Tag Archives: Federal Reserve

Central Bank Digital Currency is not Cryptocurrency as Envisioned

Recently the International Monetary Fund produced a research report on Central Bank Digital Currencies, titled “Casting Light on Central Bank Digital Currency”, and available here:

https://www.imf.org/~/media/Files/Publications/SDN/2018/SDN1808.ashx

Even the title is interesting in its omission of the terms cryptocurrency and blockchain.

The basic concept they were evaluating was that of central bank controlled digital currency issued for the benefit of retail users (individuals and non-banking businesses). These would exist alongside existing fiat currencies and be intended for domestic use primarily. Their value would have to be tethered to the related fiat.

The study reached several initial conclusions:

  * CBDC could be the next milestone in the evolution of money.

  * It is a digital form of fiat money, issued by the central bank.

  * The ability to meet policy goals is one major issue.

  * The demand for CBDC depends on the attractiveness of alternatives (cash, e-money).

  * The case for adoption could vary from country to country.

  * Appropriate design and policies should help mitigate risks.

  * Cross-border usage would raise a host of questions.

A number of central banks around the world are studying CBDCs. This table from the IMF report indicates their publicly stated rationales, which include diminishing use of cash as other payment channels e.g. mobile become popular, efficiency gains for payment and settlement, and greater access for the unbanked or lightly banked to financial services.

RationalesforCBDC.jpeg

But the key point is that CBDCs are quite antithetical to Bitcoin and mined cryptocurrencies in general (we exclude in this comparison airdrops, premined, and other largely centralized, but private, forms of cryptocurrency). CBDCs are closest to the tethered cryptos, but maintained by the fiat issuing authority itself.

Cryptocurrency

CBDC

Created by miners running hashing protocols Created by central bank
Predefined monetary policy Variable monetary policy set by central bank committee
Transnational usage Domestic usage primarily
Open triple entry ledger Central bank permissioned ledger
Validation by private computer nodes Validation by central bank

There is very little in common between Bitcoin and mined cryptocurrencies in general, and hypothetical CBDCs. Most existing fiat is already digital; a small portion is cash.

The main new alternative, besides existing fiat cash, for CBDCs are private payment channels (private e-money) such as PayPal and M-Pesa in Africa. These are similar to stored value cards with prepaid fiat balances, but with mobile interfaces. Here the account balances are managed by private companies, usually with a known partner, and a user needs to trust the company holding the balance.

Both new private money channels and CBDCs threaten to disintermediate balances held in bank checking and savings accounts. So do cryptocurrencies, of course.

These balances are used as reserves for banks to issue loans, so if they were moved to a cryptocurrency or a central bank ledger they are no longer available for lending (fractional reserve banking).

A fundamental difference is that cryptocurrencies are assets whereas fiat money is debt-based, created when banks issue loans. CBDCs in their basic form are not available as reserves for bank lending.

CBDCs would in essence just be a different form of fiat, tethered to fiat, and with the same accounting unit and value.

Cryptocurrency represents a challenge to the banking system and to central banks. It seems that the IMF may be encouraging central banks to sacrifice the interests of banks in order to maintain, and even increase, their own power.

The CBDC framework, like cryptocurrency, would move deposits away from the banks. Unlike cryptocurrency, which holds balances on an open ledger, accessed by private keys, CBDC balances would be held for individuals and businesses at the central bank. This means the central banks would be able to restrict access to funds owned by individuals. One can assume they would do this during crises or under court order.

Central banks could even apply interest to CBDC deposits, possibly even with negative interest rates during times of slackened growth.

Fractional reserve banking and the economy as a whole are based on the provision of credit by commercial banks, backed only by a small percentage of reserve balances held with the central bank. If deposits move in large amounts to CBDCs or cryptocurrencies, both of which are assets in the name of the depositor, the system of credit provision in the economy will have to be significantly transformed.

Or a system that allows banks to participate and hold reserves based in CBDC would have to be developed.

CBDCs of the simplest type discussed in this IMF paper seem like a way to protect the prerogatives and increase the power of central banks, and co-opt cryptocurrency. The losers would be traditional banks because their lending power would be decreased. 

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Crypto Supercomputers: First Aggregated Ranking

Working with OrionX, we have just published the first aggregated list of cryptocurrency supercomputer mining pools, ranked by the economic value generated.

I have recorded a podcast about this list with Rich Brueckner, President, InsideHPC. You can listen here: https://insidehpc.com/2018/11/announcing-new-cryptosuper500-list/

A related slide presentation with a complete set of tables is available here: https://www.slideshare.net/mobile/insideHPC/announcing-the-new-cryptosuper500-list

The list is inspired by the Top500 supercomputer list that is released twice a year at the major supercomputer trade shows and conferences held each June in Germany (ISC) and each November in the US (SC).

That list is based on the performance of Linpack, a floating point intensive benchmark that solves a very large system of linear equations.

Supercomputers are based in a single location. They are very large clusters of general purpose CPU-based nodes, often augmented with GPUs, and frequently employing specialized interconnects.

Cryptocurrency mining is embarrassingly parallel. Many nodes can be racing simultaneously to solve the same cryptographic puzzle for the block reward. Mining pools may be centralized, but more likely they are decentralized to various degrees. Mining pools often have many contributors located in many countries, so even the concept of a host nation associated with the pool is fuzzy.

And the hardware employed is typically specialized ASICs or FPGAs, as well as the GPUs frequently found in traditional supercomputing simulation of science and engineering problems.

With mined cryptocurrencies, we must take a different approach and look at economic value.

For this initial list we looked at the top dozen cryptocurrencies by money supply, which is usually called market cap, and that is simply the number of coins created by a certain date, and the coin price on that date.

Of the top dozen, just half of those or 6 coins, are mined: Bitcoin, Ethereum, Litecoin, Bitcoin Cash, Monero, and Dash. Other coins are generated by premining, airdrops, or consensus algorithms that avoid mining. As a result they are centralized to varying degrees and presumably less secure.

We chose October 30, 2018 to gather prices, supply, block production, and other statistics. This was prior to the Bitcoin Cash fork into two coins, so only the initial coin is considered for the first list.

Among mined coins, a range of mining consensus algorithms are used. Differing cryptographic hashing protocols may be used. Time windows and block rewards vary. Hashing rates have a tremendous range across the set of coins, from MHash/s with Monero to ExaHash/s with Bitcoin.

Thus we cannot compare across coins based on hashing rates and block rewards per se. Instead we look at economic value. For a given coin, one can rank order by blocks produced.

We ask what is the daily value of a certain coin produced by a given mining pool? How many coins at what price? We took daily averages for the prior week, and where we had better data, for the higher value coins, we used the prior month average daily rate instead. We then extrapolated the annualized value based on the average daily rate.

We compiled statistics for the 30 largest pools on a per coin basis. We also aggregated results for pool operators that produced more than one type of coin.

The first table is a table of average daily and estimated annualized production in millions of USD for the top coins. (With the very recent price slump following the Bitcoin Cash fork, the numbers would now be lower by about 1/4 if prices do not recover for a while). About $4 billion of Bitcoin is mined (minted) per year, and around $1 billion of Ethereum. Litecoin, Bitcoin Cash, and Monero collectively contribute around  $400 million (Dash did not make the cut).

Table 1: Top 5 Mined Coins

Coin

# Top Pools

Daily M$

Annualized M$

Bitcoin

17

11.31

4,129

Ethereum

5

2.77

1,010

Litecoin

5

0.64

234

Bitcoin Cash

2

0.38

140

Monero

1

0.10

37

Totals

30

15.21

5,550

Next is a table of the top half dozen pool operators, combining different coin types if they are mining more than one of the top coins. Three are in China, one in Hong Kong, and two in the U.S.

Table 2: Top Pool Operators (aggregated across top coins)

Top 6 Operators (across coins)

# Top Pools

Daily M$

Annualized M$

Country

BTC.com

1

1.901 694

China

Antpool

2

1.747

638

Hong Kong

F2Pool

3

1.585

579

China

ViaBTC

2

1.329 485

USA

BTC.Top

2

1.222

446

China

Slushpool

1

1.215

444

USA

Total

11

9.00

3,285

Bitcoin has its own decentralized, open source, version of a central bank and a clearing house system embedded in the Nakamoto consensus. Bitcoin is presently an emerging economy with over $1 trillion in annual transactions (GDP, gross decentralized product), supported by a very economical and efficient seigniorage of about $4 billion in mining block rewards, or less than 0.4%.

The indicated inflation rate at present is about 4% in supply, but in about 18 months the block reward will have its third halving. This will decrease the block reward to 6.25 Bitcoin from its current 12.5 coins. The inflation rate will drop below 2%.

This is not like your Federal Reserve that issues forecasts and goals. Recently the Fed has been pushing to increase inflation to 2%, and happy that they achieved the increase.

With Bitcoin this decrease in inflation will definitely happen, come hell or high water; it’s math, it’s baked in to the Nakamoto consensus. Relative to the US dollar and fiat currencies in general, Bitcoin will be disinflationary going forward.

The next list will be announced in June, 2019, and we can begin tracking developments in the cryptocurrency space over time.

Money 3.0: Cryptocurrencies

Recently, Jamie Dimon called Bitcoin a ‘fraud’. This coming from the CEO of JP Morgan, the bank that has been fined more than any other, save one, for financial crimes since the Great Recession of 2008. His statement reeks of hypocrisy since JPM is a member of the Enterprise Ethereum Alliance, his traders have been trading Bitcoin related ETN securities, and his firm has applied for patents using blockchain technology.

By the way the Enterprise Ethereum Alliance has well over 100 members including Microsoft and Mastercard. Serious players understand that cryptocurrencies are a big deal. The market cap of all cryptocurrencies is currently in the neighborhood of $150 billion, around 2/3 the market cap of Visa. And this has all happened in only eight years’ time.

So why do I say cryptocurrencies like Bitcoin and Ethereum are Money 3.0? And what are Money 1.0 and Money 2.0?

First what is Money? It is amazing how few people can give a definition, other than pulling out a bill from their wallet, or referring to the numbers in their checking account statement. And how does money get created in our modern economy? Very few actually understand the process. Most people say government creates it. Governments can, and do, but most money is not created directly by the government. What the government does is validate money, they define a single type of money for their nation. They print currency, but most money today is digital, residing in bank balance sheets, and most money creation occurs as banks issue new loans.

Throughout history there have been many forms of money, but two forms have dominated. The first form, Money 1.0, was the dominant form for millennia. It was coins made of precious metals, in particular gold and silver, and ‘base’ metals such as copper and bronze. According to the St. Louis Federal Reserve, money must have six properties: durability, portability, divisibility, uniformity, limited supply,  and acceptability.

They sound a bit like goldbugs when they write it that way. These are all useful attributes of the thing that is used for money, be it gold or paper. But it doesn’t quite get to the most essential three properties of money. It must serve as:

1. A unit of account

2. A store of value, and

3. A medium of exchange

Money is whatever can be used as a socially agreed upon unit of account and medium of exchange. It also should retain its value, not depreciate quickly, so that it can be used next month and next year as well. Notice I say socially. Societies agree upon what is used as money, and nation states in recent centuries have taken the lead in that definition. In order to be conveniently exchanged, then the six properties above come into play. Durability and limited supply allow the retention of value. Portability and divisibility make it easier to exchange. Uniformity makes it a useful unit of account, as does acceptability.

We all have to more or less agree on what the accounting unit is. That is actually the starting point for money, agreeing on the standard measure. The government can decree the accounting unit, and can demand taxes be paid in that unit. That is government fiat, and can apply for either coined money of precious or base metals (Money 1.0) or paper money (Money 2.0).


Roman gold Solidus coin. York Museums Trust. CC-BY-SA 4.0

The US dollar was originally defined to contain a certain weight of silver, and aligned to the Spanish dollar (originally Austrian  thaler) or ‘pieces of eight’ that was widely used in New World trade. The US dollar has also been defined against gold, with an official act in 1900 following nearly 3 decades of defacto gold standard following the Civil War. Of course the gold standard is now entirely gone after being discarded in two phases, under Roosevelt in 1933 and Nixon in 1971. The remnants of the bimetallic standard of the late 19th century remain in present-day dimes and quarters that used to contain silver even until 1965, retain the color, but have been entirely debased.

No nation remains on a Money 1.0 standard of precious metals, all have moved to Money 2.0, fiat paper money. If they did they would lose their gold, and they prefer to melt it into bars and store it in central bank vaults as a reserve. So as Warren Buffet says, we dig it up in mines, melt it down into bars, and bury it again in vaults.

With paper money, there must be fiat, as nobody wants pieces of paper that have no value. The days of gold certificates and silver certificates as circulating currency are long gone, although I remember silver certificate dollar bills from my youth. The value comes from the legal tender requirements that the paper be accepted by businesses, be used for taxes, and from the government’s printing process to make counterfeiting difficult plus the government’s overall management of the money supply (usually through interest rate policies) to limit loss of value due to inflation.

The technology of high quality paper engraving, augmented with serial numbers, threads and holograms, and the technology of central banks, allow fiat money to work. The vast majority of nations have central banks to lend to the commercial banks in times of crisis and to manage the banking system and money supply indirectly.

So those are Money 1.0 and Money 2.0. In summary:

Money 1.0 – Public or private, asset-based, intrinsic value, coins or bars of precious metal

Bureau of Engraving and Printing, U.S. Dept. of Treasury

Money 2.0 – Public and sovereign, debt-based, no intrinsic value, paper and digital.

Most Money 2.0 is digital, with the circulating currency representing a small percentage. Money mostly comes into circulation not through the printing press, but when banks make new loans. If a bank creates an auto loan, it credits the checking account of its customer digitally. Banks are allowed to make new loans within the limits of their central bank authority determined reserves and equity capital requirements.

Note as an aside that Money 1.0 and Money 2.0 can coexist. We mostly have Money 2.0 in the United States, but there was a small amount of silver coinage money circulating alongside up until the 1960s. This is an important principle, since we are beginning to see the coexistence of Money 2.0 and Money 3.0.

What about Money 3.0? Cryptocurrencies are purely digital, whereas Money 2.0, fiat and debt-based money, is mostly digital.

Why Money 3.0? Technologists and advocates of non-fiat money were concerned about the risks of centralized monetary systems dominated by central banks and by money center banks engaged in fraudulent activities around mortgages and other lending with derivatives including CDOs, CDSs and more. The corrupt system lead to the Great Recession of 2008. Everyone in the society suffered, but the banks were bailed out by enormous government loans.

There were more than 50 attempts at creating a digital crypotcurrency prior to the year 2000. None succeeded. One was gold-based and known as e-gold. It was shut down in 2009 by the US government, because it ran afoul of stricter money laundering regulations. It was also subject to repeated thefts of accounts from Russian and other criminal hackers.

A successful non-fiat cryptocurrency must provide a single secure ledger of entries to protect against counterfeiting and double spending. It must have a method of commiting a single instance of a transaction to this secure ledger that is publicly shared, and is known as the blockchain. It must have a built-in automated “central banking” function that determines the money supply.

Satoshi Nakamoto’s brilliance was to combine a number of existing ideas around public/private key cryptography, distributed ledgers, and a mining algorithm with “proof of work” that rewarded miners for solving a difficult cryptographic hash problem. Transactions are signed with private keys. All bitcoins reside in the distributed ledger. The owner has a wallet with the key that allows them to transfer bitcoin in arbitrary amounts to someone else and thus confers ownership.

The supply is limited with a maximum at 21 million bitcoins that will not be reached until well into the 22nd century. New bitcoin comes into existence in conjunction with the mining of blocks of transactions. The successful miner is rewarded with an allocation of new coins, presently 12.5 coins per block of approximately 2000 transactions. So here we have the central banking function and a digital minting or mining process for the ‘coins’ which are really just ledger entries.

We describe this Nakamoto consensus algorithm and the mining process in more detail at orionx.net/podcast.

Now we have not just Bitcoin, but Ethereum, Bitcoin Cash (which is a recent fork of Bitcoin with large block size), Ripple, Litecoin and hundreds more cryptocurrencies. We have new coins being created rapidly in conjunction with new applications and ICOs – initial coin offerings.

The largest of these, those with market caps in the billions of dollars, meet the three requirements for money. Unit of account. Medium of Exchange. Store of value. Their limitations at present relate to the latter two attributes. They are accepted as medium of exchange in some environments, but relatively few compared to existing fiat currencies. And as a result of that their value is less stable and determined more by investment and speculative demand. Their ultimate value will be determined by the cryptocurrency economy as uses cases, applications, and acceptance grow.

They are child currencies, developing and growing, but far from the maturity of an existing national fiat currency. The value should continue to grow for the long term, however since transaction volumes are increasing very rapidly.

So now we have in the world:

Money 3.0 – Private and globally distributed, asset-based, digital only.

Money 3.0 holds much promise. It can remove a lot of cost and friction from the financial system. Trying sending a check or ACH transfer to your sister and having the transaction complete on the weekend. Send her some bitcoin? She will get it even on Sunday at 3 am around an hour or so after you send it. Bitcoin is 24 by 7 by 365. And with very limited fees within the Bitcoin economy. Most of the cost is in moving Bitcoin to fiat or vice versa.

It is not based on debt, so does not have the instability of debt or counterparty risk. The only real risk is security, which holds as well for your banking balances. The other risk is to the value as governments and politicians feel threatened. But at the end of the day, they can only regulate it, but not eliminate it. The technology is too widely available to anyone.

Money 3.0 is not poised to replace Money 2.0 anytime soon, although in a number of ways it is superior. They will coexist. At some point a small country will convert their currency to Money 3.0, by building a blockchain-based peso or some such. A number of central banks, large and small, are already studying this issue.

Many have talked about global currencies in the past. The US dollar has global impact for trade and the price of key commodities, but you have to exchange it when you cross borders. The Euro has been a boon for commerce, trade, and travel in many countries within Europe. Gold historically had a global role but was difficult to move and verify as to weight and purity.

Bitcoin has no weight and purity issues. It transcends borders. It, Ether, and the other cryptocurrencies are indeed the first global currencies.

Inching closer to a US recession, while Yellen is eager to hike

Today we got the Minutes from the December 15-16 FOMC meeting where the Fed hiked interest rates.  That in itself is not terribly interesting and there is not much news in the Minutes to shock the markets. Nonetheless it is another day of tightening of US monetary conditions – stronger dollar, lower inflation expectations, lower […]

http://marketmonetarist.com/2016/01/06/inching-closer-to-a-us-recession-while-yellen-is-eager-to-hike/

The Citadel Is Breached: Congress Taps the Fed for Infrastructure Funding

In a landmark infrastructure bill passed in December, Congress finally penetrated the Fed’s “independence” by tapping its reserves and bank dividends for infrastructure funding. The bill was a start. But some experts, including Congressional candidate Tim Canova, say Congress should go further and authorize funds to be issued for infrastructure directly. For at least a […]

http://ellenbrown.com/2016/01/16/the-citadel-is-breached-congress-taps-the-fed-for-infrastructure-funding/

Inching closer to a US recession, while Yellen is eager to hike

Today we got the Minutes from the December 15-16 FOMC meeting where the Fed hiked interest rates.  That in itself is not terribly interesting and there is not much news in the Minutes to shock the markets. Nonetheless it is another day of tightening of US monetary conditions – stronger dollar, lower inflation expectations, lower […]

http://marketmonetarist.com/2016/01/06/inching-closer-to-a-us-recession-while-yellen-is-eager-to-hike/

Yellen is transforming the US economy into her favourite textbook model

When you read the standard macroeconomic textbook you will be introduced to different macroeconomic models and the characteristics of these models are often described as keynesian and classical/monetarist. In the textbook version it is said that keynesians believe that prices and wages are rigid, while monetarist/classical economist believe wages and prices are fully flexible. This […]

http://marketmonetarist.com/2015/09/20/yellen-is-transforming-the-us-economy-into-her-favourite-textbook-model/