the market for bitcoins has coagulated around exchanges. It's not an everywhere market, not like the market for banknotes.

So to sum up, the market for bitcoins is very much like that for gold. Given that a standardized gold market has evolved, I wouldn't be surprised to see the same happen to the bitcoin market, especially if big financial institutions start arriving.

Wednesday, August 26, 2020

18 things about Tether stablecoins

Before I start my list, a bit of introduction.

Tether is a stablecoin. It happens to be the most popular stablecoin in the world.

A stablecoin is a digital IOU that is implemented on a blockchain. In Tether's case, it takes the form of a U.S. dollar-denominated IOU implemented on the Ethereum blockchain. Tether holds U.S. dollars in a traditional bank account. It issues digital blockchain-based Tethers that are convertible into those bank account dollars at a 1:1 rate. This promise is what stabilizes them. And so a user can send some Tethers to another Tether user, say as payment, and neither party need worry about bitcoin-style price disruption.

If you didn't understand any of that, think of Tether as basically PayPal, except on a decentralized database instead of a centralized one.

Thoughts, facts, questions, and interesting tidbits in no particular order:

1. According to Coin Metrics, a financial data provider, Tether is now doing around $3.3 billion per day in transfer value. It just flipped bitcoin's daily volume of $2.94 billion.

2. PayPal did $222 billion in total payment volume last quarter. That's around $2.47 billion per day. So Tether at $2.94 billion is moving more value each day along its network than PayPal is (!).

3. There is a popular theory in the cryptocurrency community that expansions in the supply of Tether are being used to manipulate the price of bitcoin. I don't subscribe to this theory. It strikes me as far-fetched, much like the theories about gold price suppression.

4. U.S. citizens and residents are prohibited from using Tether's version the U.S. dollar (with one small exception).

Tether legal disclaimer [source]

5. Does anyone know who regulates Tether? (Yes, Tether Limited is regulated by the U.S's FinCEN. But who regulates Tether International Limited? Its terms of service says that it is based in the British Virgin Islands. But a search of the BVI's Financial Services Commission doesn't indicate that Tether International Limited has been registered as a money services business.)

6. According to a report by Chainalysis, a blockchain analytics company, Tether is probably being used to evade Chinese capital controls. Chainalysis estimates that $50 million Tethers leave East Asia each day.

7. One reason Tether is popular is because it doesn't collect information about ~99% of those who deal in Tethers. It only does due diligence on the minority who want to cash-out of Tethers (i.e. withdraw Tether dollars in a bank account) or cash-in to them (i.e. deposit dollars into Tethers via a bank account). So if you are content to just accept them and then pass them on, Tether shrugs. This makes Tether stablecoins an incredibly hands-off way to interact with digital U.S. dollars. (By the way, almost all stablecoin issuers adopt the same unknown-wallet-to-uknown-wallet policy as Tether.)

8. In its recent report on "so-called" stablecoins, the so-called Financial Action Task Force hinted that stablecoins must abide by the same diligence requirements as a bank. So I doubt that Tether's "hands-off" policy can last much longer.

9. This hands-offness attracts unsavory users. I've written before about MMM BSC, a global ponzi game that uses PAX stablecoins. (PAX is a smaller stablecoin). According to Coinmetrics, Tether stablecoins on Tron (a blockchain platform) are often used for "dividend schemes." However, I have not run across a single ransomware operator that uses Tether for ransom payments. Bitcoin (and to a lesser extent Monero) still dominate the ransom market.

10. Tether freezes a lot of addresses, according to Eric Wall. More than any other stablecoin.

11. I have never used Tether. (For the sake of experimentation I have tried PAX, a smaller U.S. dollar stablecoin).

12. The collapse of global interest rates since COVID-19's arrival has helped popularize stablecoins. A Tether stablecoin yields 0%. So post-collapse they have become more competitive with dollars in a bank account. Ironically, the collapse in rates also hurts stablecoin issuers. Issuers can't make as much interest on the reserves they hold to back their stablecoins. (More here).

13. Tether was initially launched as RealCoin in July 2014. It rebranded later that year. I speculated about the emergence of Tether-like instruments in 2013. I didn't call them stablecoins. I called them stable-value cryptocoins and stable-value crypto-currency. (Forgive my self-promotion).

I believe it was Vitalik Buterin who coined the term stablecoins?

14. The popularity of Tether hints at the dominance of the U.S. dollar. No one seems to be using euro, yen, or yuan stablecoins.

15. There are currently $13 billion worth of Tethers in circulation. There are currently around $31 billion PayPal dollars in existence (PayPal refers to these balances as "Funds payable and amounts due to customers").

PayPal Q2 2012 report [link]

16. Tether can't be used in... Singapore? (Also Cuba, North Korea, Iran, Syria, Venezuela, Crimea). Anyone know why?

17. It's common knowledge that the dollar-denominated assets that Tether holds to back Tether stablecoins are questionable. Shenanigans have occurred. (I wouldn't touch them. I wouldn't want family touching them.) But people still hold Tethers and deal in them. Why? Many institutions and trading outfits use Tethers as a bridging mechanism for arbitraging the price of cryptocurrencies across various exchanges. Given that Tether is their preferred medium for this, it speaks to the poor level of due diligence in the industry. It also speaks to the network effects enjoyed by first movers. So-called sophisticated crypto traders are using dodgy Tethers rather than safer but newer stablecoins because much of the liquidity has already attached itself to Tether. 

18. A big part of the cryptocurrency trading universe is denominated in Tethers, not actual U.S. dollars. So if Tether starts to collapse, cryptocurrency prices would actually hyperinflate. (Real cryptocurrency prices wouldn't budge.)

19. Tether has co-opted the unicode currency symbol for the Mongolian tugrik, ₮.

Feel free to add your own factoids in the comments.